ANNUAL REPORT
2018
March 29, 2019
Dear Fellow Shareholders:
Since our founding more than 40 years ago, we have sought to build a business that supports sustainable
growth over the long-term. We started from humble roots with an approximate 120-acre office park on
wooded land overlooking downtown Raleigh. In 1994, we closed our initial public offering with a market
capitalization of approximately $250 million and began trading on the New York Stock Exchange. We, like
many freshly birthed REITs, immediately pursued substantive and accretive growth to provide both liquidity
in the stock and diversity in the portfolio. In four short years, and through ten large entity-to-entity
transactions, we dramatically grew the scale and geographic footprint of the company. In 2005, we launched
a Strategic Plan focusing on four core tenets – people, portfolio, balance sheet and communications –
designed to maximize long-term shareholder value in a very cadenced manner. Since then, we have
consummated well over $6 billion of capital recycling and new developments, and, as of this writing,
delivered a total return of approximately 240% to our shareholders. We continue to adhere to our Strategic
Plan and relentlessly seek to be good stewards of our shareholders’ capital. During 2018, we built upon our
past success by laying the ground work for future growth. We accomplished this through several conduits
including our operating performance, investment activities, balance sheet initiatives and environmental,
social and governance (ESG) programs.
Today, Highwoods owns and manages over 30 million square feet of office space, heavily anchored in the
BBDs (best business districts) of Atlanta, Greensboro, Memphis, Nashville, Orlando, Pittsburgh, Raleigh,
Richmond and Tampa. Atop our high-quality portfolio, we maintain a conservative and flexible balance sheet
with ample liquidity and a carefully managed maturity ladder. Our conservative nature allowed us to be one
of the very few REITs to sustain its dividend during the global financial crisis, and we have since raised it a
cumulative 11.8% since the end of 2016 with our third annual increase at the start of 2019.
Lastly, I add my admiration and gratitude to several groups of people. First, to you, our shareholders. We
greatly appreciate the investment you have made in Highwoods. As stated above, we strive to be the best
stewards of your money. We operate our properties to be best of class while tenaciously maximizing the
benefits and efficiencies of every spend. We hold our development to very high standards and only partner
with architects, engineers and general contractors who share that same level of commitment. Second, to our
board of directors. Your level of effort to stay apprised of our business happenings, the industry and business
environment is highly regarded and appreciated. Thank you for your ongoing sage advice, constructive
feedback and visioning. Third, to my coworkers. I firmly believe my fellow co-workers are some of the best
and most dedicated and caring people in the business. They are true professionals who are endlessly
attentive to customer service and product enhancement. They are diligent in their work and their devotion
and loyalty define our brand.
A Review of 2018
During 2018, we continued to put in place building blocks for sustainable growth. We achieved 1.8% FFO per
share growth and increased our annual dividend 5.1%, followed by a 2.7% increase in early 2019. Our
dividend is now 11.8% higher than it was at the end of 2016, which is atop the $0.80 per share special
dividend declared in late 2016. The volume of work accomplished in 2018 didn’t show up in our share price
performance as our total return was a disappointing -20.8%, modestly below the office REIT sector at -17.7%.
This is our first year of negative shareholder returns since 2011. As stated above, we manage our business for
the long-term, and we firmly believe the work we accomplished during 2018 adds to the building blocks of
future growth.
We leased 3.8 million square feet of second generation office leases with robust GAAP rent spreads of
+19.2%. In addition to strong rent growth, this volume of leasing substantially de-risked our future lease
expiration schedule. We also signed 1.0 million square feet of first generation leases. Our same property
growth was lower than the recent past at 0.7% (compared to three-year annual average of 5.3% for 2015-17),
driven by lower average occupancy from some large, known customer move-outs. However, we expect
occupancy, and thus organic growth, to improve going-forward given the groundwork set in place during
2018.
Our development program continues to be a large driver of growth for our Company. We announced the
$285 million, 553,000 square foot build-to-suit for Asurion’s headquarters in Nashville’s CBD. We’re
Asurion Headquarters
Nashville
extremely excited about the scale and unique
design of this large project and that Asurion, a
leader in technology solutions services, will
become a Highwoods customer. We are flattered
and humbled to have won this highly sought-
after book of business and are thrilled with a “just
in time” land acquisition to accommodate our
customer’s need. When acquiring the site for the
Asurion build-to-suit, we were also able to add a
significant land parcel to our Nashville CBD
portfolio where we can develop two additional
urban office towers. After having delivered over
1.5 million square feet of development that was
over 95% leased at delivery in 2017 and 2018,
representing an investment of $479M, our development pipeline at year-end 2018 stood at 1.8 million square
feet, 93% pre-leased and represents an expected total investment of $691M. The projects in our pipeline will
deliver over the next three years and further strengthen our cash flow.
Portfolio improvement is a core aspect of our Strategic Plan. To achieve improvement, the process must
include a continuous evaluation of our current portfolio, and as we add new properties via our development
and acquisition efforts, we must also prune from the bottom as we go. In addition, it is our mission to sell
assets when we believe they are becoming non-core due to a shift in sub-market energy and desirability.
Therefore, since 2005, we’ve sold $2.7 billion of properties and that includes the sale of $85 million of non-
core properties during 2018.
From an acquisition perspective, despite having underwritten well over $2 billion of properties, we did not
close on any building acquisitions during 2018. This wasn’t for lack of trying. Rather, the properties we
evaluated did not meet our standards of building quality, weren’t in a BBD location, and/or couldn’t be
acquired at returns we believe would be acceptable to our shareholders. As you know, value creation
through acquisitions plays a meaningful role in our investment strategy. However, we’re willing to be patient
as long as pricing remains out of sync with the risk profile.
Even with no acquisitions, we announced capital recycling activities (including development) of $745 million
during the past two years, or approximately 10% of our enterprise value. This volume of work will improve
the quality of our portfolio and rent roll and will drive a meaningful increase in cash flow in 2019 and beyond.
We’re pleased to have been able to steadily deliver solid earnings and cash flow growth while simultaneously
de-risking the Company through an improved portfolio and stronger balance sheet throughout the past 14
years.
Our balance sheet has never been stronger. Our ratios are among the strongest in the office REIT sector and
we’re below the mid-point of our stated comfort ranges of 35-40% leverage and 4.5-to-5.5x debt-to-
EBITDAre. Our strong balance sheet metrics, with 96.3% of our NOI unencumbered, a well laddered debt
maturity schedule and no meaningful maturities until 2021, give us substantial flexibility to fund our
development pipeline and pursue other investment opportunities without meaningfully altering our risk
profile.
The Outlook for 2019
Property fundamentals across our portfolio and region remain strong. We benefit from strong demographic
trends in our markets, such as population and job growth above the national average, as well as more limited
supply of new office properties during this cycle. At the end of 2018, there was approximately 2.5% of
existing office stock under construction across our nine markets, well below the prior peak of 3.2%. The
steady demand and limited supply response have driven market-wide vacancy across our markets to an
attractive 11% at the end of 2018. In comparison, our portfolio was nearly 92% occupied at the end of 2018.
The healthy fundamental backdrop has enabled us to increase net effective rents. Given limited risk from
speculative supply, healthy demand trends and attractive overall market dynamics for the Southeast, we
expect fundamentals in our business to remain strong.
Almost 70% of our net operating income (NOI) is from Atlanta, Nashville, Raleigh and Tampa. These
particularly high-growth markets have excellent long-term prospects and have been major drivers of long-
term value creation for us. Further, all of our current development pipeline is sourced in these markets, and
the majority of our future development
potential, via our land bank, is located in these
markets. We expect these markets to continue
to post strong fundamentals over the long-term
while our high-quality portfolio in BBD locations
should outpace market-wide growth.
While rent growth has been strong in our top
four markets, we’re also experiencing strong
fundamentals in our BBD locations in our other
markets. There is very limited speculative new
supply in the urban cores of Pittsburgh and
Orlando, where we enjoy strong market share
Mars Petcare Headquarters
Nashville
and high occupancy. Similarly, Memphis, Richmond and Greensboro have low levels of new supply and our
footprint in the strongest locations is driving steady performance. These five markets comprise about 30% of
our annualized NOI and while rent spikes are typically more muted than in our high-growth markets, the
high cash flow and historically low volatility across market cycles provides good ballast and diversification.
Overall, we believe our mix of markets provides us significant upside while providing an attractive level of
diversity to limit downside risk.
As mentioned above, in 2018, we purchased nearly nine acres of development land in two separate tracts in
downtown Nashville. The first tract, at 5.4 acres, was our “just in time” land buy as it has already been put
into our development pipeline for the Asurion HQ project. This $285 million, 553,000 square foot, 98.3% pre-
leased development is scheduled to deliver in late 2021. The remaining tract of approximately 3.6 acres can
support up to 1.2 million square feet of additional office in two separate towers. We are excited about the
potential for this future development site and our expanding presence in downtown Nashville.
We have a core land bank of approximately 180 acres that can support approximately $1.9 billion of future
development. Our land bank is approximately $135 million, or less than 2% of enterprise value. As we place
land in-service, we closely monitor our inventory to ensure we properly position ourselves to be successful in
development pursuits across our markets, all while staying mindful of the overall size of our inventory. Our
expectation is we’ll replenish our land inventory as we monetize our existing land – primarily via
development starts.
We pay careful attention to the amount of risk we carry in our development pipeline. Yet, given our high
level of pre-leasing (currently 93% on a dollar-weighted basis) and open book cost structure on many
projects, we feel we have been very prudent investing shareholder capital.
We believe a strong balance sheet is the foundation for enabling us to pursue growth opportunities,
maintain and improve our portfolio, sustain confidence in our dividend, and retain and attract talented and
devoted people. We expect no deviations from our commitment to a conservative balance sheet strategy.
In general, our long-term strategy has been to fund the business on a leverage-neutral basis. Historically, this
has included issuance of equity via our ATM (at-the-market) program, which has been cost effective and
allowed us to match proceeds from equity issuances with capital needs from our development program, and,
to a lesser extent, acquisitions. However, over the past two years, we’ve been able to maintain our sector-
leading balance sheet metrics without issuing any equity. Even with $285 million of development
announcements and continued spending on the other sizable projects in our development pipeline, we
ended 2018 with a debt-to-EBITDAre ratio of 4.75x and leverage of 35.5%. This is what we mean by the
importance of maintaining a flexible and conservative balance sheet, and we’re well positioned to fund the
remainder of our $691 million development pipeline, plus pursue additional investment opportunities without
the prerequisite of issuing additional equity, while maintaining a long-term debt-to-EBITDAre ratio within our
stated comfort zone of 4.5-to-5.5x.
Our Sustainability Initiative
We are firmly committed to minimizing the environmental impact from our portfolio. Below is an excerpt
from our Sustainability Report, which highlights our view of sustainability. I encourage all of our shareholders
to read our full report, which can be found on our website.
Our sustainability journey began decades ago with the hiring of engineers
dedicated to the study of our utility consumption and our being on the
forefront of deploying microprocessors to closely monitor energy
consumption. As technology advanced, we subsequently migrated to
monitoring energy performance via ENERGY STAR Portfolio Manager.
More recently, our dedicated Sustainability Team (mostly comprised of in-
house engineers) has integrated even more sophisticated sustainability
strategies into various aspects of our business. By partnering with our
architects, engineers, customers, coworkers, local utilities and vendors, we
continue to push the envelope on green building design, enhanced
technologies and operational best practices to further refine our
development and management of healthy and productive workplaces.
Through our vast efforts and capital investments to routinely
“Highwoodtize” our properties, it is embedded in standard procedures to
integrate our corporate sustainability standards into any re-design and
capital renovations.
Going forward, our Sustainability Team, fully supported by the Senior
Leadership Team and our Board of Directors, will follow its full-time charge
to provide business environments supportive of best practices in energy
efficiency and sustainability. We will continually improve our customer
experience by providing healthy and productive workspaces through new
technologies, opportunities to further engage our customers and
coworkers and new measures to improve our resiliency amid changing
market and environmental conditions. Above all, we will continue to be
good stewards of our environment, strengthen and enrich the communities
where we live, work, and serve and adhere to the old mantra of leaving the
campsite better than we found it.
Looking Forward
We enter 2019 looking forward to further fortifying the foundation of growth that will benefit our Company
for years to come. First, we have renewed or re-let many of the large scheduled expirations for 2019 and
2020, which will allow us to focus on the remaining expirations and fill the few pockets of vacancy in the
MetLife Global Technology Campus
Raleigh
portfolio. Second, we delivered $85 million of
99.6% leased properties in 2018 and have $161
million of 100% pre-leased properties scheduled
to deliver in 2019. These projects will drive
meaningful cash flow in 2019 and 2020. Third, our
$691 million development pipeline is 93% pre-
leased and will provide additional growth
through 2022. And finally, we recently issued a
$350 million, 10-year bond at an effective interest
rate of 4.38%, which leaves us with no debt
maturities until the middle of 2021. We have ample flexibility with our low-levered balance sheet to pursue
projects with attractive risk-adjusted returns.
In February 2019, we announced a 2.7% increase to our common dividend, which brings the total increase to
11.8% since the end of 2016. The improvement in our operating portfolio, strength of our balance sheet,
volume of development deliveries in 2017 and 2018, and scheduled deliveries during the next few years,
makes us confident that we’ll garner additional growth in our cash flows.
Our challenges include leasing vacant space while capturing renewals with attractive rent economics,
replenishing our well pre-leased development pipeline and re-filling our land bank with well-located sites,
identifying properly priced, institutional-quality acquisition opportunities and selling non-core assets.
On behalf of all of us at Highwoods, I am sincerely appreciative of your ongoing support. We are invested
right beside you and will remain focused on our practice of delivering consistent and reliable growth. Thank
you!
Respectfully,
Ed Fritsch
Chief Executive Officer
HIGHWOODS PROPERTIES, INC.
TABLE OF CONTENTS
Item No.
PART I
1. BUSINESS
1A. RISK FACTORS
1B. UNRESOLVED STAFF COMMENTS
2. PROPERTIES
3. LEGAL PROCEEDINGS
X. EXECUTIVE OFFICERS OF THE REGISTRANT
PART II
5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS
AND ISSUER PURCHASES OF EQUITY SECURITIES
6. SELECTED FINANCIAL DATA
7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
9A. CONTROLS AND PROCEDURES
9B. OTHER INFORMATION
PART III
10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
11. EXECUTIVE COMPENSATION
12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS AND DIRECTOR
INDEPENDENCE
14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
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1
EXPLANATORY NOTE
We refer to Highwoods Properties, Inc. as the “Company,” Highwoods Realty Limited Partnership as the “Operating
Partnership,” the Company’s common stock as “Common Stock” or “Common Shares,” the Company’s preferred stock as
“Preferred Stock” or “Preferred Shares,” the Operating Partnership’s common partnership interests as “Common Units” and the
Operating Partnership’s preferred partnership interests as “Preferred Units." References to “we” and “our” mean the Company
and the Operating Partnership, collectively, unless the context indicates otherwise.
The Company conducts its activities through the Operating Partnership and is its sole general partner. The partnership
agreement provides that the Operating Partnership will assume and pay when due, or reimburse the Company for payment of, all
costs and expenses relating to the ownership and operations of, or for the benefit of, the Operating Partnership. The partnership
agreement further provides that all expenses of the Company are deemed to be incurred for the benefit of the Operating Partnership.
Certain information contained herein is presented as of January 25, 2019, the latest practicable date for financial information
prior to the filing of this Annual Report.
2
PART I
ITEM 1. BUSINESS
General
Highwoods Properties, Inc., headquartered in Raleigh, is a publicly-traded real estate investment trust ("REIT"). The Company
is a fully integrated office REIT that owns, develops, acquires, leases and manages properties primarily in the best business districts
(BBDs) of Atlanta, Greensboro, Memphis, Nashville, Orlando, Pittsburgh, Raleigh, Richmond and Tampa. Our Common Stock
is traded on the New York Stock Exchange ("NYSE") under the symbol "HIW."
At December 31, 2018, the Company owned all of the Preferred Units and 103.1 million, or 97.4%, of the Common Units in
the Operating Partnership. Limited partners owned the remaining 2.7 million Common Units. Generally, the Operating Partnership
is obligated to redeem each Common Unit at the request of the holder thereof for cash equal to the value of one share of Common
Stock based on the average of the market price for the 10 trading days immediately preceding the notice date of such redemption,
provided that the Company, at its option, may elect to acquire any such Common Units presented for redemption for cash or one
share of Common Stock. The Common Units owned by the Company are not redeemable.
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, NC 27604, and our telephone number is (919) 872-4924.
Our primary business is the operation, acquisition and development of office properties, which accounted for more than 97%
of our annualized cash rental revenues as of December 31, 2018. There are no material inter-segment transactions. See Note 17
to our Consolidated Financial Statements for a summary of the rental and other revenues, net operating income and assets for each
reportable segment.
Our website is www.highwoods.com. In addition to this Annual Report, all quarterly and current reports, proxy statements,
interactive data and other information are made available, without charge, on our website as soon as reasonably practicable after
they are filed or furnished with the Securities and Exchange Commission ("SEC"). Information on our website is not considered
part of this Annual Report.
During 2018, the Company filed unqualified Section 303A certifications with the NYSE. The Company and the Operating
Partnership have also filed the CEO and CFO certifications required by Sections 302 and 906 of the Sarbanes-Oxley Act of 2002.
Business and Operating Strategy
Our Strategic Plan focuses on:
•
•
•
•
owning high-quality, differentiated office buildings in the BBDs of our core markets;
improving the operating results of our properties through concentrated leasing, asset management, cost control and
customer service efforts;
developing and acquiring office buildings in BBDs that improve the overall quality of our portfolio and generate attractive
returns over the long term for our stockholders;
disposing of properties no longer considered to be core assets primarily due to location, age, quality and/or overall strategic
fit; and
• maintaining a balance sheet with ample liquidity to meet our funding needs and growth prospects.
Local Market Leadership. We focus our real estate activities in markets where we have extensive local knowledge and own
a significant amount of assets. In each of our core markets, we maintain offices that are led by division officers with significant
real estate experience. Our real estate professionals are seasoned and have significant experience managing commercial real estate
through all aspects of multiple economic cycles. Our senior leadership team has significant experience and maintains important
relationships with market participants in each of our core markets.
Customer Service-Oriented Organization. We provide a complete line of real estate services to our customers. We believe
that our in-house leasing and asset management, development, acquisition and construction management services generally allow
3
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 operating
efficiencies achieved through our fully integrated organization and the strength of our balance sheet also provide a competitive
advantage in retaining existing customers and attracting new customers as well as setting our rental rates and pricing other services.
In addition, our relationships with our customers may lead to development projects when these customers seek new space.
Geographic Diversification. Our core portfolio consists primarily of office properties in Raleigh, Atlanta, Tampa, Nashville,
Memphis, Pittsburgh, Richmond and Orlando and office and industrial properties in Greensboro. We do not believe that our
operations are significantly dependent upon any particular geographic market.
Conservative and Flexible Balance Sheet. We are committed to maintaining a conservative and flexible balance sheet with
access to ample liquidity, multiple sources of debt and equity capital and sufficient availability under our revolving credit facility
to fund our short and long-term liquidity requirements. Our balance sheet also allows us to proactively assure our existing and
prospective customers that we are able to fund tenant improvements and maintain our properties in good condition while retaining
the flexibility to capitalize on favorable development and acquisition opportunities as they arise.
Competition
Our properties compete for customers with similar properties located in our markets primarily on the basis of location, rent,
services provided and the design, quality and condition of the facilities. We also compete with other domestic and foreign REITs,
financial institutions, pension funds, partnerships, individual investors and others when attempting to acquire, develop and operate
properties.
Sustainability
We are firmly committed to our intrinsic and societal responsibility to routinely minimize all environmental impacts resulting
from our development and operation of our properties. We are devoted to creating healthy and productive workspaces for our
customers and communities. More information regarding our sustainability strategy is available under the “Service Not Space/
Sustainability” section of our website. Information on our website is not considered part of this Annual Report.
Employees
At December 31, 2018, we had 442 full-time employees.
ITEM 1A. RISK FACTORS
An investment in our securities involves various risks. 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, results of operations, prospects and financial condition could be adversely affected.
Adverse economic conditions in our markets that negatively impact the demand for office space, such as high
unemployment, may result in lower occupancy and rental rates for our portfolio, which would adversely affect our results
of operations. Our operating results depend heavily on successfully leasing and operating the office space in our portfolio.
Economic growth and office employment levels in our core markets are important factors, among others, in predicting our future
operating results.
The key components affecting our rental and other revenues are average occupancy, rental rates, cost recovery income, new
developments placed in service, acquisitions and dispositions. 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 or negative economic growth, when new vacancies tend to outpace our ability
to lease space. In addition, the timing of changes in occupancy levels tends to lag the timing of changes in overall economic activity
and employment levels. For additional information regarding our average occupancy and rental rate trends over the past five years,
see “Item 2. Properties.” Lower rental revenues that result from lower average occupancy or lower rental rates with respect to our
same property portfolio will adversely affect our results of operations unless offset by the impact of any newly acquired or developed
properties or lower variable operating expenses, general and administrative expenses and/or interest expense.
4
We face considerable competition in the leasing market and may be unable to renew existing leases or re-let space on
terms similar to the existing leases, or we may spend significant capital in our efforts to renew and re-let space, which may
adversely affect our results of operations. In addition to seeking to increase our average occupancy by leasing current vacant
space, we also concentrate our leasing efforts on renewing existing leases. Because we compete with a number of other developers,
owners and operators of office and office-oriented, mixed-use properties, we may be unable to renew leases with our existing
customers and, if our current customers do not renew their leases, we may be unable to re-let the space to new customers. To the
extent that we are able to renew existing leases or re-let such space to new customers, heightened competition resulting from
adverse market conditions may require us to utilize rent concessions and tenant improvements to a greater extent than we anticipate
or have historically. Further, changes in space utilization by our customers due to technology, economic conditions and business
culture also affect the occupancy of our properties. As a result, customers may seek to downsize by leasing less space from us
upon any renewal.
If our competitors offer space at rental rates below current market rates or below the rental rates we currently charge our
customers, we may lose existing and potential customers, and we may be pressured to reduce our rental rates below those we
currently charge in order to retain customers upon expiration of their existing leases. Even if our customers renew their leases or
we are able to re-let the space, the terms and other costs of renewal or re-letting, including the cost of required renovations,
increased tenant improvement allowances, leasing commissions, reduced rental rates and other potential concessions, may be less
favorable than the terms of our current leases and could require significant capital expenditures. From time to time, we may also
agree to modify the terms of existing leases to incentivize customers to renew their leases. If we are unable to renew leases or re-
let space in a reasonable time, or if our rental rates decline or our tenant improvement costs, leasing commissions or other costs
increase, our financial condition and results of operations would be adversely affected.
Difficulties or delays in renewing leases with large customers or re-leasing space vacated by large customers could
materially impact our results of operations. Our 20 largest customers account for a meaningful portion of our revenues. See
“Item 2. Properties - Customers” and “Item 2. Properties - Lease Expirations.” There are no assurances that these customers, or
any of our other large customers, will renew all or any of their space upon expiration of their current leases.
Some of our leases provide customers with the right to terminate their leases early, which could have an adverse effect
on our financial condition and results of operations. Certain of our leases permit our customers to terminate their leases as to
all or a portion of the leased premises prior to their stated lease expiration dates under certain circumstances, such as providing
notice by a certain date and, in many cases, paying a termination fee. To the extent that our customers exercise early termination
rights, our results of operations will be adversely affected, and we can provide no assurances that we will be able to generate an
equivalent amount of net effective rent by leasing the vacated space to others.
Our results of operations and 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. Our operations depend on the financial stability of our customers. A default by a significant customer on its lease
payments would cause us to lose the revenue and any other amounts due under such lease. In the event of a customer default or
bankruptcy, we may experience delays in enforcing our rights as landlord and may incur substantial costs re-leasing the property.
We cannot evict a customer solely because of its bankruptcy. On the other hand, a court might authorize the customer to reject
and terminate its lease. In such case, our claim against the bankrupt customer for unpaid, future rent would be subject to a statutory
cap that might be substantially less than the remaining rent actually owed under the lease. As a result, our claim for unpaid rent
would likely not be paid in full and we may be required to write off deferred leasing costs and accrued straight-line rents receivable.
These events could adversely impact our financial condition and results of operations.
An oversupply of space in our markets often causes rental rates and occupancies to decline, making it more difficult
for us to lease space at attractive rental rates, if at all. Undeveloped land in many of the markets in which we operate is generally
more readily available and less expensive than in higher barrier-to-entry markets such as New York and San Francisco. As a result,
even during times of positive economic growth, we and/or our competitors could construct new buildings that would compete
with our existing properties. Any such oversupply could result in lower occupancy and rental rates in our portfolio, which would
have a negative impact on our results of operations.
In order to maintain and/or increase the quality of our properties and successfully compete against other properties,
we regularly must spend money to maintain, repair, renovate and improve our properties, which could negatively impact
our financial condition and results of operations. If our properties are not as attractive to customers due to physical condition
as properties owned by our competitors, we could lose customers or suffer lower rental rates. As a result, we may from time to
time make significant capital expenditures to maintain or enhance the competitiveness of our properties. There can be no assurances
that any such expenditures would result in higher occupancy or higher rental rates or deter existing customers from relocating to
properties owned by our competitors.
5
Costs of complying with governmental laws and regulations may adversely affect our results of operations. All real
property and the operations conducted on real property are subject to federal, state and local laws and regulations relating to
environmental protection and human health and safety. Some of these laws and regulations may impose joint and several liability
on customers, owners or operators for the costs to investigate or remediate contaminated properties, regardless of fault or whether
the acts causing the contamination were legal. In addition, the presence of hazardous substances, or the failure to properly remediate
these substances, may hinder our ability to sell, rent or pledge such property as collateral for future borrowings.
Compliance with new laws or regulations or stricter interpretation of existing laws may require us to incur significant
expenditures. Future laws or regulations may impose significant environmental liability. Additionally, our customers' operations,
operations in the vicinity of our properties, such as the presence of underground storage tanks, or activities of unrelated third
parties may affect our properties. In addition, there are various local, state and federal fire, health, life-safety and similar regulations
with which we may be required to comply and that may subject us to liability in the form of fines or damages for noncompliance.
Any expenditures, fines or damages we must pay would adversely affect our results of operations. Proposed legislation to address
climate change could increase utility and other costs of operating our properties.
Discovery of previously undetected environmentally hazardous conditions may adversely affect our financial condition and
results of operations. Under various federal, state and local environmental laws and regulations, a current or previous property
owner or operator may be liable for the cost to remove or remediate hazardous or toxic substances on such property. These costs
could be significant. Such laws often impose liability whether or not the owner or operator knew of, or was responsible for, the
presence of such hazardous or toxic substances. Environmental laws also may impose restrictions on the manner in which property
may be used or businesses may be operated, and these restrictions may require significant expenditures or prevent us from entering
into leases with prospective customers that may be impacted by such laws. Environmental laws provide for sanctions for
noncompliance and may be enforced by governmental agencies or private parties. Certain environmental laws and common law
principles could be used to impose liability for release of and exposure to hazardous substances, including asbestos-containing
materials. Third parties may seek recovery from real property owners or operators for personal injury or property damage associated
with exposure to released hazardous substances. The cost of defending against claims of liability, of complying with environmental
regulatory requirements, of remediating any contaminated property, or of paying personal injury claims could adversely affect our
financial condition and results of operations.
Our same property results of operations would suffer if costs of operating our properties, such as real estate taxes,
utilities, insurance, maintenance and other costs, rise faster than our ability to increase rental revenues and/or cost recovery
income. While we receive additional rent from our customers that is based on recovering a portion of operating expenses, increased
operating expenses will negatively impact our results of operations. Our revenues, including cost recovery income, are subject to
longer-term leases and may not be quickly increased sufficient to recover an increase in operating costs and expenses. Furthermore,
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 same property operating expenses would
adversely affect our results of operations unless offset by higher rental rates, higher cost recovery income, the impact of any newly
acquired or developed properties, lower general and administrative expenses and/or lower interest expense.
Recent and 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. Acquired properties 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 our standards
may exceed our original estimates. We may not have the financial resources to make suitable acquisitions or renovations on
favorable terms or at all.
Further, we face significant competition for attractive investment opportunities from an indeterminate number of other real
estate investors, including investors with significantly greater capital resources and access to capital than we have, such as domestic
and foreign corporations and financial institutions, publicly-traded and privately-held REITs, private institutional investment funds,
investment banking firms, life insurance companies and pension funds. Moreover, owners of office properties may be reluctant
to sell, resulting in fewer acquisition opportunities. As a result of such increased competition and limited opportunities, we may
be unable to acquire additional properties or the purchase price of such properties may be significantly elevated, which would
reduce our expected return from making any such acquisitions.
In addition to acquisitions, we periodically consider developing or re-developing properties. Risks associated with development
and re-development activities include:
6
•
•
•
•
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 causing a property to be unprofitable or less profitable than originally
estimated.
Development and re-development activities are also subject to risks relating to our ability to obtain, or delays in obtaining,
any necessary zoning, land-use, building, occupancy and other required governmental and utility company authorizations. Further,
we hold and expect to continue to acquire non-income producing land for future development. See "Item 2. Properties - Land Held
for Development." No assurances can be provided as to when, if ever, we will commence development projects on such land or
if any such development projects would be on favorable terms. The fixed costs of acquiring and owning development land, such
as the ongoing payment of property taxes, adversely affects our results of operations until such land is either placed in service or
sold.
Illiquidity of real estate investments and the tax effect of dispositions could significantly impede our ability to sell assets
or 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. We intend to continue to sell some of our properties in the future as part of our investment strategy
and activities. 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 close the sale of a property.
Certain of our properties have low tax bases relative to their estimated current market values, and accordingly, the sale of
such assets would generate significant taxable gains unless we sold such properties in a tax-deferred 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 or we may be unable to reinvest such proceeds at all. Any delay or limitation in using the
reinvestment proceeds to acquire additional income producing assets could adversely affect our near-term results of operations.
Additionally, in connection with tax-deferred 1031 transactions, our restricted cash balances may be commingled with other funds
being held by any such escrow agent, which subjects our balance to the credit risk of the institution. If we sell properties outright
in taxable transactions, we may elect to distribute some or all of the taxable gain to our stockholders under the requirements of
the Internal Revenue Code for REITs, which in turn could negatively affect our future results of operations and may increase our
leverage. If a transaction's gain that is intended to qualify as a Section 1031 deferral is later determined to be taxable, we may face
adverse consequences, and if the laws applicable to such transactions are amended or repealed, we may not be able to dispose of
properties on a tax-deferred basis.
Our use of joint ventures may limit our flexibility with jointly owned investments. In appropriate circumstances, we own,
develop and acquire properties in joint ventures with other persons or entities when circumstances warrant the use of these structures.
Types of joint venture investments include noncontrolling ownership interests in entities such as partnerships and limited liability
companies and tenant-in-common interests in which we own less than 100% of the undivided interests in a real estate asset. Our
participation in joint ventures is subject to the risks that:
• we could become engaged in a dispute with any of our joint venture partners that might affect our ability to develop or
operate a property;
•
•
•
•
our joint ventures are subject to debt and the refinancing of such debt may require equity capital calls;
our joint venture partners may default on their obligations necessitating that we fulfill their obligation ourselves;
our joint venture partners may have different objectives than we have regarding the appropriate timing and terms of any
renovation, sale or refinancing of properties;
our joint venture partners may be structured differently than us for tax purposes, which could create conflicts of interest;
and
7
•
our joint venture partners may have competing interests in our markets that could create conflicts of interest.
Our insurance coverage on our properties may be inadequate. We carry insurance on all of our properties, including
insurance for liability, fire, windstorms, floods, earthquakes, environmental concerns and business interruption. Insurance
companies, however, limit or exclude coverage against certain types of losses, such as losses due to terrorist acts, named windstorms,
earthquakes 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 operating income from the property or properties. If any of our properties were to experience a catastrophic
loss, it could disrupt our operations, delay revenue, result in large expenses to repair or rebuild the property and/or damage our
reputation among our customers and investors generally. Further, if any of our insurance carriers were to become insolvent, we
would be forced to replace the existing insurance coverage with another suitable carrier, and any outstanding claims would be at
risk for collection. In such an event, we cannot be certain that we would be able to replace the coverage at similar or otherwise
favorable terms. Such events could adversely affect our results of operations and financial condition.
We have obtained title insurance policies for each of our properties, typically in an amount equal to its original purchase price.
However, these policies may be for amounts less than the current or future values of our properties, particularly for land parcels
on which we subsequently construct a building. In such event, if there is a title defect relating to any of our properties, we could
lose some of the capital invested in and anticipated profits from such property.
Our use of debt could have a material adverse effect on our financial condition and results of operations. We are subject
to risks associated with debt financing, such as the sufficiency of cash flow to meet required payment obligations, ability to comply
with financial ratios and other covenants and the availability of capital to refinance existing indebtedness or fund important business
initiatives. If we breach covenants in our debt agreements, the lenders can declare a default and, if the debt is secured, can take
possession of the property securing the defaulted loan. In addition, certain of our unsecured debt agreements contain cross-default
provisions giving the unsecured lenders the right to declare a default if we are in default under more than $30.0 million with respect
to other loans in some circumstances. Unwaived defaults under our debt agreements could materially and adversely affect our
financial condition and results of operations.
Further, we obtain credit ratings from Moody's Investors Service and Standard and Poor's Rating Services based on their
evaluation of our creditworthiness. These agencies' ratings are based on a number of factors, some of which are not within our
control. In addition to factors specific to our financial strength and performance, the rating agencies also consider conditions
affecting REITs generally. We cannot assure you that our credit ratings will not be downgraded. If our credit ratings are downgraded
or other negative action is taken, we could be required, among other things, to pay additional interest and fees on outstanding
borrowings under our revolving credit facility and bank term loans.
We generally do not intend to reserve funds to retire existing 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 distributions. 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 best interest, such
as funding new development activity, making opportunistic acquisitions, repurchasing our securities or paying distributions. While
we do not currently have significant amounts of mortgage debt, we may in the future mortgage additional properties, which could
also restrict our ability to sell any such underlying assets. If we do not meet any such mortgage financing obligations, any properties
securing such indebtedness could be foreclosed on.
We depend on our revolving credit facility for working capital purposes and for the short-term funding of our development
and acquisition activity and, in certain instances, the repayment of other debt upon maturity. Our ability to borrow under the
revolving credit facility also allows us to quickly capitalize on opportunities at short-term interest rates. If our lenders default
under their obligations under the revolving credit facility or we become unable to borrow additional funds under the facility for
any reason, we would be required to seek alternative equity or debt capital, which could be more costly and adversely impact our
financial condition. If such alternative capital were unavailable, we may not be able to make new investments and could have
difficulty repaying other debt.
Increases in interest rates would increase our interest expense. At January 25, 2019, we had $766.0 million of variable
rate debt outstanding not protected by interest rate hedge contracts. We may incur additional variable rate debt in the future. If
interest rates increase, then so would the interest expense on our unhedged variable rate debt, which could adversely affect our
financial condition and results of operations. From time to time, we manage our exposure to interest rate risk with interest rate
hedge contracts that effectively fix or cap a portion of our variable rate debt. In addition, we utilize fixed rate debt at market rates.
8
If interest rates decrease, the fair market value of any existing interest rate hedge contracts or outstanding fixed-rate debt would
decline.
Our efforts to manage these exposures may not be successful. Our use of interest rate hedge contracts to manage risk associated
with interest rate volatility may expose us to additional risks, including a risk that a counterparty to a hedge contract may fail to
honor its obligations. Developing an effective interest rate risk strategy is complex and no strategy can completely insulate us
from risks associated with interest rate fluctuations. There can be no assurance that our hedging activities will have the desired
beneficial impact on our results of operations or financial condition. Termination of interest rate hedge contracts typically involves
costs, such as transaction fees or breakage costs.
Failure to comply with Federal government contractor requirements could result in substantial costs and loss of
substantial revenue. We are subject to compliance with a wide variety of complex legal requirements because we are a Federal
government contractor. These laws regulate how we conduct business, require us to administer various compliance programs and
require us to impose compliance responsibilities on some of our contractors. Our failure to comply with these laws could subject
us to fines and penalties, cause us to be in default of our leases and other contracts with the Federal government and bar us from
entering into future leases and other contracts with the Federal government.
We face risks associated with security breaches through cyber attacks, cyber intrusions or otherwise, as well as other
significant disruptions of our information technology (IT) networks and related systems. We face risks associated with
security breaches, whether through cyber attacks or cyber intrusions over the Internet, malware, computer viruses, attachments to
e-mails, persons inside our organization or persons with access to systems inside our organization, and other significant disruptions
of our IT networks and related systems. The risk of a security breach or disruption, particularly through cyber attack or cyber
intrusion, including by computer hackers, foreign governments and cyber terrorists, has generally increased as the number, intensity
and sophistication of attempted attacks and intrusions from around the world have increased. Our IT networks and related systems
are essential to the operation of our business and our ability to perform day-to-day operations (including managing our building
systems) and, in some cases, may be critical to the operations of certain of our customers. Although we make efforts to maintain
the security and integrity of these types of IT networks and related systems, and we have implemented various measures to manage
the risk of a security breach or disruption, there can be no assurance that our security efforts and measures will be effective or that
attempted security breaches or disruptions would not be successful or damaging. Even the most well protected information,
networks, systems and facilities remain potentially vulnerable because the techniques used in such attempted security breaches
evolve and generally are not recognized until launched against a target, and in some cases are designed not be detected and, in
fact, may not be detected. Accordingly, we may be unable to anticipate these techniques or to implement adequate security barriers
or other preventative measures, and thus it is impossible for us to entirely mitigate this risk.
A security breach or other significant disruption involving our IT networks and related systems could:
•
•
•
•
•
•
•
•
disrupt the proper functioning of our networks and systems and therefore our operations and/or those of certain of our
customers;
result in misstated financial reports, violations of loan covenants, missed reporting deadlines and/or missed permitting
deadlines;
result in our inability to properly monitor our compliance with the rules and regulations regarding our qualification as a
REIT;
result in the unauthorized access to, and destruction, loss, theft, misappropriation or release of, proprietary, confidential,
sensitive or otherwise valuable information of ours or others, which others could use to compete against us or which
could expose us to damage claims by third-parties for disruptive, destructive or otherwise harmful purposes and outcomes;
result in our inability to maintain the building systems relied upon by our customers for the efficient use of their leased
space;
require significant management attention and resources to remedy any damages that result;
subject us to claims for breach of contract, damages, credits, penalties or termination of leases or other agreements; or
damage our reputation among our customers and investors generally.
Any or all of the foregoing could have a material adverse effect on our results of operations, financial condition and cash flows.
9
The Company may be subject to taxation as a regular corporation if it fails to maintain its REIT status, which could
have a material adverse effect on the Company's stockholders and on the Operating Partnership. We may be subject to
adverse consequences if the Company fails to continue to qualify as a REIT for federal income tax purposes. While we intend to
operate in a manner that will allow the Company to continue to qualify as a REIT, we cannot provide any assurances that the
Company will remain qualified as such in the future, which could have particularly adverse consequences to the Company's
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. The fact that the Company holds its 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 might change the
tax laws and regulations and the courts might issue new rulings that make it more difficult, or impossible, for the Company to
remain qualified as a REIT. If the Company fails to qualify as a REIT, it would (a) not be allowed a deduction for dividends paid
to stockholders in computing its taxable income, (b) be subject to federal income tax at regular corporate rates (and state and local
taxes) and (c) unless entitled to relief under the tax laws, not be able to re-elect REIT status until the fifth calendar year after it
failed to qualify as a REIT. Additionally, the Company would no longer be required to make distributions. As a result of these
factors, the Company's failure to qualify as a REIT could impair our ability to expand our business and adversely affect the price
of our Common Stock.
Even if we remain qualified as a REIT, we may face other tax liabilities that adversely affect our financial condition
and results of operations. Even if we remain qualified for taxation as a REIT, we may be subject to certain federal, state and
local taxes on our income and assets, including taxes on any undistributed income, tax on income from some activities conducted
as a result of a foreclosure, and state or local income, property and transfer taxes. In addition, our taxable REIT subsidiary is
subject to regular corporate federal, state and local taxes. Any of these taxes would adversely affect our financial condition and
results of operations.
Complying with REIT requirements may cause us to forego otherwise attractive opportunities or liquidate otherwise
attractive investments. To remain qualified as a REIT for federal income tax purposes, we must continually satisfy tests concerning,
among other things, the sources of our income, the nature and diversification of our assets, the amounts we distribute to our
stockholders and the ownership of our capital stock. In order to meet these tests, we may be required to forego investments we
might otherwise make. Thus, compliance with the REIT requirements may hinder our performance.
In particular, we must ensure that at the end of each calendar quarter, at least 75% of the value of our assets consists of cash,
cash items, government securities and qualified real estate assets. The remainder of our investment in securities (other than
government securities, securities of taxable REIT subsidiaries and qualified real estate assets) generally cannot include more than
10% of the outstanding voting securities of any one issuer or more than 10% of the total value of the outstanding securities of any
one issuer. In addition, in general, no more than 5% of the value of our assets (other than government securities, securities of
taxable REIT subsidiaries and qualified real estate assets) can consist of the securities of any one issuer, and no more than 25%
of the value of our total assets can be represented by the securities of one or more taxable REIT subsidiaries. If we fail to comply
with these requirements at the end of any calendar quarter, we must correct the failure within 30 days after the end of the calendar
quarter or qualify for certain statutory relief provisions to avoid losing our REIT qualification and suffering adverse tax
consequences. As a result, we may be required to liquidate otherwise attractive investments, which could adversely affect our
financial condition and results of operations.
The prohibited transactions tax may limit our ability to sell properties. A REIT's net income from prohibited transactions
is subject to a 100% tax. In general, prohibited transactions are sales or other dispositions of property held primarily for sale to
customers in the ordinary course of business. We may be subject to the prohibited transaction tax equal to 100% of net gain upon
a disposition of real property. Although a safe harbor to the characterization of the sale of real property by a REIT as a prohibited
transaction is available, we cannot assure you that we can in all cases comply with the safe harbor or that we will avoid owning
property that may be characterized as held primarily for sale to customers in the ordinary course of business. Consequently, we
may choose not to engage in certain sales of our properties or may conduct such sales through our taxable REIT subsidiary, which
would be subject to federal and state income taxation.
Dividends payable by REITs do not qualify for the reduced tax rates available for some dividends. Dividends payable
by REITs to U.S. stockholders are taxed at a maximum individual rate of 33.4% (including the 3.8% net investment income tax
and after factoring in a 20% deduction for pass-through income). The more favorable rates applicable to regular corporate qualified
dividends could cause investors who are taxed at individual rates to perceive investments in REITs to be relatively less attractive
than investments in the stocks of non-REIT corporations that pay dividends, which could adversely affect the value of the shares
of REITs, including our stock.
10
We face possible tax audits. Because we are organized and qualify as a REIT, we are generally not subject to federal income
taxes. We are, however, subject to federal, state and local taxes in certain instances. In the normal course of business, certain
entities through which we own real estate have undergone tax audits. Collectively, tax deficiency notices received to date from
the jurisdictions conducting previous audits have not been material. However, there can be no assurance that future audits will not
occur with increased frequency or that the ultimate result of such audits will not have a material adverse effect on our results of
operations.
The price of our Common Stock is volatile and may decline. A number of factors may adversely influence the public market
price of our Common Stock. These factors include:
•
•
•
•
•
•
•
•
•
the level of institutional interest in us;
the perceived attractiveness of investment in us, in comparison to other REITs;
the attractiveness of securities of REITs in comparison to other asset classes;
our financial condition and performance;
the market's perception of our growth potential and potential future cash dividends;
government action or regulation, including changes in tax laws;
increases in market interest rates, which may lead investors to expect a higher annual yield from our distributions in
relation to the price of our Common Stock;
changes in our credit ratings;
the issuance of additional shares of Common Stock, or the perception that such issuances might occur, including under
our equity distribution agreements; and
•
any negative change in the level or stability of our dividend.
Tax elections regarding distributions may impact the future liquidity of the Company or our stockholders. Under certain
circumstances, we may consider making a tax election to treat future distributions to stockholders as distributions in the current
year. This election, which is provided for in the Internal Revenue Code, may allow us to avoid increasing our dividends or paying
additional income taxes in the current year. However, this could result in a constraint on our ability to decrease our dividends in
future years without creating risk of either violating the REIT distribution requirements or generating additional income tax liability.
Tax legislative or regulatory action could adversely affect us or our stockholders. In recent years, numerous legislative,
judicial and administrative changes have been made to the U.S. federal income tax laws applicable to investments similar to an
investment in our Common Stock. Additional changes to tax laws are likely to continue in the future, and we cannot assure you
that any such changes will not adversely affect the taxation of us or our stockholders. Any such changes could have an adverse
effect on an investment in our Common Stock, on the market value of our properties or the attractiveness of securities of REITs
generally in comparison to other asset classes.
We cannot assure you that we will continue to pay dividends at historical rates. We generally expect to use cash flows
from operating activities to fund dividends. For information regarding our dividend payment history as well as a discussion of the
factors that influence the decisions of the Company's Board of Directors regarding dividends and distributions, see “Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources -
Dividends and Distributions.” Changes in our future dividend payout level could have a material effect on the market price of our
Common Stock.
Cash distributions reduce the amount of cash that would otherwise be available for other business purposes, including
funding debt maturities, reducing debt or future growth initiatives. For the Company to maintain its qualification as a REIT,
it must annually distribute to its stockholders at least 90% of REIT taxable income, excluding net capital gains. In addition, although
capital gains are not required to be distributed to maintain REIT status, taxable capital gains, if any, that are generated as part of
our capital recycling program are subject to federal and state income tax unless such gains are distributed to our stockholders.
Cash distributions made to stockholders to maintain REIT status or to distribute otherwise taxable capital gains limit our ability
to accumulate capital for other business purposes, including funding debt maturities, reducing debt or growth initiatives.
11
Further issuances of equity securities may adversely affect the market price of our Common Stock and may be dilutive
to current stockholders. The sales of a substantial number of Common Shares, or the perception that such sales could occur,
could adversely affect the market price of our Common Stock. We have filed a registration statement with the SEC allowing us
to offer, from time to time, an indefinite amount of equity securities (including Common Stock and Preferred Stock) on an as-
needed basis and subject to our ability to effect offerings on satisfactory terms based on prevailing conditions. In addition, the
Company’s board of directors has, from time to time, authorized the Company to issue shares of Common Stock pursuant to the
Company’s equity sales agreements. The interests of our existing stockholders could be diluted if additional equity securities are
issued to finance future developments and acquisitions or repay indebtedness. Our ability to execute our business strategy depends
on our access to an appropriate blend of debt financing, including unsecured lines of credit and other forms of secured and unsecured
debt, and equity financing, including common equity.
We may change our policies without obtaining the approval of our stockholders. Our operating and financial policies,
including our policies with respect to acquisitions of real estate, growth, operations, indebtedness, capitalization and dividends,
are exclusively determined by the Company’s Board of Directors. Accordingly, our stockholders do not control these policies.
Limits on changes in control may discourage takeover attempts beneficial to stockholders. Provisions in the Company's
charter and bylaws as well as Maryland general corporation law may have anti-takeover effects that delay, defer or prevent a
takeover attempt. 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 the Company's stockholders to receive a premium for their shares
of Common Stock over then-prevailing market prices. These provisions include the following:
• Ownership limit. The Company's charter prohibits direct, indirect or constructive ownership by any person or entity of
more than 9.8% of the Company's outstanding capital stock. Any attempt to own or transfer shares of capital stock in
excess of the ownership limit without the consent of the Company's board of directors will be void.
• Preferred Stock. The Company's charter authorizes the board of directors to issue preferred stock in one or more classes
and 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 the Company, even if a change in control were in our best interest.
• Business combinations. Pursuant to the Company's charter and Maryland law, the Company cannot merge into or
consolidate with another corporation or enter into a statutory share exchange transaction in which the Company is not
the surviving entity or sell all or substantially all of its assets unless the board of directors adopts a resolution declaring
the proposed transaction advisable and a majority of the stockholders voting together as a single class approve the
transaction. Maryland law prohibits stockholders from taking action by written consent unless all stockholders consent
in writing. The practical effect of this limitation is that any action required or permitted to be taken by the Company's
stockholders may only be taken if it is properly brought before an annual or special meeting of stockholders. The Company's
bylaws further provide that in order for a stockholder to properly bring any matter before a meeting, the stockholder must
comply with requirements regarding advance notice. The foregoing provisions could have the effect of delaying until the
next annual meeting stockholder actions that the holders of a majority of the Company's outstanding voting securities
favor. These provisions may also discourage another person from making a tender offer for the Company's common stock,
because such person or entity, even if it acquired a majority of the Company's outstanding voting securities, would likely
be able to take action as a stockholder, such as electing new directors or approving a merger, only at a duly called
stockholders meeting. Maryland law also establishes special requirements with respect to business combinations between
Maryland corporations and interested stockholders unless exemptions apply. Among other things, the law prohibits for
five years a merger and other similar transactions between a corporation and an interested stockholder and requires a
supermajority vote for such transactions after the end of the five-year period. The Company's charter contains a provision
exempting the Company from the Maryland business combination statute. However, we cannot assure you that this charter
provision will not be amended or repealed at any point in the future.
• Control share acquisitions. Maryland general corporation law also provides that control shares of a Maryland corporation
acquired in a control share acquisition have no voting rights except to the extent approved by a vote of two-thirds of the
votes entitled to be cast on the matter, excluding shares owned by the acquirer or by officers or employee directors. The
control share acquisition statute does not apply to shares acquired in a merger, consolidation or share exchange if the
corporation is a party to the transaction, or to acquisitions approved or exempted by the corporation's charter or bylaws.
The Company's bylaws contain a provision exempting from the control share acquisition statute any stock acquired by
any person. However, we cannot assure you that this bylaw provision will not be amended or repealed at any point in the
future.
12
• Maryland unsolicited takeover statute. Under Maryland law, the Company's board of directors could adopt various
anti-takeover provisions without the consent of stockholders. The adoption of such measures could discourage offers for
the Company or make an acquisition of the Company more difficult, even when an acquisition would be in the best
interest of the Company's stockholders.
• Anti takeover protections of operating partnership agreement. Upon a change in control of the Company, the
partnership agreement of the Operating Partnership requires certain acquirers to maintain an umbrella partnership real
estate investment trust 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. Exceptions would require the approval of two-thirds of the
limited partners of our 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.
ITEM 1B. UNRESOLVED STAFF COMMENTS
None.
13
Our core portfolio consists primarily of office properties in Raleigh, Atlanta, Tampa, Nashville, Memphis, Pittsburgh,
Richmond and Orlando and office and industrial properties in Greensboro.
ITEM 2. PROPERTIES
Properties
The following table sets forth information about in-service office properties that we wholly own by geographic location at
December 31, 2018:
Market
Atlanta
Nashville
Raleigh
Tampa
Pittsburgh
Orlando
Richmond
Memphis
Greensboro
Total
__________
Rentable
Square Feet
Occupancy
Percentage of
Annualized
Cash Rental
Revenue (1)
5,120,000
4,190,000
4,655,000
3,620,000
2,148,000
1,976,000
2,033,000
1,638,000
1,151,000
87.4 %
18.5 %
92.9
89.5
95.3
95.0
91.2
93.4
92.0
93.0
17.7
16.4
14.7
8.9
7.6
6.5
6.2
3.5
26,531,000
91.6%
100.0%
(1) Annualized Cash Rental Revenue is cash rental revenue (base rent plus cost recovery income, excluding straight-line rent) from our office
properties for the month of December 2018 multiplied by 12.
The following table sets forth the net changes in rentable square footage of in-service properties that we wholly own:
Acquisitions
Developments Placed In-Service
Redevelopment/Other
Dispositions
Net Change in Rentable Square Footage
Year Ended December 31,
2018
2017
2016
(rentable square feet in thousands)
—
351
(2)
(491)
(142)
—
1,014
(7)
(1,077)
(70)
243
176
(46)
(1,429)
(1,056)
The following table sets forth operating information about in-service properties that we wholly own:
2014
2015
2016
2017
2018
__________
Average
Occupancy
90.4%
92.3%
92.8%
92.5%
91.7%
$
$
$
$
$
Annualized
GAAP Rent
Per Square
Foot (1)
Annualized
Cash Rent
Per Square
Foot (2)
22.13
23.30
23.24
24.05
24.68
$
$
$
$
$
21.29
22.55
22.55
23.46
24.06
(1) Annualized GAAP Rent Per Square Foot is rental revenue (base rent plus cost recovery income, including straight-line rent) for the month
of December of the respective year multiplied by 12, divided by total occupied rentable square footage.
(2) Annualized Cash Rent Per Square Foot is cash rental revenue (base rent plus cost recovery income, excluding straight-line rent) for the
month of December of the respective year multiplied by 12, divided by total occupied rentable square footage.
14
Customers
The following table sets forth information concerning the 20 largest customers of properties that we wholly own at
December 31, 2018:
Customer
Rentable
Square
Feet
Annualized
Cash Rental
Revenue (1)
(in thousands)
Percent of
Total
Annualized
Cash Rental
Revenue (1)
Weighted
Average
Remaining
Lease Term in
Years
Federal Government
Metropolitan Life Insurance
Bridgestone Americas
PPG Industries
Tivity
EQT Corporation
Bass, Berry & Sims
Vanderbilt University
International Paper
State of Georgia
Laser Spine Institute
American General Life
Marsh USA
Novelis
Lifepoint Corporate Services
PNC Bank
AT&T
Regus PLC
Global Payments
Avanos Medical
Total
__________
1,282,516
$
624,245
506,128
356,215
263,598
295,241
209,701
251,415
278,444
313,146
176,089
173,834
177,382
168,949
202,991
159,142
197,826
172,433
168,051
193,199
31,589
16,269
14,993
9,728
7,672
7,037
7,034
6,814
6,764
6,242
6,156
5,992
5,963
5,943
5,247
4,803
4,780
4,747
4,453
4,453
4.86 %
2.51
2.31
1.50
1.18
1.08
1.08
1.05
1.04
0.96
0.95
0.92
0.92
0.92
0.81
0.74
0.74
0.73
0.69
0.69
6,170,545
$
166,679
25.68%
4.2
9.7
18.7
12.3
4.2
5.8
5.8
3.1
9.9
3.4
13.8
8.1
3.5
5.7
10.3
9.1
4.5
4.8
14.2
10.2
8.1
(1) Annualized Cash Rental Revenue is cash rental revenue (base rent plus cost recovery income, excluding straight-line rent) for the month
of December 2018 multiplied by 12.
15
Lease Expirations
The following tables set forth scheduled lease expirations for existing leases at office properties that we wholly owned at
December 31, 2018:
Rentable
Square Feet
Subject to
Expiring
Leases
Percentage of
Leased Square
Footage
Represented
by Expiring
Leases
Annualized
Cash Rental
Revenue
Under
Expiring
Leases (2)
Average
Annual Cash
Rental Rate
Per Square
Foot for
Expirations
Number of
Leases
Expiring
Percent of
Annualized
Cash Rental
Revenue
Represented
by Expiring
Leases (2)
Lease Expiring (1)
2019 (3)
2020
2021
2022
2023
2024
2025
2026
2027
2028
Thereafter
__________
2,260,503
2,859,887
2,734,943
2,428,417
2,244,998
2,267,733
1,707,576
1,483,602
1,142,987
914,319
4,258,674
($ in thousands)
9.3 % $
56,363
$
11.8
11.3
10.0
9.2
9.3
7.0
6.1
4.7
3.8
79,594
72,411
60,364
57,335
61,219
45,858
37,189
31,011
25,113
17.5
105,642
24,303,639
100.0% $
632,099
$
401
366
340
275
271
152
90
83
44
58
167
2,247
24.93
27.83
26.48
24.86
25.54
27.00
26.86
25.07
27.13
27.47
24.81
26.01
8.9 %
12.6
11.5
9.5
9.1
9.7
7.3
5.9
4.9
4.0
16.6
100.0%
(1) Expirations that have been renewed are reflected above based on the renewal expiration date. Expirations include leases related to completed
not stabilized development properties but exclude leases related to developments in-process.
(2) Annualized Cash Rental Revenue is cash rental revenue (base rent plus cost recovery income, excluding straight-line rent) for the month
of December 2018 multiplied by 12.
(3) Includes 87,000 rentable square feet of leases that are on a month-to-month basis, which represent 0.2% of total annualized cash rental
revenue.
In-Process Development
As of December 31, 2018, we were developing 1.1 million rentable square feet of office properties. The following table
summarizes these announced and in-process office developments:
Property
Market
Rentable
Square Feet
Anticipated
Total
Investment (1)
Investment
As Of
December 31,
2018 (1)
($ in thousands)
Pre
Leased %
Estimated
Completion
Estimated
Stabilization
MetLife III
Mars Petcare - Ovation
GlenLake Seven (2) (3)
Asurion (2)
__________
Raleigh
Nashville
Raleigh
Nashville
219,000
$
64,500
$
223,700
125,700
552,800
96,200
40,970
285,000
55,753
82,012
2,718
36,112
100.0 %
100.0
28.2
98.3
2Q19
3Q19
3Q20
4Q21
2Q21
3Q19
4Q21
1Q22
1,121,200
$
486,670
$
176,595
91.1%
(1) Includes deferred lease commissions which are classified in deferred leasing costs on our Consolidated Balance Sheets.
(2) Recorded on our Consolidated Balance Sheets in land held for development, not development in-process.
(3) Our corporate and Raleigh division personnel will occupy approximately 35,500 square feet.
16
Land Held for Development
We wholly owned 337 acres of development land at December 31, 2018. We estimate that we can develop approximately 4.6
million and 0.2 million rentable square feet of office and industrial space, respectively, on the 181 acres that we consider core
assets for our future development needs. Our core development land is zoned and available for development, and nearly all of the
land has utility infrastructure in place. We believe that our commercially zoned and unencumbered land gives us a development
advantage over other commercial real estate development companies in many of our markets.
Joint Venture Investments
The following table sets forth information about our joint venture investments by geographic location at December 31, 2018:
Market
Kansas City (3)
Richmond (4)
Raleigh
Total
__________
Rentable
Square Feet
292,000
345,000
636,000
1,273,000
Weighted
Average
Ownership
Interest (1)
50.0%
50.0
25.0
37.5%
Percentage of
Annualized
Cash Rental
Revenue (2)
51.3%
28.8
19.9
Occupancy
97.4%
100.0
64.8
81.8%
100.0%
(1) Weighted Average Ownership Interest is calculated using Rentable Square Feet.
(2) Annualized Cash Rental Revenue is cash rental revenue (base rent plus cost recovery income, excluding straight-line rent) for the month
of December 2018 multiplied by 12.
(3) Excluding our 26.5% ownership interest in a real estate brokerage services company.
(4) This joint venture is consolidated.
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, the estimated loss is accrued and charged to income in our 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, results of operations or cash flows.
17
ITEM X. EXECUTIVE OFFICERS OF THE REGISTRANT
The Company is the sole general partner of the Operating Partnership. The following table sets forth information with respect
to the Company’s executive officers:
Name
Edward J. Fritsch
Age
60
Theodore J. Klinck
53
Mark F. Mulhern
59
Jeffrey D. Miller
48
Position and Background
Director and Chief Executive Officer.
Mr. Fritsch has been a director since January 2001. Mr. Fritsch became our chief
executive officer and chair of the investment committee of our board of directors
in July 2004. Mr. Fritsch was our president from December 2003 to November
2018, 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 is a director, chair of the governance committee
and member of the audit committee of National Retail Properties, Inc., a publicly-
traded REIT (NYSE:NNN). Mr. Fritsch is a past chair of the National Association
of Real Estate Investment Trusts ("NAREIT"). Mr. Fritsch is also a member of
Wells Fargo's central region advisory board, a member of the University of North
Carolina at Chapel Hill Foundation board, a director of the University of North
Carolina at Chapel Hill Real Estate Holdings and a member of the Dix Park
Conservancy board.
President and Chief Operating Officer.
Mr. Klinck became president and chief operating officer in November 2018. Prior
to that, Mr. Klinck was our executive vice president and chief operating and
investment officer from September 2015 to November 2018 and was senior vice
president and chief investment officer from March 2012 to August 2015. Before
joining us, Mr. Klinck served as principal and chief investment officer with Goddard
Investment Group, a privately owned real estate investment firm. Previously, Mr.
Klinck had been a managing director at Morgan Stanley Real Estate.
Executive Vice President and Chief Financial Officer.
Mr. Mulhern became chief financial officer in September 2014. Prior to that, Mr.
Mulhern was a director of the Company since January 2012. Mr. Mulhern served
as executive vice president and chief financial officer of Exco Resources, Inc.
(NYSE:XCO), an oil and gas exploration and production company, from 2013 until
September 2014. Mr. Mulhern served as senior vice president and chief financial
officer of Progress Energy, Inc. (NYSE:PGN) from 2008 until its merger with Duke
Energy Corporation (NYSE:DUK) in July 2012. Mr. Mulhern first joined Progress
Energy in 1996 and served in a number of financial and strategic roles. He also
spent eight years at Price Waterhouse. Mr. Mulhern currently serves as a director
of McKim and Creed, a private engineering services firm, and Barings BDC, Inc.
(NYSE:BBDC), a specialty finance company. Mr. Mulhern is a certified public
accountant, a certified management accountant and a certified internal auditor.
Executive Vice President, General Counsel and Secretary.
Prior to joining us in March 2007, Mr. Miller was a partner with DLA Piper US,
LLP, where he practiced since 2005. Previously, Mr. Miller had been a partner with
Alston & Bird LLP. Mr. Miller is admitted to practice in North Carolina. Mr. Miller
served as lead independent director of Hatteras Financial Corp., a publicly-traded
mortgage REIT (NYSE:HTS), prior to its merger with Annaly Capital Management,
Inc. (NYSE:NLY) in July 2016.
18
PART II
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND
ISSUER PURCHASES OF EQUITY SECURITIES
Our Common Stock is traded on the NYSE under the symbol "HIW." On December 31, 2018, the Company had 838 common
stockholders of record. There is no public trading market for the Common Units. On December 31, 2018, the Operating Partnership
had 100 holders of record of Common Units (other than the Company). At December 31, 2018, there were 103.6 million shares
of Common Stock outstanding and 2.7 million Common Units outstanding not owned by the Company.
For information regarding our dividend payment history as well as a discussion of the factors that influence the decisions of
the Company's Board of Directors regarding dividends and distributions, see “Item 7. Management’s Discussion and Analysis of
Financial Condition and Results of Operations - Liquidity and Capital Resources - Dividends and Distributions.”
The following stock price performance graph compares the performance of our Common Stock to the S&P 500 Index and
the FTSE NAREIT All Equity REITs Index. The stock price performance graph assumes an investment of $100 in our Common
Stock and the two indices on December 31, 2013 and further assumes the reinvestment of all dividends. The FTSE NAREIT All
Equity REITs Index is a free-float adjusted, market capitalization-weighted index of U.S. equity REITs. Constituents of the Index
include all tax-qualified REITs with more than 50% of total assets in qualifying real estate assets other than mortgages secured
by real property. Stock price performance is not necessarily indicative of future results.
Index
Highwoods Properties, Inc.
S&P 500 Index
FTSE NAREIT All Equity REITs Index
For the Period from December 31, 2013 to December 31,
2014
2015
2016
2017
2018
127.68
113.69
128.03
130.75
115.26
131.64
161.11
129.05
143.00
166.49
157.22
155.41
131.79
150.33
149.12
The performance graph above is being furnished as part of this Annual Report solely in accordance with the requirement
under Rule 14a-3(b)(9) to furnish the Company’s 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.
19
During the fourth quarter of 2018, the Company issued an aggregate of 63,805 shares of Common Stock to holders of Common
Units in the Operating Partnership upon the redemption of a like number of Common Units in private offerings exempt from the
registration requirements pursuant to Section 4(2) of the Securities Act. Each of the holders of Common Units was an accredited
investor under Rule 501 of the Securities Act. The resale of such shares was registered by the Company under the Securities Act.
The Company has a Dividend Reinvestment and Stock Purchase Plan (“DRIP”) under which holders of Common Stock may
elect to automatically reinvest their dividends in additional shares of Common Stock and make optional cash payments for additional
shares of Common Stock. The Company satisfies its DRIP obligations by instructing the DRIP administrator to purchase Common
Stock in the open market.
The Company has an Employee Stock Purchase Plan ("ESPP") pursuant to which employees may contribute up to 25% of
their cash compensation for the purchase of Common Stock. At the end of each quarter, each participant’s account balance, which
includes accumulated dividends, is applied to acquire shares of Common Stock at a cost that is calculated at 85% of the average
closing price on the NYSE on the five consecutive days preceding the last day of the quarter. Generally, shares purchased under
the ESPP must be held at least one year. The Company satisfies its ESPP obligations by issuing additional shares of Common
Stock.
Information about the Company’s 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 its annual meeting of stockholders to be held on May 8,
2019.
20
ITEM 6. SELECTED FINANCIAL DATA
Operating results for the year ended December 31, 2014 were retrospectively revised from previously reported amounts to
reclassify the operations for those properties classified as discontinued operations. Total assets and mortgages and notes payable,
net as of the years ended December 31, 2015 and 2014 were retrospectively revised from previously reported amounts to reclassify
debt issuance costs as a direct deduction from the carrying amount of the debt liability to which they relate as opposed to being
presented as assets.
The information in the following tables should be read in conjunction with the Company’s Consolidated Financial Statements
and related notes and Management’s Discussion and Analysis of Financial Condition and Results of Operations included herein
($ in thousands, except per share data):
Rental and other revenues
Income from continuing operations
Income from discontinued operations
Income from continuing operations available for common
stockholders
Net income
Net income available for common stockholders
Earnings per Common Share – basic:
Income from continuing operations available for common
stockholders
Net income available for common stockholders
Earnings per Common Share – diluted:
Income from continuing operations available for common
stockholders
Net income available for common stockholders
Dividends declared per Common Share (1)
Year Ended December 31,
2018
2017
2016
720,035
177,630
$
$
702,737
191,663
$
$
665,634
122,546
— $
— $
418,593
169,343
177,630
169,343
1.64
1.64
1.64
1.64
1.85
$
$
$
$
$
$
$
$
182,873
191,663
182,873
1.78
1.78
1.78
1.78
1.76
$
$
$
$
$
$
$
$
115,461
541,139
521,789
1.17
5.30
1.17
5.30
2.50
$
$
$
$
$
$
$
$
$
$
$
2015
604,671
85,521
15,739
79,308
101,260
94,572
0.84
1.00
0.84
1.00
1.70
$
$
$
$
$
$
$
$
$
$
$
2014
555,871
96,987
18,985
90,069
115,972
108,457
1.00
1.20
0.99
1.19
1.70
$
$
$
$
$
$
$
$
$
$
$
2018
2017
2016
2015
2014
December 31,
Total assets
$ 4,675,009
$ 4,623,791
$ 4,561,050
$ 4,485,631
$ 3,990,702
Mortgages and notes payable, net
$ 2,085,831
$ 2,014,333
$ 1,948,047
$ 2,491,813
$ 2,062,968
__________
(1) Includes a special cash dividend of $0.80 per share declared in the quarter ended December 31, 2016 and paid January 10, 2017.
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 herein.
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 “Item 1. 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:
•
the financial condition of our customers could deteriorate;
• we may not be able to lease or re-lease second generation space, defined as previously occupied space that becomes
available for lease, quickly or on as favorable terms as old leases;
• we may not be able to lease newly constructed buildings as quickly or on as favorable terms as originally anticipated;
• we may not be able to complete development, acquisition, reinvestment, disposition or joint venture projects as quickly
or on as favorable terms as anticipated;
•
•
•
•
development activity in our existing markets could result in an excessive supply relative to customer demand;
our markets may suffer declines in economic and/or office employment growth;
unanticipated increases in interest rates could increase our debt service costs;
unanticipated increases in operating expenses could negatively impact our operating results;
• 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 repay or refinance outstanding debt upon maturity; and
•
the Company could lose key executive officers.
This list of risks and uncertainties, however, is not intended to be exhaustive. You should also review the other cautionary
statements we make in “Item 1A. Business – Risk Factors” set forth 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.
22
Our Strategic Plan focuses on:
Executive Summary
•
•
•
•
owning high-quality, differentiated office buildings in the BBDs of our core markets;
improving the operating results of our properties through concentrated leasing, asset management, cost control and
customer service efforts;
developing and acquiring office buildings in BBDs that improve the overall quality of our portfolio and generate attractive
returns over the long term for our stockholders;
disposing of properties no longer considered to be core assets primarily due to location, age, quality and/or overall strategic
fit; and
• maintaining a balance sheet with ample liquidity to meet our funding needs and growth prospects.
Revenues
Our operating results depend heavily on successfully leasing and operating the office space in our portfolio. Economic growth
and office employment levels in our core markets are important factors, among others, in predicting our future operating results.
The key components affecting our rental and other revenues are average occupancy, rental rates, cost recovery income, new
developments placed in service, acquisitions and dispositions. 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 or negative 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 concentrate our leasing efforts
on renewing existing leases prior to expiration. For more information regarding our lease expirations, see “Item 2. Properties -
Lease Expirations.” Occupancy in our office portfolio decreased from 92.9% at December 31, 2017 to 91.6% at December 31,
2018.
Whether or not our rental revenue tracks average occupancy proportionally depends upon whether GAAP rents under signed
new and renewal leases are higher or lower than the GAAP rents under expiring leases. Annualized rental revenues from second
generation leases expiring during any particular year are typically less than 15% of our total annual rental revenues. The following
table sets forth information regarding second generation office leases signed during the fourth quarter of 2018 (we define second
generation office leases as leases with new customers and renewals of existing customers in office space that has been previously
occupied under our ownership and leases with respect to vacant space in acquired buildings):
Leased space (in rentable square feet)
Average term (in years - rentable square foot weighted)
Base rents (per rentable square foot) (1)
Rent concessions (per rentable square foot) (1)
GAAP rents (per rentable square foot) (1)
Tenant improvements (per rentable square foot) (1)
Leasing commissions (per rentable square foot) (1)
__________
New
Renewal
All Office
383,985
534,509
918,494
7.0
4.7
5.6
31.97
$
29.74
$
30.67
(0.92)
31.05
5.35
1.18
$
$
$
(0.62)
29.12
2.52
0.93
$
$
$
(0.74)
29.93
3.70
1.04
$
$
$
$
(1) Weighted average per rentable square foot on an annual basis over the lease term.
Annual combined GAAP rents for new and renewal leases signed in the fourth quarter were $29.93 per rentable square foot,
or 20.2%, higher compared to previous leases in the same office spaces.
23
We strive to maintain a diverse, stable and creditworthy customer base. We have an internal guideline whereby customers
that account for more than 3% of our revenues are periodically reviewed with the Company's Board of Directors. As of December 31,
2018, no customer accounted for more than 3% of our cash revenues other than the Federal Government, which accounted for
less than 5% of our cash revenues on an annualized basis. Upon completion of the MetLife III development project in Raleigh,
which is scheduled for delivery in the second quarter of 2019, it is expected that MetLife will account for approximately 3.4% of
our revenues based on annualized cash revenues for December 2018. See “Item 2. Properties - Customers.”
Expenses
Our expenses primarily consist of rental property expenses, depreciation and amortization, general and administrative expenses
and interest expense. From time to time, expenses also include impairments of real estate assets. 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 janitorial services 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, place in service or sell assets, since our properties and related
building and tenant improvement assets are depreciated on a straight-line basis over fixed lives. General and administrative expenses
consist primarily of management and employee salaries and benefits, corporate overhead and short and long-term incentive
compensation.
Net Operating Income
Whether or not we record increasing same property net operating income (“NOI”) depends upon our ability to garner higher
rental revenues, whether from higher average occupancy, higher GAAP rents per rentable square foot or higher cost recovery
income, that exceed any corresponding growth in operating expenses. Same property NOI was $5.3 million, or 1.2%, higher in
2018 as compared to 2017 due to an increase in same property revenues of $11.5 million offset by an increase of $6.3 million in
same property expenses. We expect same property NOI to be higher in 2019 as compared to 2018 as higher rental revenues, mostly
from higher average GAAP rents per rentable square foot, higher parking income and higher cost recovery income, are expected
to more than offset lower expected average occupancy and an anticipated increase in same property operating expenses.
In addition to the effect of same property NOI, whether or not NOI increases depends upon whether the NOI from our acquired
properties and development properties placed in service exceeds the NOI from property dispositions. NOI was $11.8 million, or
2.5%, higher in 2018 as compared to 2017 due to the impact of development properties placed in service and a restoration fee,
partly offset by NOI lost from property dispositions. We expect NOI to be higher in 2019 than 2018 due to the impact of our net
investment activity in 2018.
Cash Flows
In calculating net cash related to operating activities, depreciation and amortization, which are non-cash expenses, are added
back to net income. We have historically generated a 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 below under “Results of
Operations,” changes in receivables and payables and net additions or decreases in our overall portfolio.
Net cash related to 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 exceed cash provided by investing activities,
which typically consists of cash received upon the sale of properties and distributions from our joint ventures.
Net cash related to financing activities generally relates to distributions, incurrence and repayment of debt, and issuances,
repurchases or redemptions of Common Stock, Common Units and Preferred Stock. We use a significant amount of our cash to
fund 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 generally use our revolving credit facility
for daily working capital purposes, which means that during any given period, in order to minimize interest expense, we may
record significant repayments and borrowings under our revolving credit facility.
For a discussion regarding dividends and distributions, see "Liquidity and Capital Resources - Dividends and Distributions."
24
Liquidity and Capital Resources
We intend to maintain a conservative and flexible balance sheet with access to multiple sources of debt and equity capital and
sufficient availability under our revolving credit facility that allows us to capitalize on favorable development and acquisition
opportunities as they arise.
Rental and other revenues are our principal source of funds to meet our short-term liquidity requirements. Other sources of
funds for short-term liquidity needs include available working capital and borrowings under our revolving credit facility, which
had $408.8 million of availability at January 25, 2019. Our short-term liquidity requirements primarily consist of operating
expenses, interest and principal amortization on our debt, distributions and capital expenditures, including building improvement
costs, tenant improvement costs and lease commissions. Building improvements are capital costs to maintain or enhance existing
buildings not typically related to a specific customer. Tenant improvements are the costs required to customize space for the specific
needs of customers. We anticipate that our available cash and cash equivalents and cash provided by operating activities and
planned financing activities, including borrowings under our revolving credit facility, will be adequate to meet our short-term
liquidity requirements. We use our revolving credit facility for working capital purposes and for the short-term funding of our
development and acquisition activity and, in certain instances, the repayment of other debt. Continued ability to borrow under the
revolving credit facility allows us to quickly capitalize on strategic opportunities at short-term interest rates.
Our long-term liquidity uses generally consist of the retirement or refinancing of debt upon maturity, funding of building
improvements, new building developments and land infrastructure projects and funding acquisitions of buildings and development
land. Our expected future capital expenditures for started and/or committed new development projects were approximately $331
million at December 31, 2018. Additionally, we may, from time to time, retire outstanding equity and/or debt securities through
redemptions, open market repurchases, privately negotiated acquisitions or otherwise.
We expect to meet our long-term liquidity needs through a combination of:
•
•
•
•
•
•
cash flow from operating activities;
bank term loans and borrowings under our revolving credit facility;
the issuance of unsecured debt;
the issuance of secured debt;
the issuance of equity securities by the Company or the Operating Partnership; and
the disposition of non-core assets.
At December 31, 2018, our leverage ratio, as measured by the ratio of our mortgages and notes payable and outstanding
preferred stock to the undepreciated book value of our assets, was 35.4% and there were 106.3 million diluted shares of Common
Stock outstanding.
Investment Activity
As noted above, a key tenet of our strategic plan is to continuously upgrade the quality of our office portfolio through
acquisitions, dispositions and development. We generally seek to acquire and develop office buildings that improve the average
quality of our overall portfolio and deliver consistent and sustainable value for our stockholders over the long-term. Whether or
not an asset acquisition or new development results in higher per share net income or funds from operations ("FFO") in any given
period depends upon a number of factors, including whether the NOI for any such period exceeds the actual cost of capital used
to finance the acquisition or development. Additionally, given the length of construction cycles, development projects are not
placed in service until, in some cases, several years after commencement. Sales of non-core assets could result in lower per share
net income or FFO in any given period in the event the resulting use of proceeds does not exceed the capitalization rate on the
sold properties.
25
Results of Operations
Comparison of 2018 to 2017
Rental and Other Revenues
Rental and other revenues were $17.3 million, or 2.5%, higher in 2018 as compared to 2017 primarily due to development
properties placed in service, higher same property revenues and a restoration fee, which increased rental and other revenues by
$18.3 million, $11.5 million and $2.9 million, respectively. Same property rental and other revenues were higher primarily due to
higher average GAAP rents per rentable square foot, higher cost recovery income and higher parking income, partly offset by
lower average occupancy and lower termination fees. These increases were partly offset by lost revenue of $14.7 million from
property dispositions. We expect rental and other revenues to be higher in 2019 as compared to 2018 due to development properties
placed in service and higher same property revenues, partly offset by lost revenue from property dispositions and lower restoration
fees.
Operating Expenses
Rental property and other expenses were $5.5 million, or 2.3%, higher in 2018 as compared to 2017 primarily due to higher
same property operating expenses and development properties placed in service, which increased operating expenses by $6.3
million and $4.6 million, respectively. Same property operating expenses were higher primarily due to higher property taxes,
contract services and utilities, partly offset by lower property insurance. These increases were partly offset by a $5.6 million
decrease in operating expenses from property dispositions. We expect rental property and other expenses to be higher in 2019 as
compared to 2018 due to development properties placed in service and higher same property operating expenses, partly offset by
lower operating expenses from property dispositions.
Depreciation and amortization was $2.1 million, or 0.9%, higher in 2018 as compared to 2017 primarily due to development
properties placed in service, partly offset by property dispositions and accelerated depreciation in 2017 related to properties that
are expected to be demolished. We expect depreciation and amortization to be similar in 2019 as development properties placed
in service are expected to be offset by fully amortized acquisition-related intangible assets and property dispositions.
We recorded aggregate impairments of real estate assets of $0.4 million and $1.4 million in 2018 and 2017, respectively.
These impairments resulted from changes in market-based inputs and our assumptions about the use of the assets.
General and administrative expenses were $0.4 million, or 0.9%, higher in 2018 as compared to 2017 primarily due to higher
company-wide base salaries and expensed pre-development costs. We expect general and administrative expenses to be higher in
2019 as compared to 2018 due to higher company-wide base salaries and certain previously capitalized leasing related costs that
we will begin to expense upon adoption of the new lease accounting standard in 2019, partly offset by lower incentive compensation.
Interest Expense
Interest expense was $2.3 million, or 3.4%, higher in 2018 as compared to 2017 primarily due to lower capitalized interest
and higher average debt balances, partly offset by lower average interest rates. We expect interest expense to be higher in 2019
as compared to 2018 due to higher average debt balances, higher average interest rates and lower capitalized interest.
Other Income
Other income was $0.3 million lower in 2018 as compared to 2017 primarily due to losses on deferred compensation plan
investments in 2018, which is fully offset by a corresponding decrease in the deferred compensation expense that is recorded in
general and administrative expenses.
Gains on Disposition of Property
Gains on disposition of property were $16.5 million lower in 2018 as compared to 2017 due to the net effect of the disposition
activity in such periods.
26
Equity in Earnings of Unconsolidated Affiliates
Equity in earnings of unconsolidated affiliates was $5.2 million lower in 2018 as compared to 2017 primarily due to our share
of the net effect of the disposition activity by certain unconsolidated affiliates in 2017. We expect equity in earnings of
unconsolidated affiliates to be higher in 2019 as compared to 2018 due to higher expected average occupancy.
Earnings Per Common Share - Diluted
Diluted earnings per common share was $0.14 lower in 2018 as compared to 2017 primarily due to a decrease in net income
for the reasons discussed above.
Comparison of 2017 to 2016
Rental and Other Revenues
Rental and other revenues were $37.1 million, or 5.6%, higher in 2017 as compared to 2016 primarily due to development
properties placed in service, higher same property revenues and acquisitions, which increased rental and other revenues by $26.5
million, $10.7 million and $4.7 million, respectively. Same property rental and other revenues were higher primarily due to higher
average GAAP rents per rentable square foot, higher cost recovery income and higher parking income, partly offset by lower
termination fees. These increases were partly offset by lost revenue of $5.6 million from property dispositions.
Operating Expenses
Rental property and other expenses were $5.8 million, or 2.5%, higher in 2017 as compared to 2016 primarily due to
development properties placed in service, higher same property operating expenses and acquisitions, which increased operating
expenses by $5.2 million, $2.0 million and $1.2 million, respectively. Same property operating expenses were higher primarily
due to higher property taxes, contract services and repairs and maintenance, partly offset by lower utilities. These increases were
partly offset by a $2.6 million decrease in operating expenses from property dispositions.
Depreciation and amortization was $7.7 million, or 3.5%, higher in 2017 as compared to 2016 primarily due to development
properties placed in service, acquisitions and accelerated depreciation related to properties that are expected to be demolished,
partly offset by property dispositions.
We recorded aggregate impairments of real estate assets of $1.4 million in 2017, which resulted from a change in market-
based inputs and our assumptions about the use of the assets. We recorded no such impairment in 2016.
General and administrative expenses were $1.5 million, or 3.9%, higher in 2017 as compared to 2016 primarily due to higher
company-wide base salaries, benefits, incentive compensation and dead deal costs, partly offset by lower acquisition costs.
Interest Expense
Interest expense was $7.5 million, or 9.8%, lower in 2017 as compared to 2016 primarily due to lower average debt balances,
lower average interest rates and higher capitalized interest.
Other Income
Other income was relatively unchanged in 2017 as compared to 2016.
Gains on Disposition of Property and Net Gains on Disposition of Discontinued Operations
Total gains were $375.1 million lower in 2017 as compared to 2016 due to the sales of substantially all of our wholly-owned
Country Club Plaza assets in Kansas City (which we refer to as the "Plaza assets") in 2016.
Equity in Earnings of Unconsolidated Affiliates
Equity in earnings of unconsolidated affiliates was $1.6 million, or 27.8%, higher in 2017 as compared to 2016 primarily due
to our share of the net effect of the disposition activity by certain unconsolidated affiliates in such periods, partly offset by lower
occupancy in 2017.
27
Income From Discontinued Operations
Income from discontinued operations was $4.1 million lower in 2017 as compared to 2016 due to the sales of the Plaza assets
in 2016.
Earnings Per Common Share - Diluted
Diluted earnings per common share was $3.52 lower in 2017 as compared to 2016 due to gains from the sales of the Plaza
assets in 2016 and an increase in the weighted average Common Shares outstanding, partly offset by increases in income from
continuing operations for the reasons discussed above.
Statements of Cash Flows
Liquidity and Capital Resources
We report and analyze our cash flows based on operating activities, investing activities and financing activities. The following
table sets forth the changes in the Company’s cash flows ($ in thousands):
Year Ended December 31,
2018
2017
2016
2018-2017
Change
2017-2016
Change
Net Cash Provided By Operating Activities
$
358,628
$
352,532
$
305,805
$
6,096
$
46,727
Net Cash Provided By/(Used In) Investing Activities
Net Cash Used In Financing Activities
(306,749)
(130,069)
(200,302)
(142,528)
216,262
(465,241)
(106,447)
(416,564)
12,459
322,713
Total Cash Flows
$
(78,190) $
9,702
$
56,826
$
(87,892) $
(47,124)
Comparison of 2018 to 2017
The increase in net cash provided by operating activities in 2018 as compared to 2017 was primarily due to higher net cash
from the operations of development properties placed in service and same properties, partly offset by property dispositions and
the timing of cash paid for operating expenses. We expect net cash related to operating activities to be higher in 2019 as compared
to 2018 primarily due to the impact of development properties placed in service and same properties, partly offset by property
dispositions.
The increase in net cash used in investing activities in 2018 as compared to 2017 was primarily due to acquisition activity in
2018 and higher net proceeds from disposition activity in 2017. We expect uses of cash for investing activities in 2019 to be
primarily driven by whether or not we acquire and commence development of additional office buildings in the BBDs of our
markets. Additionally, as of December 31, 2018, we have approximately $331 million left to fund of our previously-announced
development activity in 2019 and future years. We expect these uses of cash for investing activities will be partly offset by proceeds
from property dispositions in 2019.
The decrease in net cash used in financing activities in 2018 as compared to 2017 was primarily due to the payment of a
special dividend in 2017, partly offset by higher proceeds from the issuance of Common Stock in 2017. Assuming the net effect
of our acquisition, disposition and development activity in 2019 results in an increase to our assets, we would expect outstanding
debt and/or Common Stock balances to increase.
Comparison of 2017 to 2016
The increase in net cash provided by operating activities in 2017 as compared to 2016 was primarily due to higher net cash
from the operations of development properties placed in service, same properties and acquisitions, the timing of cash paid for
operating expenses and the settlement of cash flow hedges.
The change in net cash provided by/(used in) investing activities in 2017 as compared to 2016 was primarily due to the net
proceeds from the sales of the Plaza assets in 2016, partly offset by higher acquisition activity and investments in development
in-process in 2016.
28
The decrease in net cash used in financing activities in 2017 as compared to 2016 was primarily due to higher net debt
borrowings in 2017, partly offset by the payment of a special dividend declared in the fourth quarter of 2016, lower proceeds from
the issuance of Common Stock in 2017 and a 3.5% increase in our regular cash dividend rate in February 2017.
Capitalization
The following table sets forth the Company’s capitalization (in thousands, except per share amounts):
Mortgages and notes payable, net, at recorded book value
Preferred Stock, at liquidation value
Common Stock outstanding
Common Units outstanding (not owned by the Company)
Per share stock price at year end
Market value of Common Stock and Common Units
Total capitalization
December 31,
2018
2,085,831
28,877
103,557
2,739
38.69
4,112,592
6,227,300
$
$
$
$
$
2017
2,014,333
28,892
103,267
2,829
50.91
5,401,347
7,444,572
$
$
$
$
$
At December 31, 2018, our mortgages and notes payable and outstanding preferred stock represented 34.0% of our total
capitalization and 35.4% of the undepreciated book value of our assets. See also "Executive Summary - Liquidity and Capital
Resources."
Our mortgages and notes payable as of December 31, 2018 consisted of $97.2 million of secured indebtedness with a weighted
average interest rate of 4.0% and $1,997.8 million of unsecured indebtedness with a weighted average interest rate of 3.55%. The
secured indebtedness was collateralized by real estate assets with an undepreciated book value of $147.6 million. As of
December 31, 2018, $532.0 million of our debt does not bear interest at fixed rates or is not protected by interest rate hedge
contracts. On January 11, 2019, floating-to-fixed interest rate swaps with respect to an aggregate of $225.0 million of LIBOR-
based borrowings expired. Subsequently, as of January 25, 2019, we had $766.0 million of variable rate debt outstanding not
protected by interest rate hedge contracts.
Investment Activity
In the normal course of business, we regularly evaluate potential acquisitions. As a result, from time to time, we may have
one or more potential acquisitions under consideration that are in varying stages of evaluation, negotiation or due diligence,
including potential acquisitions that are subject to non-binding letters of intent or enforceable contracts. Consummation of any
transaction is subject to a number of contingencies, including the satisfaction of customary closing conditions. No assurances can
be provided that we will acquire any properties in the future. See "Item 1A. Risk Factors - Recent and future acquisitions and
development properties may fail to perform in accordance with our expectations and may require renovation and development
costs exceeding our estimates."
During the first quarter of 2018, we acquired two development parcels totaling approximately nine acres in Nashville for an
aggregate purchase price, including capitalized acquisition costs, of $50.6 million.
During the fourth quarter of 2018, we sold two buildings for an aggregate sale price of $54.5 million and recorded aggregate
gains on disposition of property of $20.7 million.
During the third quarter of 2018, we sold various land parcels for an aggregate sale price of $2.1 million and recorded nominal
aggregate gains on disposition of property.
During the second quarter of 2018, we sold a building and various land parcels for an aggregate sale price of $34.0 million
and recorded aggregate gains on disposition of property of $17.0 million.
During the fourth quarter of 2018, we recorded an impairment of real estate assets of $0.4 million, which resulted from a
change in market-based inputs and our assumptions about the use of the assets.
As of December 31, 2018, we were also developing 1.1 million rentable square feet of office properties. For a table summarizing
our announced and in-process office developments, see "Item 2. Properties - In-Process Development."
29
Financing Activity
We have entered into separate equity distribution agreements with each of Wells Fargo Securities, LLC, Robert W. Baird &
Co. Incorporated, BB&T Capital Markets, a division of BB&T Securities, LLC, Merrill Lynch, Pierce, Fenner & Smith Incorporated,
BTIG, LLC, Capital One Securities, Inc., Fifth Third Securities, Inc., Jefferies LLC and J.P. Morgan Securities LLC. Under the
terms of the equity distribution agreements, the Company may offer and sell up to $300.0 million in aggregate gross sales price
of shares of Common Stock from time to time through such firms, acting as agents of the Company or as principals. Sales of the
shares, if any, may be made by means of ordinary brokers’ transactions on the NYSE or otherwise at market prices prevailing at
the time of sale, at prices related to prevailing market prices or at negotiated prices or as otherwise agreed with any of such firms.
The Company did not issue any shares of Common Stock under these agreements during 2018.
Our $600.0 million unsecured revolving credit facility is scheduled to mature in January 2022 and includes an accordion
feature that allows for an additional $400.0 million of borrowing capacity subject to additional lender commitments. Assuming
no defaults have occurred, we have an option to extend the maturity for two additional six-month periods. The interest rate at our
current credit ratings is LIBOR plus 100 basis points and the annual facility fee is 20 basis points. The interest rate and facility
fee are based on the higher of the publicly announced ratings from Moody's Investors Service or Standard & Poor's Ratings
Services. There was $182.0 million and $191.0 million outstanding under our revolving credit facility at December 31, 2018 and
January 25, 2019, respectively. At both December 31, 2018 and January 25, 2019, we had $0.2 million of outstanding letters of
credit, which reduces the availability on our revolving credit facility. As a result, the unused capacity of our revolving credit facility
at December 31, 2018 and January 25, 2019 was $417.8 million and $408.8 million, respectively.
During the second quarter of 2018, we paid off at maturity $200.0 million principal amount of 7.5% unsecured notes.
During the first quarter of 2018, the Operating Partnership issued $350.0 million aggregate principal amount of 4.125% notes
due 2028, less original issuance discount of $4.1 million. These notes were priced to yield 4.271%. During 2017, we obtained
$150.0 million notional amount of forward-starting swaps. Upon issuance of the notes, we terminated the forward-starting swaps
and received cash upon settlement. The unrealized gain of $7.0 million in accumulated other comprehensive income will be
reclassified to interest expense as interest payments are made on the debt and a gain of $0.2 million of hedge ineffectiveness was
recognized in interest expense. Underwriting fees and other expenses were incurred that aggregated $2.9 million; these costs were
deferred and will be amortized over the term of the notes. The net effect of the amortization of these items resulted in an effective
fixed interest rate of 4.120%.
During the second quarter of 2018, we entered into $150.0 million notional amount of forward-starting swaps that effectively
lock the underlying 10-year treasury rate at 2.91% with respect to a planned issuance of debt securities by the Operating Partnership
expected to occur prior to June 11, 2019. During the fourth quarter of 2018, we entered into $75.0 million notional amount of
forward-starting swaps that effectively lock the underlying 10-year treasury rate at 2.78% with respect to such planned issuance.
The counterparties under our swaps are major financial institutions.
We regularly evaluate the financial condition of the financial institutions that participate in our credit facilities and as
counterparties under interest rate swap agreements using publicly available information. Based on this review, we currently expect
these financial institutions to perform their obligations under our existing facilities and swap agreements.
For information regarding our interest hedging activities and other market risks associated with our debt financing activities,
see "Item 7A. Quantitative and Qualitative Disclosures About Market Risk."
Covenant Compliance
We are currently in compliance with financial covenants and other requirements with respect to our consolidated debt. 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.
Our revolving credit facility and bank term loans require us to comply with customary operating covenants and various
financial requirements. Upon an event of default on the revolving credit facility, the lenders having at least 51.0% of the total
commitments under the revolving credit facility can accelerate all borrowings then outstanding, and we could be prohibited from
borrowing any further amounts under our revolving credit facility, which would adversely affect our ability to fund our operations.
In addition, certain of our unsecured debt agreements contain cross-default provisions giving the unsecured lenders the right to
declare a default if we are in default under more than $30.0 million with respect to other loans in some circumstances.
30
As of December 31, 2018, the Operating Partnership had the following unsecured notes outstanding ($ in thousands):
Notes due June 2021
Notes due January 2023
Notes due March 2027
Notes due March 2028
Face Amount
300,000
$
250,000
$
300,000
$
350,000
$
$
$
$
$
Carrying
Amount
Stated
Interest Rate
Effective
Interest Rate
298,936
248,938
296,734
346,208
3.200%
3.625%
3.875%
4.125%
3.363%
3.752%
4.038%
4.271%
The indenture that governs these outstanding notes requires us to comply with customary operating covenants and various
financial ratios. The trustee or the holders of at least 25.0% in principal amount of any series of notes can accelerate the principal
amount of such series upon written notice of a default that remains uncured after 60 days.
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 distributions.
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 best interest, such as funding new development activity, making opportunistic acquisitions, repurchasing
our securities or paying distributions.
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, 2018 ($ in thousands):
Amounts due during the years ending December 31,
Total
2019
2020
2021
2022
2023
Thereafter
Mortgages and Notes Payable:
Principal payments (1)
Interest payments
$ 2,104,179
$
1,876
$ 226,952
$ 302,032
$ 584,115
$ 252,201
$
737,003
401,487
74,922
71,370
63,311
46,468
29,968
115,448
Capitalized Lease Obligations
33
18
15
—
—
Purchase Obligations:
Lease and contractual commitments and
contingent consideration (2)
Operating Lease Obligations:
484,801
267,976
99,039
114,573
930
—
—
—
2,283
Operating ground leases
97,860
2,184
2,223
2,263
2,305
2,308
86,577
Total
__________
$ 3,088,360
$ 346,976
$ 399,599
$ 482,179
$ 633,818
$ 284,477
$
941,311
(1) Excludes amortization of premiums, discounts, debt issuance costs and/or purchase accounting adjustments.
(2) Consists primarily of commitments under signed leases and contracts for operating properties, excluding tenant-funded tenant improvements,
and contracts for development/redevelopment projects. This includes $362.4 million of contractual commitments related to our in-process
development activity, of which $152.0 million is scheduled to be funded in 2019. For a description of our development activity, see "Item
2. Properties - In-Process Development." The timing of these lease and contractual commitments may fluctuate.
The interest payments due on mortgages and notes payable are based on the stated rates for the fixed rate debt and on the
rates in effect at December 31, 2018 for the variable rate debt. The weighted average interest rate on our fixed (including debt
with a variable rate that is effectively fixed by related interest rate swaps) and variable rate debt was 3.60% and 3.51%, respectively,
at December 31, 2018. For additional information about our mortgages and notes payable, see Note 5 to our Consolidated Financial
Statements. For additional information about purchase obligations and operating lease obligations, see Note 7 to our Consolidated
Financial Statements.
Dividends and Distributions
To maintain its qualification as a REIT, the Company must pay dividends to stockholders that are at least 90.0% of its annual
REIT taxable income, excluding net capital gains. The partnership agreement requires the Operating Partnership to distribute at
least enough cash for the Company to be able to pay such dividends. The Company's REIT taxable income, as determined by the
federal tax laws, does not equal its net income under accounting principles generally accepted in the United States of America
31
(GAAP). In addition, although capital gains are not required to be distributed to maintain REIT status, capital gains, if any, are
subject to federal and state income tax unless such gains are distributed to stockholders. See “Item 1A. Risk Factors - Cash
distributions reduce the amount of cash that would otherwise be available for other business purposes, including funding debt
maturities, reducing debt or future growth initiatives.”
The amount of future distributions that will be made is at the discretion of the Company's Board of Directors. The following
factors will affect such cash flows and, accordingly, influence the decisions of the Company’s Board of Directors regarding
dividends and distributions:
•
•
•
•
•
•
•
•
•
projections with respect to future REIT taxable income expected to be generated by the Company;
debt service requirements after taking into account debt covenants and the repayment and restructuring of certain
indebtedness and the availability of alternative sources of debt and equity capital and their impact on our ability to
refinance existing debt and grow our business;
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;
changes in operating expenses;
anticipated leasing capital expenditures attributable to the renewal of existing leases or replacement leases;
anticipated building improvements; and
expected cash flows from financing and investing activities, including from the sales of assets generating taxable gains
to the extent such assets are not sold in a tax-deferred exchange under Section 1031 of the Internal Revenue Code or
another tax-free or tax-deferred transaction.
During each quarter of 2018, the Company declared and paid a cash dividend of $0.4625 per share of Common Stock.
On February 5, 2019, the Company declared a cash dividend of $0.475 per share of Common Stock, which is payable on
March 5, 2019 to stockholders of record as of February 19, 2019.
Current and Future Cash Needs
We anticipate that our available cash and cash equivalents, cash flows from operating activities and other available financing
sources, including the issuance of debt securities by the Operating Partnership, the issuance of secured debt, bank term loans,
borrowings under our revolving credit facility, the issuance of equity securities by the Company or the Operating Partnership and
the disposition of non-core assets, will be adequate to meet our short-term liquidity requirements.
We had $3.8 million of cash and cash equivalents as of December 31, 2018. The unused capacity of our revolving credit
facility at December 31, 2018 and January 25, 2019 was $417.8 million and $408.8 million, respectively, excluding an accordion
feature that allows for an additional $400.0 million of borrowing capacity subject to additional lender commitments.
We have a currently effective automatic shelf registration statement on Form S-3 with the SEC pursuant to which, at any time
and from time to time, in one or more offerings on an as-needed basis, the Company may sell an indefinite amount of common
stock, preferred stock and depositary shares and the Operating Partnership may sell an indefinite amount of debt securities, subject
to our ability to effect offerings on satisfactory terms based on prevailing market conditions.
The Company from time to time enters into equity distribution agreements with a variety of firms pursuant to which the
Company may offer and sell shares of common stock from time to time through such firms, acting as agents of the Company or
as principals. Sales of the shares, if any, may be made by means of ordinary brokers’ transactions on the NYSE or otherwise at
market prices prevailing at the time of sale, at prices related to prevailing market prices or at negotiated prices or as otherwise
agreed with any of such firms (which may include block trades).
32
During 2019, we also expect to sell $100 million to $150 million of properties no longer considered to be core assets due to
location, age, quality and/or overall strategic fit. We can make no assurance, however, that we will sell any non-core assets or, if
we do, what the timing or terms of any such sale will be.
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 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 used in the preparation of our Consolidated Financial Statements are described in Note 1 to our Consolidated
Financial Statements. However, certain of our significant accounting policies contain an increased level of assumptions used or
estimates made in determining their impact in our Consolidated Financial Statements. Management has reviewed and determined
the appropriateness of our critical accounting policies and estimates with the audit committee of the Company's Board of Directors.
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;
•
•
Impairments of real estate assets and investments in unconsolidated affiliates;
Sales of real estate;
• Rental and other revenues; and
• Allowance for doubtful accounts.
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 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 depreciated cost. Development expenditures include pre-construction costs essential to the development of
properties, development and construction costs, interest costs on qualifying assets, real estate taxes, development personnel 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, but not later than a year from cessation of major construction activity. We consider a
construction project as substantially completed and ready for its intended use upon the completion of tenant improvements. We
cease capitalization on the portion that is 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 amortized
cost. Such expenditures are part of the investment necessary to execute leases and, therefore, are classified as investment activities
in the statement of cash flows. All leasing commissions paid to third parties for new leases or lease renewals are capitalized.
Internal leasing costs, which consist primarily of compensation, benefits and other costs, such as legal fees related to leasing
activities, that are incurred in connection with successfully obtaining leases of properties are also capitalized. 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. Estimated costs related to unsuccessful activities are expensed as incurred.
We record liabilities for the performance of asset retirement activities when the obligation to perform such activities is probable
even when uncertainty exists about the timing and/or method of settlement.
33
Upon the acquisition of real estate assets, we assess the fair value of acquired tangible assets such as land, buildings and tenant
improvements, intangible assets and liabilities such as above and below market leases, acquired in-place leases, customer
relationships and other identifiable intangible assets and assumed liabilities. We assess fair value based on estimated cash flow
projections that utilize 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.
The above and below market rate portions of leases acquired in connection with property acquisitions are recorded in deferred
leasing costs and in accounts payable, accrued expenses and other liabilities, respectively, at fair value and amortized into rental
revenue over the remaining term of the respective leases as described below. 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) our 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 initial term of the lease for above-market leases and the remaining initial term plus
the term of any renewal option that the customer would be economically compelled to exercise for below-market leases.
In-place leases acquired are recorded at fair value in deferred leasing costs 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 customer's lease. Factors considered include estimates of carrying costs during hypothetical expected lease-
up periods, current market conditions, the customer's credit quality 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.
Real estate and other assets are classified as long-lived assets held for use or as long-lived assets held for sale. Real estate is
classified as held for sale when the sale of the asset is probable, has been duly approved by the Company, a legally enforceable
contract has been executed and the buyer's due diligence period, if any, has expired.
Impairments of Real Estate Assets and Investments in Unconsolidated Affiliates
With respect to assets classified as held for use, we perform an impairment analysis if events or changes in circumstances
indicate that the carrying value may be impaired, such as a significant decline in occupancy, identification of materially adverse
legal or environmental factors, change in our designation of an asset from core to non-core, which may impact the anticipated
holding period, or a decline in market value to an amount less than cost. This analysis is generally performed at the property level,
except when an asset is part of an interdependent group such as an office park, and consists of determining whether the asset's
carrying amount will be recovered from its undiscounted estimated future operating and 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 customers, changes in market rental rates, costs to operate each property and expected ownership
periods. For properties under development, the cash flows are based on expected service potential of the asset or asset group when
development is substantially complete.
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 carrying amount. We generally
estimate the fair value of assets held for use by using discounted cash flow analyses. In some instances, appraisal information may
be available and is used in addition to a 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 properties held for use.
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.
We also analyze our investments in unconsolidated affiliates for impairment. This analysis consists of determining whether
an expected loss in market value of an investment is other than temporary by evaluating the length of time and the extent to which
the market value has been less than cost, the financial condition and near-term prospects of the investment, and our intent and
ability to retain our investment for a period of time sufficient to allow for any anticipated recovery in market value. As the factors
used in this analysis are difficult to predict and are subject to future events that may alter our assumptions, we may be required to
recognize future impairment losses on our investments in unconsolidated affiliates.
34
Sales of Real Estate
For sales of real estate where we have collected the consideration to which we are entitled in exchange for transferring the
real estate, 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. Any post sale involvement is accounted for as separate performance obligations and when the separate
performance obligations are satisfied, the sales price allocated to each is recognized.
Rental and Other Revenues
Minimum contractual rents from leases are 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
customer assumes control 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. Contingent rental revenue, such as percentage
rent, is accrued when the contingency is removed. Termination fee income is recognized at the later of when the customer has
vacated the space or the lease has expired and a fully executed lease termination agreement has been delivered, the amount of the
fee is determinable and collectability of the fee is reasonably assured.
Cost recovery income is determined on a calendar year and a lease-by-lease basis. The most common types of cost recovery
income in our leases are common area maintenance (“CAM”) and real estate taxes, for which a customer typically pays its pro-
rata share of operating and administrative expenses and real estate taxes in excess of the costs incurred during a contractually
specified base year. The computation of cost recovery income is complex and involves numerous judgments, including the
interpretation of lease provisions. Leases are not uniform in dealing with such cost recovery income and there are many variations
in the computation. Many customers make monthly fixed payments of CAM, real estate taxes and other cost reimbursement items.
We accrue income related to these payments each month. We make quarterly accrual adjustments, positive or negative, to cost
recovery income to adjust the recorded amounts to our best estimate of the final annual amounts to be billed and collected. After
the end of the calendar year, we compute each customer's final cost recovery income and, after considering amounts paid by the
customer during the year, issue a bill or credit for the appropriate amount to the customer. 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, which occurs during the first half of the subsequent year.
Allowance for Doubtful Accounts
Accounts receivable, accrued straight-line rents receivable and mortgages and notes receivable are reduced by an allowance
for amounts that may become uncollectible in the future. 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
customer, historical trends of the customer and changes in customer payment terms. Additionally, with respect to customers in
bankruptcy, we estimate the probable recovery through bankruptcy claims and adjust the allowance for amounts deemed
uncollectible. If our assumptions regarding the collectability of receivables prove incorrect, we could experience losses in excess
of our allowance for doubtful accounts. The allowance and its related receivable are written-off when we have concluded there is
a low probability of collection and we have discontinued collection efforts.
Non-GAAP Information
The Company believes that FFO, FFO available for common stockholders and FFO available for common stockholders per
share are beneficial to management and investors and are important indicators of the performance of any equity REIT. Because
these FFO calculations exclude such factors as depreciation, amortization and impairments 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. 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, management believes the use of FFO, FFO available for common stockholders and FFO available for common
stockholders per share, together with the required GAAP presentations, provides a more complete understanding of the Company's
performance relative to its competitors and a more informed and appropriate basis on which to make decisions involving operating,
financing and investing activities.
FFO, FFO available for common stockholders and FFO available for common stockholders 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
35
share as defined by GAAP are the most relevant measures in determining the Company's operating performance because these
FFO measures include adjustments that investors may deem subjective, such as adding back expenses such as depreciation,
amortization and impairments. Furthermore, FFO available for common stockholders per share does not depict the amount that
accrues directly to the stockholders' benefit. Accordingly, FFO, FFO available for common stockholders and FFO available for
common stockholders per share should never be considered as alternatives to net income, net income available for common
stockholders, or net income available for common stockholders per share as indicators of the Company's operating performance.
The Company's presentation of FFO is consistent with FFO as defined by NAREIT, which is calculated as follows:
• Net income/(loss) computed in accordance with GAAP;
• Less net income attributable to noncontrolling interests in consolidated affiliates;
•
Plus depreciation and amortization of depreciable operating properties;
• Less gains, or plus losses, from sales of depreciable operating properties, plus impairments on depreciable operating
properties and excluding items that are classified as extraordinary items under GAAP;
•
•
Plus or minus our share of adjustments, including depreciation and amortization of depreciable operating properties, for
unconsolidated joint venture investments (to reflect funds from operations on the same basis); and
Plus or minus adjustments for depreciation and amortization and gains/(losses) on sales of depreciable operating properties,
plus impairments on depreciable operating properties, and noncontrolling interests in consolidated affiliates related to
discontinued operations.
In calculating FFO, the Company includes net income attributable to noncontrolling interests in the Operating Partnership,
which the Company believes is consistent with standard industry practice for REITs that operate through an UPREIT structure.
The Company believes 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 its Common Stock.
The following table sets forth the Company's FFO, FFO available for common stockholders and FFO available for common
stockholders per share ($ in thousands, except per share amounts):
Funds from operations:
Net income
Net (income) attributable to noncontrolling interests in consolidated affiliates
Depreciation and amortization of real estate assets
(Gains) on disposition of depreciable properties
Unconsolidated affiliates:
Depreciation and amortization of real estate assets
(Gains) on disposition of depreciable properties
Discontinued operations:
(Gains) on disposition of depreciable properties
Funds from operations
Dividends on Preferred Stock
Funds from operations available for common stockholders
Funds from operations available for common stockholders per share
Weighted average shares outstanding (1)
__________
(1) Includes assumed conversion of all potentially dilutive Common Stock equivalents.
Year Ended December 31,
2018
2017
2016
$
177,630
$
191,663
$
541,139
(1,207)
227,045
(37,096)
(1,239)
225,052
(53,170)
(1,253)
217,533
(8,915)
2,284
—
—
2,298
(4,617)
2,978
(2,173)
—
(414,496)
368,656
359,987
334,813
(2,492)
366,164
3.45
$
$
(2,492)
357,495
3.39
$
$
(2,501)
332,312
3.28
$
$
106,268
105,594
101,398
In addition, the Company believes NOI and same property NOI are useful supplemental measures of the Company’s property
operating performance because such metrics provide a performance measure of the revenues and expenses directly involved in
owning real estate assets and a perspective not immediately apparent from net income or FFO. The Company defines NOI as rental
36
and other revenues less rental property and other expenses. The Company defines cash NOI as NOI less lease termination fees,
straight-line rent, amortization of lease incentives and amortization of acquired above and below market leases. Other REITs may
use different methodologies to calculate NOI, same property NOI and cash NOI.
As of December 31, 2018, our same property portfolio consisted of 210 in-service properties encompassing 28.1 million
rentable square feet that were wholly owned during the entirety of the periods presented (from January 1, 2017 to December 31,
2018). As of December 31, 2017, our same property portfolio consisted of 210 in-service properties encompassing 28.0 million
rentable square feet that were wholly owned during the entirety of the periods presented (from January 1, 2016 to December 31,
2017). The change in our same property portfolio was due to the addition of one property encompassing 0.2 million rentable square
feet acquired during 2016 and two newly developed properties encompassing 0.3 million rentable square feet placed in service
during 2016. These additions were offset by the removal of three properties encompassing 0.5 million rentable square feet that
were sold during 2018.
Rental and other revenues related to properties not in our same property portfolio were $59.9 million and $54.1 million for
the years ended December 31, 2018 and 2017, respectively. Rental property and other expenses related to properties not in our
same property portfolio were $14.3 million and $15.1 million for the years ended December 31, 2018 and 2017, respectively.
The following table sets forth the Company’s NOI and same property NOI:
Income before disposition of investment properties and activity in unconsolidated affiliates
$
137,754
$
130,102
Year Ended December 31,
2018
2017
Other income
Interest expense
General and administrative expenses
Impairments of real estate assets
Depreciation and amortization
Net operating income
Less – non same property and other net operating income
Same property net operating income
Same property net operating income
Less – lease termination fees, straight-line rent and other non-cash adjustments
Same property cash net operating income
(1,940)
71,422
40,006
423
229,955
477,620
(45,568)
432,052
432,052
(17,036)
415,016
$
$
$
(2,283)
69,105
39,648
1,445
227,832
465,849
(39,057)
426,792
426,792
(14,829)
411,963
$
$
$
37
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. Actual future results may differ materially from those presented. See “Item 7. 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.
We borrow funds at a combination of fixed and variable rates. Borrowings under our revolving credit facility and bank term
loans bear interest at variable rates. Our long-term debt, which consists of secured and unsecured long-term financings, typically
bears interest at fixed rates. Our interest rate risk management objectives are to limit generally the impact of interest rate changes
on earnings and cash flows and 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 existing and prospective debt instruments. We generally do not hold or issue these derivative contracts for trading
or speculative purposes.
At December 31, 2018, we had $1,288.0 million principal amount of fixed rate debt outstanding, a $145.6 million increase
as compared to December 31, 2017, excluding debt with a variable rate that is effectively fixed by related interest rate hedge
contracts. The estimated aggregate fair market value of this debt was $1,259.9 million. If interest rates had been 100 basis points
higher, the aggregate fair market value of our fixed rate debt would have been $68.3 million lower. If interest rates had been 100
basis points lower, the aggregate fair market value of our fixed rate debt would have been $73.8 million higher.
At December 31, 2018, we had $532.0 million of variable rate debt outstanding, a $73.0 million decrease as compared to
December 31, 2017, not protected by interest rate hedge contracts. If the weighted average interest rate on this variable rate debt
had been 100 basis points higher, the annual interest expense would increase $5.3 million. If the weighted average interest rate
on this variable rate debt had been 100 basis points lower, the annual interest expense would decrease $5.3 million. On January 11,
2019, floating-to-fixed interest rate swaps with respect to an aggregate of $225.0 million of LIBOR-based borrowings expired.
Subsequently, as of January 25, 2019, we had $766.0 million of variable rate debt outstanding not protected by interest rate hedge
contracts. If the weighted average interest rate on this variable rate debt is 100 basis points higher, the annual interest expense
would increase $7.7 million. If the weighted average interest rate on this variable rate debt is 100 basis points lower, the annual
interest expense would decrease $7.7 million.
At December 31, 2018, we had $275.0 million of variable rate debt outstanding with $275.0 million of related floating-to-
fixed interest rate swaps. These swaps effectively fix the underlying one-month LIBOR rate at a weighted average rate of 1.681%.
If the underlying LIBOR interest rates increase or decrease by 100 basis points, the aggregate fair market value of the swaps at
December 31, 2018 would increase or decrease by $1.4 million. Of these swaps, $225.0 million notional amount that effectively
fixed the underlying one-month LIBOR at a weighted average rate of 1.678% expired on January 11, 2019.
During 2018, we entered into an aggregate of $225.0 million notional amount of forward-starting swaps that effectively lock
the underlying 10-year treasury rate at a weighted average of 2.86% with respect to a planned issuance of debt securities by the
Operating Partnership expected to occur prior to June 11, 2019. If the underlying treasury rate was to increase or decrease by 100
basis points, the aggregate fair market value of the swaps at December 31, 2018 would increase by $19.1 million or decrease by
$21.2 million, respectively, due to the 10-year term of such swaps.
We are exposed to certain losses in the event of nonperformance by the counterparties, which are major financial institutions,
under the swaps. We regularly evaluate the financial condition of our counterparties using publicly available information. Based
on this review, we currently expect the counterparties to perform fully under the swaps. However, if a counterparty defaults on its
obligations under a swap, we could be required to pay the full rates on the applicable debt, even if such rates were in excess of
the rate in the contract.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
See page 43 for Index to Consolidated Financial Statements of Highwoods Properties, Inc.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE
None.
38
ITEM 9A. CONTROLS AND PROCEDURES
General
The purpose of this section is to discuss our controls and procedures. The statements in this section represent the conclusions
of Edward J. Fritsch, the Company's Chief Executive Officer (“CEO”), and Mark F. Mulhern, the Company's Executive Vice
President and Chief Financial Officer (“CFO”).
The CEO and CFO evaluations of our controls and procedures include a review of the controls' objectives and design, the
controls' implementation by us 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 controls and procedures are also evaluated on an ongoing basis by or through the following:
•
•
activities undertaken and reports issued by employees responsible for testing our internal control over financial reporting;
quarterly sub-certifications by representatives from appropriate business and accounting functions to support the CEO's
and CFO's 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 the Company's Board of Directors.
We do not expect that our controls and procedures 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 controls and procedures 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 certain 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 the Company's Internal Control Over Financial Reporting
The Company's 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 GAAP. 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 transactions and dispositions
of assets;
provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in
accordance with GAAP, 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
assets that could have a material effect on the financial statements.
Under the supervision of the Company's CEO and CFO, we conducted an evaluation of the effectiveness of the Company's
internal control over financial reporting at December 31, 2018 based on the criteria established in Internal Control - Integrated
Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission.
We have concluded that, at December 31, 2018, the Company's internal control over financial reporting was effective. Deloitte
& Touche LLP, our independent registered public accounting firm, has issued their attestation report, which is included below, on
the effectiveness of the Company's internal control over financial reporting as of December 31, 2018.
39
Table of Contents
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the stockholders and the Board of Directors of Highwoods Properties, Inc.
Opinion on Internal Control over Financial Reporting
We have audited the internal control over financial reporting of Highwoods Properties, Inc. and subsidiaries (the “Company”) as
of December 31, 2018, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee
of Sponsoring Organizations of the Treadway Commission (COSO). In our opinion, the Company maintained, in all material
respects, effective internal control over financial reporting as of December 31, 2018, based on criteria established in Internal
Control - Integrated Framework (2013) issued by COSO.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States)
(PCAOB), the consolidated financial statements as of and for the year ended December 31, 2018 of the Company and our report
dated February 5, 2019 expressed an unqualified opinion on those financial statements.
Basis for Opinion
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, included in the accompanying Management's Annual Report on
the Company's Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal
control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required
to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and
regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. 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, assessing the risk that a material
weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and
performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable
basis for our opinion.
Definition and Limitations of Internal Control over Financial Reporting
A company’s internal control over financial reporting is a process designed 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 its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also,
projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because
of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/ Deloitte & Touche LLP
Raleigh, North Carolina
February 5, 2019
40
Table of Contents
Changes in Internal Control Over Financial Reporting
There were no changes in the Company’s internal control over financial reporting during the fourth quarter of 2018 that
materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
Disclosure Controls and Procedures
SEC rules 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 the Company’s CEO and CFO, to allow for timely decisions
regarding required disclosure. The Company’s CEO and CFO concluded that the Company’s disclosure controls and procedures
were effective at the end of the period covered by this Annual Report.
None.
ITEM 9B. OTHER INFORMATION
41
PART III
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
Information about the Company’s executive officers and directors, the code of ethics that applies to the Company’s chief
executive officer and senior financial officers, which is posted on our website, and certain corporate governance matters is
incorporated herein by reference to the Company’s Proxy Statement to be filed in connection with its annual meeting of stockholders
to be held on May 8, 2019. No changes have been made to the procedures by which stockholders may recommend nominees to
the Company's board of directors since the 2018 annual meeting, which was held on May 9, 2018. See Item X in Part I of this
Annual Report for biographical information regarding the Company’s executive officers. The Company is the sole general partner
of the Operating Partnership.
ITEM 11. EXECUTIVE COMPENSATION
Information about the compensation of the Company’s directors and executive officers is incorporated herein by reference to
the Company’s Proxy Statement to be filed in connection with its annual meeting of stockholders to be held on May 8, 2019.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED
STOCKHOLDER MATTERS
Information about the beneficial ownership of Common Stock and the Company’s equity compensation plans is incorporated
herein by reference to the Company’s Proxy Statement to be filed in connection with its annual meeting of stockholders to be held
on May 8, 2019.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS AND DIRECTOR INDEPENDENCE
Information about certain relationships and related transactions, if any, and the independence of the Company’s directors is
incorporated herein by reference to the Company’s Proxy Statement to be filed in connection with its annual meeting of stockholders
to be held on May 8, 2019.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
Information about fees paid to and services provided by our independent registered public accounting firm is incorporated
herein by reference to the Company’s Proxy Statement to be filed in connection with its annual meeting of stockholders to be held
on May 8, 2019.
42
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Highwoods Properties, Inc.
Report of Independent Registered Public Accounting Firm
Consolidated Financial Statements:
Consolidated Balance Sheets at December 31, 2018 and 2017
Consolidated Statements of Income for the Years Ended December 31, 2018, 2017 and 2016
Consolidated Statements of Comprehensive Income for the Years Ended December 31, 2018, 2017 and
2016
Consolidated Statements of Equity for the Years Ended December 31, 2018, 2017 and 2016
Consolidated Statements of Cash Flows for the Years Ended December 31, 2018, 2017 and 2016
Notes to Consolidated Financial Statements
Page
44
45
46
47
48
50
52
43
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the stockholders and the Board of Directors of Highwoods Properties, Inc.
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheets of Highwoods Properties, Inc. and subsidiaries (the “Company”)
as of December 31, 2018 and 2017, and the related consolidated statements of income, comprehensive income, equity, and cash
flows for each of the three years in the period ended December 31, 2018, and the related notes (collectively referred to as the
“financial statements”). In our opinion, the financial statements present fairly, in all material respects, the financial position of the
Company as of December 31, 2018 and 2017, and the results of its operations and its cash flows for each of the three years in the
period ended December 31, 2018, in conformity with accounting principles generally accepted in the United States of America.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States)
(PCAOB), the Company’s internal control over financial reporting as of December 31, 2018, based on criteria established in
Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway
Commission and our report dated February 5, 2019, expressed an unqualified opinion on the Company’s internal control over
financial reporting.
Basis for Opinion
These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on
the Company’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are
required to be independent with respect to the Company in accordance with the U.S federal securities laws and the applicable
rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the
audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error
or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether
due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis,
evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting
principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial
statements. We believe that our audits provide a reasonable basis for our opinion.
/s/ Deloitte & Touche LLP
Raleigh, North Carolina
February 5, 2019
We have served as the Company’s auditor since 2006.
44
HIGHWOODS PROPERTIES, INC.
Consolidated Balance Sheets
(in thousands, except share and per share data)
Assets:
Real estate assets, at cost:
Land
Buildings and tenant improvements
Development in-process
Land held for development
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 $1,166 and $753, respectively
Mortgages and notes receivable, net of allowance of $44 and $72, respectively
Accrued straight-line rents receivable, net of allowance of $641 and $819, respectively
Investments in and advances to unconsolidated affiliates
Deferred leasing costs, net of accumulated amortization of $149,275 and $143,512, respectively
Prepaid expenses and other assets, net of accumulated depreciation of $18,074 and $19,092,
respectively
Total Assets
Liabilities, Noncontrolling Interests in the Operating Partnership and Equity:
Mortgages and notes payable, net
Accounts payable, accrued expenses and other liabilities
Total Liabilities
Commitments and contingencies
December 31,
2018
2017
$
491,441
$
485,956
4,676,862
4,590,490
165,537
128,248
88,452
74,765
5,462,088
5,239,663
(1,296,562)
(1,202,424)
4,165,526
4,037,239
—
3,769
6,374
25,952
5,599
220,088
23,585
195,273
14,118
3,272
85,061
24,397
6,425
200,131
23,897
200,679
$
$
28,843
4,675,009
2,085,831
218,922
$
$
28,572
4,623,791
2,014,333
228,215
2,304,753
2,242,548
Noncontrolling interests in the Operating Partnership
105,960
144,009
Equity:
Preferred Stock, $.01 par value, 50,000,000 authorized shares;
8.625% Series A Cumulative Redeemable Preferred Shares (liquidation preference $1,000 per
share), 28,877 and 28,892 shares issued and outstanding, respectively
28,877
28,892
Common Stock, $.01 par value, 200,000,000 authorized shares;
103,557,065 and 103,266,875 shares issued and outstanding, respectively
Additional paid-in capital
Distributions in excess of net income available for common stockholders
Accumulated other comprehensive income
Total Stockholders’ Equity
Noncontrolling interests in consolidated affiliates
Total Equity
1,036
1,033
2,976,197
2,929,399
(769,303)
(747,344)
9,913
7,838
2,246,720
2,219,818
17,576
17,416
2,264,296
2,237,234
Total Liabilities, Noncontrolling Interests in the Operating Partnership and Equity
$
4,675,009
$
4,623,791
See accompanying notes to consolidated financial statements.
45
HIGHWOODS PROPERTIES, INC.
Consolidated Statements of Income
(in thousands, except per share amounts)
Year Ended December 31,
2018
2017
2016
$
720,035
$
702,737
$
665,634
Rental and other revenues
Operating expenses:
Rental property and other expenses
Depreciation and amortization
Impairments of real estate assets
General and administrative
Total operating expenses
Interest expense:
Contractual
Amortization of debt issuance costs
Other income:
Interest and other income
Losses on debt extinguishment
242,415
229,955
423
40,006
512,799
68,565
2,857
71,422
1,940
—
1,940
137,754
37,638
2,238
177,630
—
—
—
236,888
227,832
1,445
39,648
505,813
65,939
3,166
69,105
2,309
(26)
2,283
130,102
54,157
7,404
191,663
—
—
—
231,085
220,140
—
38,153
489,378
73,142
3,506
76,648
2,338
—
2,338
101,946
14,807
5,793
122,546
4,097
414,496
418,593
541,139
(15,596)
(1,253)
(2,501)
521,789
1.17
4.13
5.30
98,439
1.17
4.13
5.30
101,398
115,461
406,328
521,789
Income from continuing operations before disposition of investment properties and activity in
unconsolidated affiliates
Gains on disposition of property
Equity in earnings of unconsolidated affiliates
Income from continuing operations
Discontinued operations:
Income from discontinued operations
Net gains on disposition of discontinued operations
Net income
177,630
191,663
Net (income) attributable to noncontrolling interests in the Operating Partnership
Net (income) attributable to noncontrolling interests in consolidated affiliates
Dividends on Preferred Stock
Net income available for common stockholders
Earnings per Common Share – basic:
Income from continuing operations available for common stockholders
Income from discontinued operations available for common stockholders
Net income available for common stockholders
Weighted average Common Shares outstanding – basic
Earnings per Common Share – diluted:
Income from continuing operations available for common stockholders
Income from discontinued operations available for common stockholders
Net income available for common stockholders
Weighted average Common Shares outstanding – diluted
Net income available for common stockholders:
Income from continuing operations available for common stockholders
Income from discontinued operations available for common stockholders
Net income available for common stockholders
(4,588)
(1,207)
(2,492)
169,343
1.64
—
1.64
103,439
1.64
—
1.64
106,268
169,343
—
169,343
$
$
$
$
$
$
$
(5,059)
(1,239)
(2,492)
182,873
1.78
—
1.78
102,682
1.78
—
1.78
105,594
182,873
—
182,873
$
$
$
$
$
$
$
$
$
$
$
$
$
$
See accompanying notes to consolidated financial statements.
46
HIGHWOODS PROPERTIES, INC.
Consolidated Statements of Comprehensive Income
(in thousands)
Comprehensive income:
Net income
Other comprehensive income:
Unrealized gains on cash flow hedges
Amortization of cash flow hedges
Total other comprehensive income
Total comprehensive income
Less-comprehensive (income) attributable to noncontrolling interests
Comprehensive income attributable to common stockholders
$
Year Ended December 31,
2017
2016
2018
$
177,630
$
191,663
$
541,139
4,161
(2,086)
2,075
179,705
(5,795)
173,910
$
1,732
1,157
2,889
194,552
(6,298)
188,254
$
5,703
3,057
8,760
549,899
(16,849)
533,050
See accompanying notes to consolidated financial statements.
47
HIGHWOODS PROPERTIES, INC.
Consolidated Statements of Equity
(in thousands, except share amounts)
Number of
Common
Shares
Common
Stock
Series A
Cumulative
Redeemable
Preferred
Shares
Additional
Paid-In
Capital
Accumulated
Other
Compre-
hensive
Income/
(Loss)
Non-
controlling
Interests in
Consolidated
Affiliates
Distributions
in Excess of
Net Income
Available for
Common
Stockholders
Total
Balance at December 31, 2015
96,091,932
$
961
$
29,050
$ 2,598,242
$
(3,811)
$
17,975
$ (1,023,135)
$ 1,619,282
Issuances of Common Stock, net of issuance costs and
tax withholdings
Conversions of Common Units to Common Stock
Dividends on Common Stock ($1.70 per share)
Special dividend on Common Stock ($0.80 per share)
Dividends on Preferred Stock ($86.25 per share)
Adjustment of noncontrolling interests in the Operating
Partnership to fair value
Distributions to noncontrolling interests in consolidated
affiliates
Issuances of restricted stock
Redemptions/repurchases of Preferred Stock
Share-based compensation expense, net of forfeitures
Net (income) attributable to noncontrolling interests in
the Operating Partnership
Net (income) attributable to noncontrolling interests in
consolidated affiliates
Comprehensive income:
Net income
Other comprehensive income
Total comprehensive income
Balance at December 31, 2016
5,390,710
61,048
—
—
—
—
—
130,752
—
(8,888)
—
—
—
—
54
—
—
—
—
—
—
—
—
2
—
—
—
—
—
—
—
—
—
—
—
—
(130)
—
—
—
—
—
256,326
3,057
—
—
—
(12,993)
—
—
—
6,249
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
8,760
—
—
—
—
—
—
(1,267)
—
—
—
—
—
—
256,380
3,057
(166,861)
(166,861)
(81,205)
(2,501)
—
—
—
—
—
(81,205)
(2,501)
(12,993)
(1,267)
—
(130)
6,251
(15,596)
(15,596)
1,253
(1,253)
—
—
—
541,139
—
541,139
8,760
549,899
101,665,554
1,017
28,920
2,850,881
4,949
17,961
(749,412)
2,154,316
Issuances of Common Stock, net of issuance costs and
tax withholdings
Conversions of Common Units to Common Stock
Dividends on Common Stock ($1.76 per share)
Dividends on Preferred Stock ($86.25 per share)
Adjustment of noncontrolling interests in the Operating
Partnership to fair value
Distributions to noncontrolling interests in consolidated
affiliates
1,480,573
10,000
—
—
—
—
Issuances of restricted stock
110,748
Redemptions/repurchases of Preferred Stock
Share-based compensation expense, net of forfeitures
Net (income) attributable to noncontrolling interests in
the Operating Partnership
Net (income) attributable to noncontrolling interests in
consolidated affiliates
Comprehensive income:
Net income
Other comprehensive income
Total comprehensive income
Balance at December 31, 2017
—
—
—
—
—
—
15
—
—
—
—
—
—
—
1
—
—
—
—
—
—
—
—
—
—
—
(28)
—
—
—
—
—
70,962
511
—
—
354
—
—
—
6,691
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
2,889
—
—
—
—
—
(1,784)
—
—
—
—
—
—
70,977
511
(180,805)
(180,805)
(2,492)
(2,492)
—
—
—
—
—
354
(1,784)
—
(28)
6,692
(5,059)
(5,059)
1,239
(1,239)
—
—
—
191,663
—
191,663
2,889
194,552
103,266,875
$
1,033
$
28,892
$ 2,929,399
$
7,838
$
17,416
$
(747,344)
$ 2,237,234
48
HIGHWOODS PROPERTIES, INC.
Consolidated Statements of Equity - Continued
(in thousands, except share amounts)
Number of
Common
Shares
Common
Stock
Series A
Cumulative
Redeemable
Preferred
Shares
Additional
Paid-In
Capital
Accumulated
Other
Compre-
hensive
Income/
(Loss)
Non-
controlling
Interests in
Consolidated
Affiliates
Distributions
in Excess of
Net Income
Available for
Common
Stockholders
Total
Balance at December 31, 2017
103,266,875
$
1,033
$
28,892
$ 2,929,399
$
7,838
$
17,416
$
(747,344)
$ 2,237,234
Issuances of Common Stock, net of issuance costs and
tax withholdings
Conversions of Common Units to Common Stock
Dividends on Common Stock ($1.85 per share)
Dividends on Preferred Stock ($86.25 per share)
Adjustment of noncontrolling interests in the Operating
Partnership to fair value
Distributions to noncontrolling interests in consolidated
affiliates
Issuances of restricted stock
Redemptions/repurchases of Preferred Stock
Share-based compensation expense, net of forfeitures
Net (income) attributable to noncontrolling interests in
the Operating Partnership
Net (income) attributable to noncontrolling interests in
consolidated affiliates
Comprehensive income:
Net income
Other comprehensive income
Total comprehensive income
Balance at December 31, 2018
33,652
90,001
—
—
—
—
172,440
—
(5,903)
—
—
—
—
—
—
—
—
—
—
—
—
3
—
—
—
—
—
—
—
—
—
—
—
(15)
—
—
—
—
—
1,865
4,043
—
—
33,427
—
—
—
7,463
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
2,075
—
—
—
—
—
(1,047)
—
—
—
—
—
—
1,865
4,043
(191,302)
(191,302)
(2,492)
(2,492)
—
—
—
—
—
33,427
(1,047)
—
(15)
7,466
(4,588)
(4,588)
1,207
(1,207)
—
—
—
177,630
—
177,630
2,075
179,705
103,557,065
$
1,036
$
28,877
$ 2,976,197
$
9,913
$
17,576
$
(769,303)
$ 2,264,296
See accompanying notes to consolidated financial statements.
49
HIGHWOODS PROPERTIES, INC.
Consolidated Statements of Cash Flows
(in thousands)
Operating activities:
Net income
Adjustments to reconcile net income to net cash provided by operating activities:
Year Ended December 31,
2018
2017
2016
$
177,630
$
191,663
$
541,139
Depreciation and amortization
229,955
227,832
220,140
Amortization of lease incentives and acquisition-related intangible assets and
liabilities
Share-based compensation expense
Allowance for losses on accounts and accrued straight-line rents receivable
Accrued interest on mortgages and notes receivable
Amortization of debt issuance costs
Amortization of cash flow hedges
Amortization of mortgages and notes payable fair value adjustments
Impairments of real estate assets
Losses on debt extinguishment
Net gains on disposition of property
Equity in earnings of unconsolidated affiliates
Distributions of earnings from unconsolidated affiliates
Settlement of cash flow hedges
Changes in operating assets and liabilities:
Accounts receivable
Prepaid expenses and other assets
Accrued straight-line rents receivable
Accounts payable, accrued expenses and other liabilities
Net cash provided by operating activities
(1,943)
7,466
1,212
(451)
2,857
(2,086)
1,449
423
—
(37,638)
(2,238)
2,104
7,216
1,759
1,217
(23,203)
(7,101)
358,628
(1,172)
6,692
1,508
(509)
3,166
1,157
705
1,445
26
(54,157)
(7,404)
5,078
7,322
(4,974)
7,908
(32,234)
(1,520)
352,532
Investing activities:
Investments in acquired real estate and related intangible assets, net of cash acquired
Investments in development in-process
Investments in tenant improvements and deferred leasing costs
Investments in building improvements
Net proceeds from disposition of real estate assets
Distributions of capital from unconsolidated affiliates
Investments in mortgages and notes receivable
Repayments of mortgages and notes receivable
Investments in and advances to unconsolidated affiliates
Repayments from unconsolidated affiliates
Changes in other investing activities
Net cash provided by/(used in) investing activities
$
(50,649)
(150,310)
(121,534)
(68,256)
88,813
105
—
1,312
—
—
(6,230)
(306,749) $
(1,840)
(150,944)
(109,742)
(63,780)
129,503
11,670
—
2,917
(10,063)
—
(8,023)
(200,302) $
(1,996)
6,251
2,001
(502)
3,506
3,057
(234)
—
—
(429,303)
(5,793)
4,424
—
3,401
(4,423)
(24,245)
(11,618)
305,805
(110,249)
(177,875)
(91,423)
(80,672)
684,371
2,766
(7,934)
1,699
(105)
448
(4,764)
216,262
50
HIGHWOODS PROPERTIES, INC.
Consolidated Statements of Cash Flows – Continued
(in thousands)
Financing activities:
Dividends on Common Stock
Special dividend on Common Stock
Redemptions/repurchases of Preferred Stock
Dividends on Preferred Stock
Distributions to noncontrolling interests in the Operating Partnership
Special distribution to noncontrolling interests in the Operating Partnership
Distributions to noncontrolling interests in consolidated affiliates
Proceeds from the issuance of Common Stock
Costs paid for the issuance of Common Stock
Repurchase of shares related to tax withholdings
Borrowings on revolving credit facility
Repayments of revolving credit facility
Borrowings on mortgages and notes payable
Repayments of mortgages and notes payable
Payments of debt extinguishment costs
Changes in debt issuance costs and other financing activities
Net cash used in financing activities
Net increase/(decrease) in cash and cash equivalents and restricted cash
Cash and cash equivalents and restricted cash at beginning of the period
Cash and cash equivalents and restricted cash at end of the period
Reconciliation of cash and cash equivalents and restricted cash:
Cash and cash equivalents at end of the period
Restricted cash at end of the period
Cash and cash equivalents and restricted cash at end of the period
Supplemental disclosure of cash flow information:
$
$
$
$
Year Ended December 31,
2018
2017
2016
(191,302) $
—
(15)
(2,492)
(5,167)
—
(1,047)
3,637
(95)
(1,677)
438,900
(501,900)
345,863
(211,803)
—
(2,971)
(130,069)
(78,190)
88,333
10,143
$
(180,805) $
(81,205)
(28)
(2,492)
(4,987)
(2,271)
(1,784)
76,268
(1,283)
(4,008)
780,300
(535,300)
656,001
(832,553)
(57)
(8,324)
(142,528)
9,702
78,631
88,333
$
(166,861)
—
(130)
(2,501)
(4,888)
—
(1,267)
264,769
(3,973)
(4,416)
287,600
(586,600)
150,000
(395,993)
—
(981)
(465,241)
56,826
21,805
78,631
Year Ended December 31,
2018
2017
2016
3,769
6,374
10,143
$
$
3,272
85,061
88,333
$
$
49,490
29,141
78,631
Year Ended December 31,
2018
2017
2016
Cash paid for interest, net of amounts capitalized
$
67,235
$
68,207
$
72,847
Supplemental disclosure of non-cash investing and financing activities:
Year Ended December 31,
2018
2017
2016
$
Unrealized gains on cash flow hedges
Conversions of Common Units to Common Stock
Changes in accrued capital expenditures
Write-off of fully depreciated real estate assets
Write-off of fully amortized leasing costs
Write-off of fully amortized debt issuance costs
Adjustment of noncontrolling interests in the Operating Partnership to fair value
Contingent consideration in connection with the acquisition of land
Special dividend on Common Stock declared
Special distribution to noncontrolling interests in the Operating Partnership declared
$
4,161
4,043
(165)
76,558
34,191
2,733
(33,427)
—
—
—
$
1,732
511
(1,912)
59,108
40,517
11,724
(354)
750
—
—
5,703
3,057
8,580
39,262
25,569
964
12,993
—
(81,205)
(2,271)
See accompanying notes to consolidated financial statements.
51
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2018
(tabular dollar amounts in thousands, except per share data)
1. Description of Business and Significant Accounting Policies
Description of Business
Highwoods Properties, Inc. (the “Company”) is a fully integrated real estate investment trust (“REIT”) that provides leasing,
management, development, construction and other customer-related services for its properties and for third parties. The Company
conducts its activities through Highwoods Realty Limited Partnership (the “Operating Partnership”). At December 31, 2018, we
owned or had an interest in 30.5 million rentable square feet of in-service properties, 1.8 million rentable square feet of properties
under development and approximately 350 acres of development land.
The Company is the sole general partner of the Operating Partnership. At December 31, 2018, the Company owned all of
the Preferred Units and 103.1 million, or 97.4%, of the Common Units in the Operating Partnership. Limited partners owned the
remaining 2.7 million Common Units. In the event the Company issues shares of Common Stock, the net proceeds of the issuance
are contributed to the Operating Partnership in exchange for additional Common Units. Generally, the Operating Partnership is
obligated to redeem each Common Unit at the request of the holder thereof for cash equal to the value of one share of Common
Stock based on the average of the market price for the 10 trading days immediately preceding the notice date of such redemption,
provided that the Company, at its option, may elect to acquire any such Common Units presented for redemption for cash or one
share of Common Stock. The Common Units owned by the Company are not redeemable. During 2018, the Company redeemed
90,001 Common Units for a like number of shares of Common Stock.
Basis of Presentation
Our Consolidated Financial Statements are prepared in conformity with accounting principles generally accepted in the United
States of America (“GAAP”).
The Company's Consolidated Financial Statements include the Operating Partnership, wholly owned subsidiaries and those
entities in which the Company has the controlling interest. We consolidate joint venture investments, such as interests in partnerships
and limited liability companies, when we control the major operating and financial policies of the investment through majority
ownership, in our capacity as a general partner or managing member or through some other contractual right. At December 31,
2018, three properties owned through a joint venture investment were consolidated.
All intercompany transactions and accounts have been eliminated.
Use of Estimates
The preparation of consolidated financial statements in accordance with GAAP requires us to make estimates and assumptions
that affect the amounts reported in our Consolidated Financial Statements and accompanying notes. Actual results could differ
from those estimates.
Insurance
Beginning in 2018, we are primarily self-insured for health care claims for participating employees. We have stop-loss coverage
to limit our exposure to significant claims on a per claim and annual aggregate basis. We determine our liabilities for claims,
including incurred but not reported losses, based on all relevant information, including actuarial estimates of claim liabilities. At
December 31, 2018, a reserve of $0.5 million was recorded to cover estimated reported and unreported claims.
52
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
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 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. Depreciation expense for
real estate assets was $191.0 million, $184.4 million and $173.1 million for the years ended December 31, 2018, 2017 and 2016,
respectively.
Expenditures directly related to the development and construction of real estate assets are included in net real estate assets
and are stated at depreciated cost. Development expenditures include pre-construction costs essential to the development of
properties, development and construction costs, interest costs on qualifying assets, real estate taxes, development personnel 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, but not later than a year from cessation of major construction activity. We consider a
construction project as substantially completed and ready for its intended use upon the completion of tenant improvements. We
cease capitalization on the portion that is 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 amortized
cost. Such expenditures are part of the investment necessary to execute leases and, therefore, are classified as investment activities
in the statement of cash flows. All leasing commissions paid to third parties for new leases or lease renewals are capitalized. Internal
leasing costs, which consist primarily of compensation, benefits and other costs, such as legal fees related to leasing activities,
that are incurred in connection with successfully obtaining leases of properties are also capitalized. 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.
Estimated costs related to unsuccessful activities are expensed as incurred.
We record liabilities for the performance of asset retirement activities when the obligation to perform such activities is probable
even when uncertainty exists about the timing and/or method of settlement.
Upon the acquisition of real estate assets, we assess the fair value of acquired tangible assets such as land, buildings and tenant
improvements, intangible assets and liabilities such as above and below market leases, acquired in-place leases, customer
relationships and other identifiable intangible assets and assumed liabilities. We assess fair value based on estimated cash flow
projections that utilize 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.
The above and below market rate portions of leases acquired in connection with property acquisitions are recorded in deferred
leasing costs and in accounts payable, accrued expenses and other liabilities, respectively, at fair value and amortized into rental
revenue over the remaining term of the respective leases as described below. 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) our 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 initial term of the lease for above-market leases and the remaining initial term plus
the term of any renewal option that the customer would be economically compelled to exercise for below-market leases.
In-place leases acquired are recorded at fair value in deferred leasing costs 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 customer's lease. Factors considered include estimates of carrying costs during hypothetical expected lease-
up periods, current market conditions, the customer's credit quality 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.
53
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
Real estate and other assets are classified as long-lived assets held for use or as long-lived assets held for sale. Real estate is
classified as held for sale when the sale of the asset is probable, has been duly approved by the Company, a legally enforceable
contract has been executed and the buyer's due diligence period, if any, has expired.
Impairments of Real Estate Assets and Investments in Unconsolidated Affiliates
With respect to assets classified as held for use, we perform an impairment analysis if events or changes in circumstances
indicate that the carrying value may be impaired, such as a significant decline in occupancy, identification of materially adverse
legal or environmental factors, change in our designation of an asset from core to non-core, which may impact the anticipated
holding period, or a decline in market value to an amount less than cost. This analysis is generally performed at the property level,
except when an asset is part of an interdependent group such as an office park, and consists of determining whether the asset's
carrying amount will be recovered from its undiscounted estimated future operating and 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 customers, changes in market rental rates, costs to operate each property and expected ownership periods.
For properties under development, the cash flows are based on expected service potential of the asset or asset group when
development is substantially complete.
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 carrying amount. We generally
estimate the fair value of assets held for use by using discounted cash flow analyses. In some instances, appraisal information may
be available and is used in addition to a 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 properties held for use.
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.
We also analyze our investments in unconsolidated affiliates for impairment. This analysis consists of determining whether
an expected loss in market value of an investment is other than temporary by evaluating the length of time and the extent to which
the market value has been less than cost, the financial condition and near-term prospects of the investment, and our intent and
ability to retain our investment for a period of time sufficient to allow for any anticipated recovery in market value. As the factors
used in this analysis are difficult to predict and are subject to future events that may alter our assumptions, we may be required to
recognize future impairment losses on our investments in unconsolidated affiliates.
Sales of Real Estate
For sales of real estate where we have collected the consideration to which we are entitled in exchange for transferring the
real estate, 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. Any post sale involvement is accounted for as separate performance obligations and when the separate
performance obligations are satisfied, the sales price allocated to each is recognized.
54
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
Rental and Other Revenues
Minimum contractual rents from leases are 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
customer assumes control 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. Contingent rental revenue, such as percentage
rent, is accrued when the contingency is removed. Termination fee income is recognized at the later of when the customer has
vacated the space or the lease has expired and a fully executed lease termination agreement has been delivered, the amount of the
fee is determinable and collectability of the fee is reasonably assured.
Cost recovery income is determined on a calendar year and a lease-by-lease basis. The most common types of cost recovery
income in our leases are common area maintenance (“CAM”) and real estate taxes, for which a customer typically pays its pro-
rata share of operating and administrative expenses and real estate taxes in excess of the costs incurred during a contractually
specified base year. The computation of cost recovery income is complex and involves numerous judgments, including the
interpretation of lease provisions. Leases are not uniform in dealing with such cost recovery income and there are many variations
in the computation. Many customers make monthly fixed payments of CAM, real estate taxes and other cost reimbursement items.
We accrue income related to these payments each month. We make quarterly accrual adjustments, positive or negative, to cost
recovery income to adjust the recorded amounts to our best estimate of the final annual amounts to be billed and collected. After
the end of the calendar year, we compute each customer's final cost recovery income and, after considering amounts paid by the
customer during the year, issue a bill or credit for the appropriate amount to the customer. 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, which occurs during the first half of the subsequent year.
Allowance for Doubtful Accounts
Accounts receivable, accrued straight-line rents receivable and mortgages and notes receivable are reduced by an allowance
for amounts that may become uncollectible in the future. 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
customer, historical trends of the customer and changes in customer payment terms. Additionally, with respect to customers in
bankruptcy, we estimate the probable recovery through bankruptcy claims and adjust the allowance for amounts deemed
uncollectible. If our assumptions regarding the collectability of receivables prove incorrect, we could experience losses in excess
of our allowance for doubtful accounts. The allowance and its related receivable are written-off when we have concluded there is
a low probability of collection and we have discontinued collection efforts.
Discontinued Operations
Properties that are sold or classified as held for sale are classified as discontinued operations provided that the disposal
represents a strategic shift that has (or will have) a major effect on our operations and financial results. Interest expense is included
in discontinued operations if a related loan securing the sold property is to be paid off or assumed by the buyer in connection with
the sale.
Lease Incentives
Lease incentive costs, which are payments made to or on behalf of a customer as an incentive to sign a lease, are capitalized
in deferred leasing costs and amortized on a straight-line basis over the respective lease terms as a reduction of rental revenues.
55
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 Unconsolidated Affiliates
We account for our joint venture investments using the equity method of accounting when our interests represent a general
partnership interest but substantive participating rights or substantive kick out rights have been granted to the limited partners or
when our interests do not represent a general partnership interest and we do not control the major operating and financial policies
of the investment. These investments are initially recorded at cost as investments in unconsolidated affiliates and are subsequently
adjusted for our share of earnings and cash contributions and distributions. To the extent our 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
assets and included in our share of equity in earnings of unconsolidated affiliates.
Cash Equivalents
We consider highly liquid investments with an original maturity of three months or less when purchased to be cash equivalents.
Restricted Cash
Restricted cash represents cash deposits that are legally restricted or held by third parties on our behalf, such as construction-
related escrows, property disposition proceeds set aside and designated or intended to fund future tax-deferred exchanges of
qualifying real estate investments and escrows and reserves for debt service, real estate taxes and property insurance established
pursuant to certain mortgage financing arrangements.
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 pay dividends to its stockholders equal to at least 90.0% of
its annual REIT taxable income, excluding net capital gains. The partnership agreement requires the Operating Partnership to pay
economically equivalent distributions on outstanding Common Units at the same time that the Company pays dividends on its
outstanding Common Stock.
We conduct certain business activities through a taxable REIT subsidiary, as permitted under the Code. The taxable REIT
subsidiary is subject to federal, state and local income taxes on its taxable income. We record provisions for income taxes based
on its income recognized for financial statement purposes, including the effects of differences between such income and the amount
recognized for tax purposes.
Concentration of Credit Risk
At December 31, 2018, properties that we wholly own were leased to 1,654 customers. The geographic locations that comprise
greater than 10.0% of our rental and other revenues are Raleigh, Atlanta, Tampa and Nashville. Our customers engage in a wide
variety of businesses. No single customer generated more than 5% of our consolidated revenues during 2018.
We maintain our cash and cash equivalents and our restricted cash at financial or other intermediary institutions. The combined
account balances at each institution may 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. Additionally, from time to time in connection with tax-
deferred 1031 transactions, our restricted cash balances may be commingled with other funds being held by any such intermediary
institution, which would subject our balance to the credit risk of the institution.
56
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
Derivative Financial Instruments
We borrow funds at a combination of fixed and variable rates. Borrowings under our revolving credit facility and bank term
loans bear interest at variable rates. Our long-term debt typically bears interest at fixed rates. Our interest rate risk management
objectives are to limit generally the impact of interest rate changes on earnings and cash flows and 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 existing and prospective debt instruments. We
generally do not hold or issue these derivative contracts for trading or speculative purposes. The interest rate on all of our variable
rate debt is generally adjusted at one or three month intervals, subject to settlements under these interest rate hedge contracts.
Interest rate swaps involve the receipt of variable-rate amounts from a counterparty in exchange for making fixed-rate payments
over the life of the agreements without exchange of the underlying notional amount. The effective portion of changes in the fair
value of derivatives designated and that qualify as cash flow hedges is recorded in accumulated other comprehensive income/
(loss) and is subsequently reclassified into interest expense in the period that the hedged forecasted transaction affects earnings.
We account for terminated derivative instruments by recognizing the related accumulated comprehensive income/(loss) balance
in current earnings, unless the hedged forecasted transaction continues as originally planned, in which case we continue to amortize
the accumulated comprehensive income/(loss) into earnings over the originally designated hedge period.
Earnings Per Share
Basic earnings per share of the Company is computed by dividing net income available for common stockholders by the
weighted Common Shares outstanding - basic. Diluted earnings per share is computed by dividing net income available to common
stockholders (inclusive of noncontrolling interests in the Operating Partnership) by the weighted Common Shares outstanding -
basic plus the dilutive effect of options, warrants and convertible securities outstanding, including Common Units, using the
treasury stock method. Weighted Common Shares outstanding - basic includes all unvested restricted stock where dividends
received on such restricted stock are non-forfeitable.
Recently Issued Accounting Standards
The Financial Accounting Standards Board ("FASB") issued an accounting standards update ("ASU") that superseded the
revenue recognition requirements under previous guidance, which we adopted as of January 1, 2018. Several updates have been
issued subsequently that are intended to promote a more consistent interpretation and application of the principles outlined in the
ASU. The ASU requires the use of a new five-step model to recognize revenue from contracts with customers. The five-step model
requires that we identify the contract with the customer, identify the performance obligations in the contract, determine the
transaction price, allocate the transaction price to the performance obligations in the contract and recognize revenue when we
satisfy the performance obligations. We are also required to disclose information regarding the nature, amount, timing and
uncertainty of revenue and cash flows arising from contracts with customers. In analyzing our contracts with customers, we
determined that the most material potential impact from the adoption of this ASU would be in how revenue is recognized for sales
of real estate with post sale involvement. Prior to the adoption of this ASU, profit for such sales transactions was recognized and
then reduced by the maximum exposure to loss related to the nature of the post sale involvement at the time of sale. Upon adoption
of this ASU, any post sale involvement must be accounted for as a separate performance obligation in the contract and a portion
of the sales price allocated to each performance obligation. When the post sale involvement performance obligation is satisfied,
the portion of the sales price allocated to it will be recognized. We had no sales of real estate with continuing involvement during
the year ended December 31, 2018 or prior periods; however, we will use such methodology for any future real estate sales with
continuing involvement. Our internal controls with respect to accounting for such sales have been updated accordingly. Adoption
of this ASU resulted in no other changes with respect to the timing of revenue recognition or internal controls related to contracts
such as management, development and construction fees and transient parking income, all of which are not material to our
Consolidated Financial Statements. As such, there is no cumulative-effect adjustment from the adoption of this ASU reflected in
our Consolidated Financial Statements.
57
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 FASB issued an ASU that requires entities to show changes in total cash, cash equivalents, restricted cash and restricted
cash equivalents in the statement of cash flows. As a result, restricted cash and restricted cash equivalents will be included with
cash and cash equivalents when reconciling the beginning of period and end of period balances rather than presented as transfers
between cash and cash equivalents and restricted cash and restricted cash equivalents in the statement of cash flows. We adopted
the ASU as of January 1, 2018 with retrospective application to our Consolidated Statements of Cash Flows. Accordingly, our
Consolidated Statements of Cash Flows present a reconciliation of the changes in cash and cash equivalents and restricted cash.
The effect of the adoption resulted in a $55.9 million decrease in net cash used in investing activities for the year ended December 31,
2017 and a $12.4 million increase in net cash provided by investing activities for the year ended December 31, 2016.
The FASB issued an ASU that clarifies and narrows the definition of a business used in determining whether to account for
a transaction as an asset acquisition or business combination. The guidance requires evaluation of the fair value of the assets
acquired to determine if it is concentrated in a single identifiable asset or a group of similar identifiable assets. If so, the transferred
assets would not be a business. The guidance also requires a business to include at least one substantive process and narrows the
definition of outputs. We adopted the ASU prospectively as of January 1, 2018. We expect that the majority of our future acquisitions
would not meet the definition of a business; therefore, the related acquisition costs would be capitalized as part of the purchase
price.
The FASB issued an ASU that clarifies when changes to the terms or conditions of a share-based payment award must be
accounted for as modifications. The guidance requires modification accounting if the value, vesting conditions or classification
of the award changes. We adopted the ASU as of January 1, 2018 with no effect on our Consolidated Financial Statements.
The FASB issued an ASU that sets out the principles for the recognition, measurement, presentation and disclosure of leases
for both lessees and lessors. The new standard requires lessors to account for leases using an approach that is substantially equivalent
to existing guidance for sales-type leases, direct financing leases and operating leases. In addition, the guidance requires lessors
to capitalize and amortize only incremental direct leasing costs. The new standard requires lessees to apply a dual approach,
classifying leases as either finance or operating leases based on the principle of whether or not the lease is effectively a financed
purchase by the lessee. This classification will determine whether lease expense is recognized based on an effective interest method
or on a straight-line basis over the term of the lease, respectively. A lessee is also required to record a right of use asset and a lease
liability for all leases with a term of greater than a year regardless of their classification. Leases with a term of a year or less will
be accounted for in the same manner as operating leases today. The guidance supersedes previously issued guidance under ASC
Topic 840 “Leases.”
An entity may elect a package of practical expedients, which allows for the following:
• An entity need not reassess whether any expired or existing contracts are or contain leases;
• An entity need not reassess the lease classification for any expired or existing leases; and
• An entity need not reassess initial direct costs for any existing leases.
This package of practical expedients is available as a single election that must be consistently applied to all existing leases at
the date of adoption.
Furthermore, the FASB finalized an amendment that allows entities to present comparative periods, in the year of adoption,
under ASC 840, which effectively allows for an initial date of adoption of January 1, 2019. The amendment also provides a practical
expedient to lessors that removes the requirement to separate lease and non-lease components, provided certain conditions are
met.
58
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
Our analysis of our leases indicates that the lease component is the predominant component, that the timing and pattern of
transfer of our material non-lease components (primarily cost recovery income) are the same as the lease components and the lease
component, if it were accounted for separately, would be classified as an operating lease. As such, we believe the adoption of the
ASU will not significantly change the accounting or the related internal controls for rental and other revenues from operating
leases where we are the lessor, and that such leases will be accounted for in a manner similar to existing standards with the
underlying leased asset being reported and recognized as a real estate asset. Upon the adoption of the ASU, we will no longer
capitalize and amortize certain leasing related costs and instead will expense these costs as incurred. Such capitalized costs have
averaged approximately $2.5 million annually.
Leases where we are the lessee include primarily our operating ground leases. We currently believe that existing ground leases
executed before the adoption date will continue to be accounted for as operating leases and the new guidance will not have a
material impact on our recognition of ground lease expense or our results of operations. However, we will be required to recognize
a right of use asset and a lease liability on our Consolidated Balance Sheets equal to the present value of the minimum lease
payments required under each ground lease, which we believe will range from $31 million to $36 million. See Note 7 for information
regarding our ground lease commitments.
We will adopt the new ASU effective January 1, 2019 using the modified retrospective approach and will elect the use of all
practical expedients provided by the ASU and related amendments as mentioned above.
The FASB issued an ASU that eliminates the requirement to separately measure and report hedge ineffectiveness and generally
requires the entire change in the fair value of a hedging instrument to be presented in the same income statement line as the hedged
item when the hedged item affects earnings. The ASU is required to be adopted in 2019 using a modified retrospective approach.
We do not expect such adoption to have a material effect on our Consolidated Financial Statements.
The FASB issued an ASU that requires, among other things, the use of a new current expected credit loss ("CECL") model
in determining our allowances for doubtful accounts with respect to accounts receivable, accrued straight-line rents receivable and
mortgages and notes receivable. The FASB recently finalized its proposal to exclude operating lease receivables from the scope
of this ASU. As such, we do not expect the adoption of this ASU in 2020 to have a material effect on our Consolidated Financial
Statements.
The FASB issued an ASU that changes certain disclosure requirements for fair value measurements. The ASU is required to
be adopted in 2020 and applied prospectively. We do not expect such adoption to have a material effect on our Notes to Consolidated
Financial Statements.
2. Real Estate Assets
Acquisitions
During 2018, we acquired two development parcels totaling approximately nine acres in Nashville for an aggregate purchase
price, including capitalized acquisition costs, of $50.6 million.
During 2017, we acquired fee simple title to land in Raleigh that was previously subject to a ground lease for a purchase price,
including capitalized acquisition costs and contingent consideration, of $2.6 million.
During 2016, we acquired a building in Raleigh, which encompasses 243,000 rentable square feet, for a net purchase price
of $76.9 million. We expensed $0.3 million of acquisition costs (included in general and administrative expenses) related to this
acquisition. The assets acquired and liabilities assumed were recorded at fair value as determined by management, with the assistance
of third party specialists, based on information available at the acquisition date and on current assumptions as to future operations.
59
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
2. Real Estate Assets - Continued
During 2016, we also acquired:
•
•
•
fee simple title to the land underneath one of our buildings in Pittsburgh that was previously subject to a ground lease for
a purchase price of $18.5 million. We expensed $0.5 million of acquisition costs (included in general and administrative
expenses) related to this acquisition;
an acre of development land in Raleigh for a purchase price, including capitalized acquisition costs, of $5.8 million; and
14 acres of development land in Nashville for a purchase price, including capitalized acquisition costs, of $9.1 million.
Dispositions
During 2018, we sold a total of three buildings and various land parcels for an aggregate sale price of $90.6 million and
recorded aggregate gains on disposition of property of $37.6 million.
During 2017, we sold a total of 15 buildings and land for an aggregate sale price of $135.6 million (before closing credits to
buyer of $3.7 million) and recorded aggregate gains on disposition of property of $54.2 million.
During 2016, we sold:
•
•
substantially all of our wholly-owned Country Club Plaza assets in Kansas City (which we refer to as the “Plaza assets”)
for a sale price of $660.0 million (before closing credits to buyer of $4.8 million). We recorded gains on disposition of
discontinued operations of $414.5 million and a gain on disposition of property of $1.3 million related to the land; and
a 32,000 square foot building for a sale price of $4.7 million (before closing credits to buyer of $0.1 million) and recorded
a gain on disposition of property of $1.1 million. The buyer, which leased 79% of the building, is a family business
controlled by a director of the Company. The sale price exceeded the value set forth in an appraisal performed by a
reputable independent commercial real estate services firm that has no relationship with the director or any of his affiliates.
During 2016, we also sold two buildings and various land parcels for an aggregate sale price of $31.1 million (before closing
credits to buyer of $0.5 million) and recorded aggregate gains on disposition of property of $12.4 million. We deferred $0.4 million
of gain related to a land sale for a portion of the sale price that was escrowed for contingent future infrastructure work.
Impairments
We recorded aggregate impairments of real estate assets of $0.4 million and $1.4 million in 2018 and 2017, respectively. These
impairments resulted from changes in market-based inputs and our assumptions about the use of the assets.
60
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
3.
Investments in and Advances to Affiliates
Unconsolidated Affiliates
We have equity interests of up to 50.0% in various joint ventures with unrelated third parties that are accounted for using the
equity method of accounting because we have the ability to exercise significant influence over the operating and financial policies
of the joint venture investment. The difference between the cost of these investments and the net book value of the underlying net
assets was $0.6 million and $0.7 million at December 31, 2018 and 2017, respectively.
The following table sets forth our ownership in unconsolidated affiliates at December 31, 2018:
Joint Venture
Plaza Colonnade, Tenant-in-Common
Kessinger/Hunter & Company, LC
Highwoods DLF Forum, LLC
Highwoods DLF 98/29, LLC
Location
Kansas City
Kansas City
Raleigh
Orlando
Ownership
Interest
50.0%
26.5%
25.0%
22.8%
We receive development, management and leasing fees for services provided to certain of our joint ventures. These fees are
recognized in income to the extent of our respective joint venture partner's interest. During the years ended December 31, 2018,
2017 and 2016, we recognized $0.4 million, $1.4 million and $0.8 million, respectively, of development/construction, management
and leasing fees from our unconsolidated joint ventures. At both December 31, 2018 and 2017, we had receivables of $0.1 million
related to these fees in accounts receivable.
Consolidated Affiliates
We have a 50.0% ownership interest in Highwoods-Markel Associates, LLC (“Markel”), a consolidated joint venture. We are
the manager and leasing agent for Markel's properties, which are located in Richmond in exchange for customary management
and leasing fees. We consolidate Markel since we are the managing member and control the major operating and financial policies
of the entity. As controlling member, we have an obligation to cause this property-owning entity to distribute proceeds of liquidation
to the noncontrolling interest member in these partially owned properties only if the net proceeds received by the entity from the
sale of any of Markel's assets warrant a distribution as determined by the agreement governing the joint venture. We estimate the
value of such noncontrolling interest distributions would have been $30.1 million had the entity been liquidated at December 31,
2018. This estimated settlement value is based on the fair value of the underlying properties which is based on a number of
assumptions that are subject to economic and market uncertainties including, among others, demand for space, competition for
customers, changes in market rental rates and costs to operate each property. If the entity's underlying assets are worth less than
the underlying liabilities on the date of such liquidation, we would have no obligation to remit any consideration to the noncontrolling
interest holder.
61
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
4.
Intangible Assets and Below Market Lease Liabilities
The following table sets forth total intangible assets and acquisition-related below market lease liabilities, net of accumulated
amortization:
Assets:
Deferred leasing costs (including lease incentives and above market lease and in-place lease acquisition-
related intangible assets)
Less accumulated amortization
Liabilities (in accounts payable, accrued expenses and other liabilities):
Acquisition-related below market lease liabilities
Less accumulated amortization
December 31,
2018
2017
$
$
$
$
344,548
(149,275)
195,273
57,955
(32,307)
25,648
$
$
$
$
344,191
(143,512)
200,679
59,947
(28,214)
31,733
The following table sets forth amortization of intangible assets and below market lease liabilities:
Year Ended December 31,
2018
2017
2016
Amortization of deferred leasing costs and acquisition-related intangible assets (in
depreciation and amortization)
Amortization of lease incentives (in rental and other revenues)
Amortization of acquisition-related intangible assets (in rental and other revenues)
Amortization of acquisition-related intangible assets (in rental property and other expenses)
Amortization of acquisition-related below market lease liabilities (in rental and other
revenues)
$
$
$
$
$
36,486
1,908
1,677
557
$
$
$
$
41,187
1,765
2,921
557
$
$
$
$
44,968
1,779
3,851
557
(6,085) $
(6,415) $
(8,183)
The following table sets forth scheduled future amortization of intangible assets and below market lease liabilities:
Years Ending December 31,
2019
2020
2021
2022
2023
Thereafter
Amortization
of Deferred
Leasing Costs
and
Acquisition-
Related
Intangible
Assets (in
Depreciation
and
Amortization)
Amortization
of
Acquisition-
Related
Intangible
Assets (in
Rental and
Other
Revenues)
Amortization
of
Acquisition-
Related
Intangible
Assets (in
Rental
Property and
Other
Expenses)
Amortization
of
Acquisition-
Related Below
Market Lease
Liabilities (in
Rental and
Other
Revenues)
Amortization
of Lease
Incentives (in
Rental and
Other
Revenues)
$
35,862
$
1,730
$
1,261
$
31,285
26,702
22,392
18,972
43,147
1,445
1,205
982
914
4,851
957
631
462
308
1,100
$
553
514
—
—
—
—
(5,405)
(5,135)
(4,331)
(3,258)
(2,878)
(4,641)
$
178,360
$
11,127
$
4,719
$
1,067
$
(25,648)
Weighted average remaining amortization periods as of
December 31, 2018 (in years)
7.3
10.1
6.5
2.0
5.9
62
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
5. Mortgages and Notes Payable
Our mortgages and notes payable consist of the following:
Secured indebtedness: (1)
4.00% mortgage loan due 2029
Unsecured indebtedness:
7.50% notes due 2018 (2)
3.20% (3.363% effective rate) notes due 2021 (3)
3.625% (3.752% effective rate) notes due 2023 (4)
3.875% (4.038% effective rate) notes due 2027 (5)
4.125% (4.271% effective rate) notes due 2028 (6)
Variable rate term loan due 2018 (2)
Variable rate term loan due 2020 (7)
Variable rate term loan due 2022 (8)
Variable rate term loan due 2022 (9)
Revolving credit facility due 2022 (10)
Less-unamortized debt issuance costs
Total mortgages and notes payable, net
__________
December 31,
2018
2017
$
97,179
$
97,179
—
298,936
248,938
296,734
346,208
—
225,000
200,000
200,000
182,000
98,981
98,981
200,000
298,504
248,675
296,334
—
10,000
225,000
200,000
200,000
245,000
1,997,816
1,923,513
(9,164)
(8,161)
$
2,085,831
$
2,014,333
(1) Our secured mortgage loan was collateralized by real estate assets with an undepreciated book value of $147.6 million at December 31,
2018. Our 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.
(2) This debt was repaid in 2018.
(3) Net of unamortized original issuance discount of $1.1 million and $1.5 million as of December 31, 2018 and 2017, respectively.
(4) Net of unamortized original issuance discount of $1.1 million and $1.3 million as of December 31, 2018 and 2017, respectively.
(5) Net of unamortized original issuance discount of $3.3 million and $3.7 million as of December 31, 2018 and 2017, respectively.
(6) Net of unamortized original issuance discount of $3.8 million as of December 31, 2018.
(7) As more fully described in Note 6, we entered into floating-to-fixed interest rate swaps that effectively fixed LIBOR for $225.0 million of
this loan through January 11, 2019. Accordingly, the equivalent fixed rate of this amount was 2.78%.
(8) As more fully described in Note 6, we entered into floating-to-fixed interest rate swaps that effectively fix LIBOR for $50.0 million of this
loan through January 2022. Accordingly, the equivalent fixed rate of this amount is 2.79%. The interest rate on the remaining $150.0 million
was 3.45% at December 31, 2018.
(9) The interest rate was 3.61% at December 31, 2018.
(10) The interest rate was 3.46% at December 31, 2018.
63
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
5. Mortgages and Notes Payable - Continued
The following table sets forth scheduled future principal payments, including amortization, due on our mortgages and notes
payable at December 31, 2018:
Years Ending December 31,
2019
2020
2021
2022
2023
Thereafter
Less-unamortized debt issuance costs
$
Principal
Amount
367
225,444
300,757
583,038
251,376
734,013
(9,164)
$
2,085,831
During 2017, we entered into a new $600.0 million unsecured revolving credit facility, which replaced our previously existing
$475.0 million revolving credit facility, and includes an accordion feature that allows for an additional $400.0 million of borrowing
capacity subject to additional lender commitments. Our new revolving credit facility is scheduled to mature in January 2022.
Assuming no defaults have occurred, we have an option to extend the maturity for two additional six-month periods. The interest
rate on the new facility at our current credit ratings is LIBOR plus 100 basis points and the annual facility fee is 20 basis points.
The interest rate and facility fee are based on the higher of the publicly announced ratings from Moody's Investors Service or
Standard & Poor’s Ratings Services. The financial and other covenants under the new facility are similar to our previous credit
facility. We incurred $3.5 million of debt issuance costs, which will be amortized along with certain existing unamortized debt
issuance costs over the remaining term of our new revolving credit facility. We recorded $0.1 million of loss on debt extinguishment.
There was $182.0 million and $191.0 million outstanding under our new revolving credit facility at December 31, 2018 and
January 25, 2019, respectively. At both December 31, 2018 and January 25, 2019, we had $0.2 million of outstanding letters of
credit, which reduces the availability on our revolving credit facility. As a result, the unused capacity of our revolving credit facility
at December 31, 2018 and January 25, 2019 was $417.8 million and $408.8 million, respectively.
During 2018, we paid off at maturity $200.0 million principal amount of 7.5% unsecured notes. We also paid down $1.8
million of secured loan balances through principal amortization during 2018.
During 2018, the Operating Partnership issued $350.0 million aggregate principal amount of 4.125% notes due 2028, less
original issuance discount of $4.1 million. These notes were priced to yield 4.271%. Underwriting fees and other expenses were
incurred that aggregated $2.9 million; these costs were deferred and will be amortized over the term of the notes.
During 2017, we prepaid without penalty a secured mortgage loan with a fair market value of $108.2 million with an effective
interest rate of 4.22%. We recorded $0.4 million of gain on debt extinguishment related to this prepayment.
During 2017, we modified our $200.0 million, five-year unsecured bank term loan, which was originally scheduled to mature
in January 2019. The modified term loan is now scheduled to mature in November 2022 and the interest rate, based on current
credit ratings, was reduced from LIBOR plus 120 basis points to LIBOR plus 110 basis points. We incurred $1.1 million of debt
issuance costs, which will be amortized along with certain existing unamortized debt issuance costs over the remaining term of
the modified loan. We recorded $0.4 million of loss on debt extinguishment.
During 2017, we obtained a $100.0 million secured mortgage loan from a third party lender with an effective interest rate of
4.0%. This loan is scheduled to mature in May 2029. We incurred $0.8 million of debt issuance costs in connection with this loan,
which will be amortized over the term of the loan.
64
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
5. Mortgages and Notes Payable - Continued
During 2017, the Operating Partnership issued $300.0 million aggregate principal amount of 3.875% notes due 2027, less
original issuance discount of $4.0 million. These notes were priced to yield 4.038%. Underwriting fees and other expenses were
incurred that aggregated $2.5 million; these costs were deferred and will be amortized over the term of the notes.
During 2017, we paid off at maturity $379.7 million principal amount of 5.85% unsecured notes.
We previously amended our $225.0 million, seven-year unsecured bank term loan, which was scheduled to mature in January
2019. We increased the borrowed amount to $350.0 million. The amended term loan is scheduled to mature in June 2020 and the
interest rate, based on our current credit ratings, was reduced from LIBOR plus 175 basis points to LIBOR plus 110 basis points.
We incurred $1.3 million of debt issuance costs in connection with this amendment, which will be amortized along with existing
unamortized debt issuance costs over the remaining term of the new loan. During 2017, we prepaid without penalty $125.0 million
on this $350.0 million unsecured bank term loan. We recorded $0.4 million of loss on debt extinguishment related to this prepayment.
We previously acquired our joint venture partner’s 77.2% interest in a building in Orlando. Simultaneously with this acquisition,
the joint venture's previously existing mortgage note was restructured into a new $18.0 million first mortgage note and a $10.2
million subordinated note, both of which were scheduled to mature in July 2017. The first mortgage and subordinated notes had
effective interest rates of 5.36% and 8.6%, respectively. The subordinated note and accrued interest thereon was satisfied upon
payment of a "waterfall payment." During 2017, both notes were retired upon payment of the $18.0 million principal balance on
the first mortgage note and a $0.5 million waterfall payment relating to the subordinated note, which resulted in $0.4 million of
gain on debt extinguishment.
During 2016, we prepaid without penalty the remaining $43.6 million balance on a secured mortgage loan with an effective
interest rate of 7.5% that was originally scheduled to mature in August 2016.
During 2016, we borrowed an aggregate of $150.0 million under an unsecured bank term loan that is originally scheduled to
mature in January 2022. The interest rate on the term loan at our current credit ratings is LIBOR plus 110 basis points. During
2017, we amended our $150.0 million unsecured bank term loan by increasing the borrowed amount to $200.0 million. We incurred
$0.3 million of debt issuance costs in connection with this amendment, which will be amortized along with existing unamortized
debt issuance costs over the remaining term.
We previously obtained a $350.0 million, six-month unsecured bridge facility. The interest rate on the bridge facility at our
current credit ratings was LIBOR plus 110 basis points. During 2016, we prepaid without penalty the full balance on this unsecured
bridge facility.
Our revolving credit facility and bank term loans require us to comply with customary operating covenants and various
financial requirements. Upon an event of default on the revolving credit facility, the lenders having at least 51.0% of the total
commitments under the revolving credit facility can accelerate all borrowings then outstanding, and we could be prohibited from
borrowing any further amounts under our revolving credit facility, which would adversely affect our ability to fund our operations.
In addition, certain of our unsecured debt agreements contain cross-default provisions giving the unsecured lenders the right to
declare a default if we are in default under more than $30.0 million with respect to other loans in some circumstances.
We are currently in compliance with financial covenants with respect to our consolidated debt.
65
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
5. Mortgages and Notes Payable - Continued
The Operating Partnership has $298.9 million carrying amount of 2021 notes outstanding, $248.9 million carrying amount
of 2023 notes outstanding, $296.7 million carrying amount of 2027 notes outstanding and $346.2 million carrying amount of 2028
notes outstanding. The indenture that governs these outstanding notes requires us to comply with customary operating covenants
and various financial ratios. The trustee or the holders of at least 25.0% in principal amount of any series of notes can accelerate
the principal amount of such series upon written notice of a default that remains uncured after 60 days.
We have considered our short-term liquidity needs and the adequacy of our estimated cash flows from operating activities
and other available financing sources to meet these needs. We intend to meet these short-term liquidity requirements through a
combination of the following:
•
•
•
•
•
•
•
•
available cash and cash equivalents;
cash flows from operating activities;
issuance of debt securities by the Operating Partnership (some of which debt securities may be hedged to a fixed interest
rate pursuant to the forward-starting swaps referred to in Note 6);
issuance of secured debt;
bank term loans;
borrowings under our revolving credit facility;
issuance of equity securities by the Company or the Operating Partnership; and
the disposition of non-core assets.
Capitalized Interest
Total interest capitalized to development and significant building and tenant improvement projects was $6.7 million, $8.8
million and $8.2 million for the years ended December 31, 2018, 2017 and 2016, respectively.
6. Derivative Financial Instruments
During 2018, we entered into an aggregate of $225.0 million notional amount of forward-starting swaps that effectively lock
the underlying 10-year treasury rate at a weighted average of 2.86% with respect to a planned issuance of debt securities by the
Operating Partnership expected to occur prior to June 11, 2019.
During 2017, we entered into $150.0 million notional amount of forward-starting swaps that effectively locked the underlying
10-year treasury rate at 2.44% with respect to a planned issuance of debt securities by the Operating Partnership. Upon issuance
of the $350.0 million aggregate principal amount of 4.125% notes due 2028 during 2018, we terminated the forward-starting swaps
and received cash upon settlement. The unrealized gain of $7.0 million in accumulated other comprehensive income will be
reclassified to interest expense as interest payments are made on the debt and a gain of $0.2 million of hedge ineffectiveness was
recognized in interest expense.
During 2017, we also entered into floating-to-fixed interest rate swaps through January 2022 with respect to an aggregate
of $50.0 million LIBOR-based borrowings. These swaps effectively fix the underlying one-month LIBOR rate at a weighted
average rate of 1.693%.
During 2016, we entered into $150.0 million notional amount of forward-starting swaps that effectively locked the underlying
10-year treasury rate at 1.90% with respect to a planned issuance of debt securities by the Operating Partnership. Upon issuance
of the $300.0 million aggregate principal amount of 3.875% notes due 2027 during 2017, we terminated the forward-starting swaps
and received cash upon settlement. The unrealized gain of $7.3 million in accumulated other comprehensive income will be
reclassified to interest expense as interest payments are made on the debt.
66
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
6. Derivative Financial Instruments - Continued
We also had floating-to-fixed interest rate swaps through January 11, 2019 with respect to an aggregate of $225.0 million
LIBOR-based borrowings. These swaps effectively fixed the underlying one-month LIBOR rate at a weighted average rate of
1.678%.
The counterparties under our swaps are major financial institutions. The swap agreements contain a provision whereby if
we default on certain of our indebtedness and which default results in repayment of such indebtedness being, or becoming capable
of being, accelerated by the lender, then we could also be declared in default on our swaps.
Our interest rate swaps have been designated as and are being accounted for as cash flow hedges with the effective portion
of changes in fair value recorded in other comprehensive income each reporting period. No significant gain or loss was recognized
related to hedge ineffectiveness or to amounts excluded from effectiveness testing on our cash flow hedges during the years ended
December 31, 2018 and 2017. We have no collateral requirements related to our interest rate swaps.
Amounts reported in accumulated other comprehensive income related to derivatives will be reclassified to interest expense
as interest payments are made on our debt. During 2019, we estimate that $1.6 million will be reclassified as a net decrease to
interest expense.
The following table sets forth the gross fair value of our derivatives:
Derivatives:
Derivatives designated as cash flow hedges in prepaid expenses and other assets:
Interest rate swaps
Derivatives designated as cash flow hedges in accounts payable, accrued expenses and other
liabilities:
Interest rate swaps
December 31,
2018
2017
$
$
1,146
$
1,286
3,581
$
—
The following table sets forth the effect of our cash flow hedges on accumulated other comprehensive income and interest
expense:
Derivatives Designated as Cash Flow Hedges:
Amount of unrealized gains recognized in accumulated other comprehensive
income on derivatives (effective portion):
Interest rate swaps
Amount of (gains)/losses reclassified out of accumulated other comprehensive
income into contractual interest expense (effective portion):
Interest rate swaps
$
$
4,161
$
1,732
$
5,703
(2,086) $
1,157
$
3,057
Year Ended December 31,
2018
2017
2016
67
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
7. Commitments and Contingencies
Operating Ground Leases
Certain of our properties are subject to operating ground leases. Rental payments on these leases are adjusted periodically
based on either the consumer price index or on a pre-determined schedule. Total rental property expense recorded for operating
ground leases was $2.5 million, $2.5 million and $2.9 million for the years ended December 31, 2018, 2017 and 2016, respectively.
The following table sets forth our scheduled obligations for future minimum payments on operating ground leases at
December 31, 2018:
Years Ending December 31,
2019
2020
2021
2022
2023
Thereafter
Minimum
Payments
2,184
2,223
2,263
2,305
2,308
86,577
97,860
$
$
Lease and Contractual Commitments
We have $484.8 million of lease and contractual commitments at December 31, 2018. Lease and contractual commitments
represent commitments under signed leases and contracts for operating properties (excluding tenant-funded tenant improvements)
and contracts for development/redevelopment projects, of which $60.4 million was recorded on our Consolidated Balance Sheets
at December 31, 2018.
Contingent Consideration
We had $5.0 million at both December 31, 2018 and 2017 of contingent consideration related to certain parcels of acquired
development land in Raleigh, Atlanta and Nashville. The contingent consideration for each is payable in cash to a third party if
and to the extent future development milestones as outlined in the purchase agreements are met.
Environmental Matters
Substantially all of our in-service and development 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 are we aware
of, any environmental liability that we believe would have a material adverse effect on our Consolidated Financial Statements.
Litigation, Claims and Assessments
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, the estimated loss is accrued and charged to income in our 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 effect on our business, financial condition, results of operations or cash flows.
68
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
8. Noncontrolling Interests
Noncontrolling Interests in Consolidated Affiliates
At December 31, 2018, our noncontrolling interests in consolidated affiliates relate to our joint venture partner's 50.0% interest
in office properties in Richmond. Our joint venture partner is an unrelated third party.
Noncontrolling Interests in the Operating Partnership
Noncontrolling interests in the Operating Partnership relate to the ownership of Redeemable Common Units. Net income
attributable to noncontrolling interests in the Operating Partnership is computed by applying the weighted average percentage of
Redeemable Common Units during the period, as a percent of the total number of outstanding Common Units, to the Operating
Partnership’s net income for the period after deducting distributions on Preferred Units. When a noncontrolling unitholder redeems
a Common Unit for a share of Common Stock or cash, the noncontrolling interests in the Operating Partnership are reduced and
the Company’s share in the Operating Partnership is increased by the fair value of each security at the time of redemption.
The following table sets forth the Company's noncontrolling interests in the Operating Partnership:
Beginning noncontrolling interests in the Operating Partnership
Adjustment of noncontrolling interests in the Operating Partnership to fair value
Conversions of Common Units to Common Stock
Net income attributable to noncontrolling interests in the Operating Partnership
Distributions to noncontrolling interests in the Operating Partnership
Year Ended December 31,
2018
2017
$
144,009
$
144,802
(33,427)
(4,043)
4,588
(5,167)
(354)
(511)
5,059
(4,987)
Total noncontrolling interests in the Operating Partnership
$
105,960
$
144,009
The following table sets forth net income available for common stockholders and transfers from the Company's noncontrolling
interests in the Operating Partnership:
Net income available for common stockholders
$
169,343
$
182,873
$
521,789
Increase in additional paid in capital from conversions of Common Units to Common
Stock
4,043
511
3,057
Change from net income available for common stockholders and transfers from
noncontrolling interests
$
173,386
$
183,384
$
524,846
Year Ended December 31,
2018
2017
2016
69
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
9. Disclosure About Fair Value of Financial Instruments
The following summarizes the levels of inputs that we use to measure fair value.
Level 1. Quoted prices in active markets for identical assets or liabilities.
Our Level 1 asset is our investment in marketable securities that we use to pay benefits under our non-qualified deferred
compensation plan. Our Level 1 liability is our non-qualified deferred compensation obligation. The Company's Level 1
noncontrolling interests in the Operating Partnership relate to the ownership of Common Units by various individuals and entities
other than the Company.
Level 2. Observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities, quoted prices in
markets that are not active or other inputs that are observable or can be corroborated by observable market data for substantially
the full term of the related assets or liabilities.
Our Level 2 assets include the fair value of our mortgages and notes receivable and certain interest rate swaps. Our Level 2
liabilities include the fair value of our mortgages and notes payable and remaining interest rate swaps.
The fair value of mortgages and notes receivable and mortgages and notes payable is estimated by the income approach
utilizing contractual cash flows and market-based interest rates to approximate the price that would be paid in an orderly transaction
between market participants. The fair value of interest rate swaps is determined using the market standard methodology of netting
the discounted future fixed cash receipts and the discounted expected variable cash payments. The variable cash payments of
interest rate swaps are based on the expectation of future interest rates (forward curves) derived from observed market interest
rate curves. In addition, credit valuation adjustments are considered in the fair values to account for potential nonperformance
risk, but were concluded to not be significant inputs to the calculation for the periods presented.
Level 3. Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the
assets or liabilities.
Our Level 3 assets include any real estate assets recorded at fair value on a non-recurring basis as a result of our quarterly
impairment analysis, which are valued using the terms of definitive sales contracts or the sales comparison approach.
70
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
9. Disclosure About Fair Value of Financial Instruments - Continued
The following table sets forth our assets and liabilities and the Company's noncontrolling interests in the Operating Partnership
that are measured or disclosed at fair value within the fair value hierarchy.
Level 1
Level 2
Level 3
Quoted Prices
in Active
Markets for
Identical
Assets or
Liabilities
Total
Significant
Observable
Inputs
Significant
Unobservable
Inputs
Fair Value at December 31, 2018:
Assets:
Mortgages and notes receivable, at fair value (1)
$
5,599
$
— $
5,599
$
Interest rate swaps (in prepaid expenses and other assets)
1,146
—
1,146
Marketable securities of non-qualified deferred compensation plan (in
prepaid expenses and other assets)
Impaired real estate assets
Total Assets
Noncontrolling Interests in the Operating Partnership
Liabilities:
1,849
10,252
18,846
105,960
$
$
Mortgages and notes payable, net, at fair value (1)
$
2,056,248
1,849
—
1,849
105,960
—
—
$
$
6,745
$
— $
— $
2,056,248
$
$
$
$
Interest rate swaps (in accounts payable, accrued expenses and other
liabilities)
Non-qualified deferred compensation obligation (in accounts payable,
accrued expenses and other liabilities)
3,581
1,849
—
3,581
1,849
—
Total Liabilities
$
2,061,678
$
1,849
$
2,059,829
$
Fair Value at December 31, 2017:
Assets:
Mortgages and notes receivable, at fair value (1)
Interest rate swaps (in prepaid expenses and other assets)
Marketable securities of non-qualified deferred compensation plan (in
prepaid expenses and other assets)
Total Assets
Noncontrolling Interests in the Operating Partnership
Liabilities:
Mortgages and notes payable, net, at fair value (1)
Non-qualified deferred compensation obligation (in accounts payable,
accrued expenses and other liabilities)
Total Liabilities
__________
$
$
$
$
6,425
$
1,286
— $
6,425
$
—
1,286
2,388
10,099
144,009
2,015,689
$
$
$
2,388
2,388
144,009
$
$
—
7,711
$
— $
— $
2,015,689
$
2,388
2,388
—
$
2,018,077
$
2,388
$
2,015,689
$
—
—
—
10,252
10,252
—
—
—
—
—
—
—
—
—
—
—
—
—
(1) Amounts recorded at historical cost on our Consolidated Balance Sheets at December 31, 2018 and 2017.
The impaired real estate assets that were measured in the fourth quarter of 2018 and the third quarter of 2017 at fair values
of $10.3 million and $5.9 million, respectively, and deemed to be Level 3 assets were valued based primarily on market-based
inputs and our assumptions about the use of the assets, as observable inputs were not available. In the absence of observable inputs,
we estimate the fair value of real estate using unobservable local and national industry market data such as comparable sales, sales
contracts and appraisals to assist us in our estimation of fair value. Significant increases or decreases in any valuation inputs in
isolation would result in a significantly lower or higher fair value measurement.
71
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
10. Equity
Common Stock Issuances
During 2017, the Company issued 1,363,919 shares of Common Stock in public offerings and received net proceeds of $68.3
million. At December 31, 2018, the Company had 96.4 million remaining shares of Common Stock authorized to be issued under
its charter.
Common Stock Dividends
Dividends of the Company declared per share of Common Stock aggregated $1.85, $1.76 and $2.50 for the years ended
December 31, 2018, 2017 and 2016, respectively. Dividends declared in 2016 included a special cash dividend of $0.80 per share
declared in the quarter ended December 31, 2016 and paid January 10, 2017. The principal purpose of the special dividend was
to distribute taxable capital gains associated with the sales of the Plaza assets in 2016.
The following table sets forth the Company's estimated taxability to the common stockholders of dividends per share for
federal income tax purposes:
Ordinary income
Capital gains
Return of capital
Total
__________
Year Ended December 31,
2018
2017 (1)
2016 (1)
$
$
1.48
0.31
0.06
1.85
$
$
$
1.50
0.32
—
1.82
$
1.15
1.29
—
2.44
(1) During 2016, cash dividends declared on Common Stock totaled $2.50 per share, of which approximately $0.06 was recognized as a 2017
distribution for federal income tax purposes.
The Company's tax returns have not been examined by the Internal Revenue Service (“IRS”) and, therefore, the taxability of
dividends is subject to change.
Preferred Stock
The following table sets forth the Company's Preferred Stock:
Issue Date
Number of
Shares
Outstanding
(in thousands)
Carrying
Value
Liquidation
Preference
Per Share
Optional
Redemption
Date
December 31, 2018
8.625% Series A Cumulative Redeemable
2/12/1997
29
$ 28,877
December 31, 2017
8.625% Series A Cumulative Redeemable
2/12/1997
29
$ 28,892
$
$
1,000
2/12/2027
1,000
2/12/2027
Annual
Dividends
Payable
Per Share
$
$
86.25
86.25
72
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
10. Equity - Continued
The following table sets forth the Company's estimated taxability to the preferred stockholders of dividends per share for
federal income tax purposes:
8.625% Series A Cumulative Redeemable:
Ordinary income
Capital gains
Total
Year Ended December 31,
2018
2017
2016
$
$
71.22
15.03
86.25
$
$
71.00
15.25
86.25
$
$
40.65
45.60
86.25
The Company's tax returns have not been examined by the IRS and, therefore, the taxability of dividends is subject to change.
Warrants
At December 31, 2018 and 2017, we had 15,000 warrants outstanding with an exercise price of $32.50 per share. Upon exercise
of a warrant, the Company will contribute the exercise price to the Operating Partnership in exchange for Common Units. Therefore,
the Operating Partnership accounts for such warrants as if issued by the Operating Partnership. These warrants have no expiration
date.
73
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
11. Employee Benefit Plans
Officer, Management and Director Compensation Programs
Officers of the Company participate in an annual non-equity incentive program pursuant to which they are eligible to earn
cash payments based on a percentage of their annual base salary in effect for December of the applicable year. Under this component
of our executive compensation program, officers are eligible to earn additional cash compensation to the extent specific
performance-based metrics are achieved during the most recently completed year. The position held by each officer has a target
annual incentive percentage that ranges from 35% to 135% of base salary. The more senior the position, the greater the portion of
compensation that varies with performance.
The percentage amount an officer may earn under the annual non-equity incentive plan is the product of the target annual
incentive percentage times an “actual performance factor,” which can range from zero to 200%. The actual performance factor
depends upon the relationship between actual performance in specific areas at each of our divisions and predetermined goals. For
corporate officers, the actual performance factor is based on the goals and criteria applied to the Company’s performance as a
whole. For officers who oversee our divisions, the actual performance factor is based on the goals and criteria applied partly to
that division’s performance and partly to the Company’s performance overall. Amounts under our annual non-equity incentive
plan are accrued and expensed in the year earned, but are typically paid early in the following year.
Certain other employees participate in a similar annual non-equity incentive program. Incentive eligibility ranges from 6%
to 30% of annual base salary. The actual incentive payment is determined by a mix of the Company's overall performance, the
performance of any applicable division and the individual’s performance during each year. These amounts are also accrued and
expensed in the year earned, but are typically paid early in the following year.
The Company's officers are eligible to receive a mix of long-term equity incentive awards on or about March 1 of each year.
Prior to 2018, the mix generally consisted of stock options, time-based restricted stock and total return-based restricted stock. In
2018, the mix consisted of time-based restricted stock and total return-based restricted stock. Time-based restricted stock grants
are also made annually to directors and certain other employees. Dividends received on restricted stock are non-forfeitable and
are paid at the same rate and on the same date as on shares of Common Stock, except that, with respect to shares of total return-
based restricted stock issued to the Company's chief executive officer, dividends accumulate and are payable only if and to the
extent the shares vest. Dividends paid on subsequently forfeited shares are expensed. Additional shares of total return-based
restricted stock may be issued at the end of the applicable measurement periods if and to the extent actual performance exceeds
certain levels of performance. Such additional shares, if any, would be fully vested when issued. No expense is recorded for
additional shares of total return-based restricted stock that may be issued at the end of the applicable measurement period since
that possibility is reflected in the grant date fair value. The following table sets forth the number of shares of Common Stock
reserved for future issuance under the Company's long-term equity incentive plans:
Outstanding stock options and warrants
Possible future issuance under equity incentive plans
December 31,
2018
611,518
2,188,696
2,800,214
2017
655,822
2,404,131
3,059,953
Of the possible future issuance under the Company' long-term equity incentive plans at December 31, 2018, no more than an
additional 0.6 million shares can be in the form of restricted stock.
During the years ended December 31, 2018, 2017 and 2016, we recognized $7.5 million, $6.7 million and $6.3 million,
respectively, of share-based compensation expense. Because REITs generally do not pay income taxes, we do not realize tax
benefits on share-based payments. At December 31, 2018, there was $4.7 million of total unrecognized share-based compensation
costs, which will be recognized over a weighted average remaining contractual term of 2.2 years.
74
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
11. Employee Benefit Plans - Continued
- Stock Options
Stock options issued from 2014 through 2017 vest ratably on an annual basis over four years and expire after 10 years. Stock
options issued in 2012 and 2013 vest ratably on an annual basis over four years and expire after seven years. All stock options
have an exercise price equal to the last reported stock price of our Common Stock on the New York Stock Exchange on the last
trading day prior to grant. The value of all options as of the date of grant is calculated using the Black-Scholes option-pricing
model and is amortized over the respective vesting period or the service period, if shorter, for employees who are or will become
eligible under the Company's retirement plan. The weighted average fair values of options granted during 2017 and 2016 were
$6.72 and $4.61, respectively, per option. The fair values of the options granted were determined at the grant dates using the
following assumptions:
Risk free interest rate (1)
Common stock dividend yield (2)
Expected volatility (3)
Average expected option life (years) (4)
__________
2017
2016
2.0%
3.4%
19.5%
5.75
1.4%
3.9%
19.7%
5.75
(1) Represents the interest rate as of the grant date on US treasury bonds having the same life as the estimated life of the option grants.
(2) The dividend yield is calculated utilizing the then current regular dividend rate for a 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 is based on an analysis of the Company's historical data.
The following table sets forth stock option activity:
Stock options outstanding at December 31, 2015
Granted
Canceled
Exercised
Stock options outstanding at December 31, 2016
Granted
Exercised
Stock options outstanding at December 31, 2017
Exercised
Stock options outstanding at December 31, 2018 (1) (2)
__________
Options Outstanding
Number of
Options
Weighted
Average
Exercise Price
687,228
$
244,664
(14,743)
(330,034)
587,115
168,748
(115,041)
640,822
(44,304)
596,518
$
37.97
43.55
42.64
34.26
42.26
52.49
40.41
45.29
40.15
45.67
(1) The outstanding options at December 31, 2018 had a weighted average remaining life of 6.8 years.
(2) The Company had 303,674 options exercisable at December 31, 2018 with a weighted average exercise price of $43.67, weighted average
remaining life of 6.2 years and intrinsic value of $0.1 million. Of these exercisable options, 217,386 had exercise prices higher than the
market price of our Common Stock at December 31, 2018.
75
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
11. Employee Benefit Plans - Continued
Cash received or receivable from options exercised was $1.9 million, $5.2 million and $13.4 million for the years ended
December 31, 2018, 2017 and 2016, respectively. The total intrinsic value of options exercised during the years ended December 31,
2018, 2017 and 2016 was $0.4 million, $1.3 million and $4.8 million, respectively. The total intrinsic value of options outstanding
at December 31, 2018, 2017 and 2016 was $0.1 million, $3.9 million and $5.1 million, respectively. The Company generally does
not permit the net cash settlement of exercised stock options, but does permit net share settlement so long as the shares received
are held for at least a year. The Company has a practice of issuing new shares to satisfy stock option exercises.
- Time-Based Restricted Stock
Shares of time-based restricted stock vest ratably on an annual basis over four years. 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
period or the service period, if shorter, for employees who are or will become eligible under the Company's retirement plan.
The following table sets forth time-based restricted stock activity:
Restricted shares outstanding at December 31, 2015
Awarded and issued (1)
Vested (2)
Forfeited
Restricted shares outstanding at December 31, 2016
Awarded and issued (1)
Vested (2)
Restricted shares outstanding at December 31, 2017
Awarded and issued (1)
Vested (2)
Forfeited
Restricted shares outstanding at December 31, 2018
__________
Number of
Shares
Weighted
Average Grant
Date Fair
Value
204,720
$
72,698
(84,212)
(4,225)
188,981
61,404
(78,139)
172,246
94,984
(73,307)
(2,684)
191,239
$
39.74
43.59
37.76
41.96
42.06
52.49
40.55
46.46
43.01
44.19
45.89
45.62
(1) The weighted average fair value at grant date of time-based restricted stock issued during the years ended December 31, 2018, 2017 and
2016 was $4.1 million, $3.2 million and $3.2 million, respectively.
(2) The vesting date fair value of time-based restricted stock that vested during the years ended December 31, 2018, 2017 and 2016 was $3.2
million, $4.1 million and $3.7 million, respectively. Vested shares include those shares surrendered by employees to satisfy tax withholding
obligations in connection with such vesting.
76
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
11. Employee Benefit Plans - Continued
- Total Return-Based Restricted Stock
Shares of total return-based restricted stock vest to the extent the Company's absolute total returns for certain pre-determined
three-year periods exceed predetermined goals. The amount subject to vesting ranges from zero to 150%. Notwithstanding the
Company’s absolute total return, if the Company’s total return exceeds 100% of the average peer group total return index, at least
75% of total return-based restricted stock issued will vest at the end of the applicable period. The weighted average grant date fair
value of such shares of total return-based restricted stock issued in 2018, 2017 and 2016 was determined to be $40.81, $49.59 and
$41.37, respectively, and is amortized over the respective three-year period or the service period, if shorter, for employees who
are or will become eligible under the Company's retirement plan. The fair values of the total return-based restricted stock granted
were determined at the grant dates using a Monte Carlo simulation model and the following assumptions:
Risk free interest rate (1)
Common stock dividend yield (2)
Expected volatility (3)
__________
2018
2017
2016
2.3%
3.9%
41.1%
1.6%
3.5%
42.8%
0.9%
4.1%
43.1%
(1) Represents the interest rate as of the grant date on US treasury bonds having the same life as the estimated life of the total return-based
restricted stock grants.
(2) The dividend yield is calculated utilizing the then current regular dividend rate for a one-year period and the average per share price of
Common Stock during the three-month period preceding the date of grant.
(3) Based on the historical volatility of Common Stock over a period relevant to the related total return-based restricted stock grant.
The following table sets forth total return-based restricted stock activity:
Restricted shares outstanding at December 31, 2015
Awarded and issued (1) (3)
Vested (2) (3)
Forfeited
Restricted shares outstanding at December 31, 2016
Awarded and issued (1) (3)
Vested (2) (3)
Restricted shares outstanding at December 31, 2017
Awarded and issued (1)
Vested (2)
Forfeited (4)
Restricted shares outstanding at December 31, 2018
__________
Number of
Shares
Weighted
Average Grant
Date Fair
Value
195,303
64,701
(71,617)
(4,663)
183,724
84,013
(107,013)
160,724
77,456
(41,160)
(16,926)
180,094
$
$
36.66
40.87
36.50
39.91
39.82
44.76
37.88
44.72
40.81
45.61
45.24
43.34
(1) The fair value at grant date of total return-based restricted stock issued during the years ended December 31, 2018, 2017 and 2016 was $3.2
million, $2.4 million and $2.4 million, respectively, at target.
(2) The vesting date fair value of total return-based restricted stock that vested during the years ended December 31, 2018, 2017 and 2016 was
$1.8 million, $5.6 million and $3.1 million, respectively, based on the performance of the specific plans. Vested shares include those shares
surrendered by employees to satisfy tax withholding obligations in connection with such vesting.
(3) The 2017 and 2016 amounts include 34,669 and 6,647 additional shares, respectively, that were issued at the end of the applicable
measurement period because actual performance exceeded certain levels of performance.
(4) Includes 13,707 shares that were forfeited at the end of the applicable measurement period because the applicable total return did not meet
the target level.
77
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
11. Employee Benefit Plans - Continued
401(k) Retirement Savings Plan
We have a 401(k) Retirement Savings Plan covering substantially all employees who meet certain age and employment criteria.
We contribute amounts for each participant at a rate of 75% of the employee’s contribution (up to 6% of each employee’s bi-
weekly salary and cash incentives, subject to statutory limits). During the years ended December 31, 2018, 2017 and 2016, we
contributed $1.4 million, $1.4 million and $1.3 million, respectively, to the 401(k) savings plan. The assets of this qualified plan
are not included in our Consolidated Financial Statements since the assets are not owned by us.
Retirement Plan
The Company has a retirement plan for employees with at least 30 years of continuous service or are at least 55 years old with
at least 10 years of continuous service. Subject to advance written notice and a non-compete agreement, eligible retirees would
be entitled to receive a pro rata amount of any annual non-equity incentive compensation earned during the year of retirement and
stock options and time-based restricted stock would be non-forfeitable and vest according to the terms of their original grants.
Eligible retirees would also be entitled to retain any total return-based restricted stock that subsequently vests after the retirement
date according to the terms of their original grants. For employees who meet the age and service eligibility requirements, 100%
of their annual grants are expensed at the grant date as if fully vested. For employees who will meet the age and service eligibility
requirements within the normal vesting periods, the grants are amortized over the shorter service period.
Deferred Compensation
Prior to 2010, officers could elect to defer all or a portion of their cash compensation, which was then invested in unrelated
mutual funds under a non-qualified deferred compensation plan. These investments are recorded at fair value, which aggregated
$1.8 million and $2.4 million at December 31, 2018 and 2017, respectively, and are included in prepaid expenses and other assets,
with an offsetting deferred compensation liability recorded in accounts payable, accrued expenses and other liabilities. Deferred
amounts ultimately payable to the participants are based on the value of the related mutual fund investments. Accordingly, changes
in the value of the unrelated mutual funds are recorded in interest and other income and the corresponding offsetting changes in
the deferred compensation liability are recorded in general and administrative expense. As a result, there is no effect on our net
income.
The following table sets forth our deferred compensation liability:
Beginning deferred compensation liability
Mark-to-market adjustment to deferred compensation (in general and administrative
expenses)
Distributions from deferred compensation plans
Total deferred compensation liability
Employee Stock Purchase Plan
Year Ended December 31,
2018
2017
2016
2,388
$
2,451
$
2,736
(182)
(357)
492
(555)
1,849
$
2,388
$
222
(507)
2,451
$
$
The Company has an Employee Stock Purchase Plan ("ESPP") pursuant to which employees may contribute up to 25% of
their cash compensation for the purchase of Common Stock. At the end of each quarter, each participant's account balance, which
includes accumulated dividends, is applied to acquire shares of Common Stock at a cost that is calculated at 85% of the average
closing price on the New York Stock Exchange on the five consecutive days preceding the last day of the quarter. In the years
ended December 31, 2018, 2017 and 2016, the Company issued 38,951, 33,278 and 27,773 shares, respectively, of Common Stock
under the ESPP. The 15% discount on newly issued shares, which is taxable income to the participants and is recorded by us as
additional compensation expense, aggregated $0.3 million, $0.2 million and $0.2 million in the years ended December 31, 2018,
2017 and 2016, respectively. Generally, shares purchased under the ESPP must be held at least one year. The Company satisfies
its ESPP obligations by issuing additional shares of Common Stock.
78
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
12. Accumulated Other Comprehensive Income
The following table sets forth the components of accumulated other comprehensive income:
Cash flow hedges:
Beginning balance
Unrealized gains on cash flow hedges
Amortization of cash flow hedges (1)
Total accumulated other comprehensive income
__________
December 31,
2018
2017
$
$
7,838
4,161
(2,086)
9,913
$
$
4,949
1,732
1,157
7,838
(1) Amounts reclassified out of accumulated other comprehensive income into contractual interest expense.
13. Rental and Other Revenues
Our real estate assets are leased to customers under operating leases. The minimum rental amounts under the leases are
generally subject to scheduled fixed increases. Generally, the leases also provide that we receive cost recovery income from
customers for increases in certain costs above the costs incurred during a contractually specified base year.
The following table sets forth our scheduled future minimum base rents to be received from customers for leases in effect at
December 31, 2018 for the properties that we wholly own:
2019
2020
2021
2022
2023
Thereafter
$
$
618,014
581,399
524,381
488,157
428,461
2,068,891
4,709,303
79
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
14. Real Estate and Other Assets Held For Sale and Discontinued Operations
The following table sets forth the assets held for sale at December 31, 2018 and 2017, which are considered non-core:
Assets:
Land
Buildings and tenant improvements
Land held for development
Less-accumulated depreciation
Net real estate assets
Accrued straight-line rents receivable
Deferred leasing costs, net
Prepaid expenses and other assets
Real estate and other assets, net, held for sale
December 31,
2018
2017
$
$
— $
—
—
—
—
—
—
—
— $
870
21,318
355
(9,304)
13,239
591
253
35
14,118
The following tables set forth the results of operations and cash flows for the years ended December 31, 2018, 2017 and 2016
related to discontinued operations:
Rental and other revenues
Operating expenses:
Rental property and other expenses
General and administrative
Total operating expenses
Interest expense
Other income
Income from discontinued operations
Net gains on disposition of discontinued operations
Total income from discontinued operations
Cash flows from operating activities
Cash flows from investing activities
Year Ended December 31,
2018
2017
2016
$
— $
— $
8,484
—
—
—
—
—
—
—
— $
—
—
—
—
—
—
—
— $
3,334
1,388
4,722
85
420
4,097
414,496
418,593
Year Ended December 31,
2017
2016
2018
— $
— $
— $
— $
2,040
646,738
$
$
$
80
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
15. Earnings Per Share
The following table sets forth the computation of basic and diluted earnings per share of the Company:
Earnings per Common Share - basic:
Numerator:
Income from continuing operations
Net (income) attributable to noncontrolling interests in the Operating Partnership from
continuing operations
Net (income) attributable to noncontrolling interests in consolidated affiliates from continuing
operations
Dividends on Preferred Stock
Income from continuing operations available for common stockholders
Income from discontinued operations
Net (income) attributable to noncontrolling interests in the Operating Partnership from
discontinued operations
Income from discontinued operations available for common stockholders
Year Ended December 31,
2018
2017
2016
$
177,630
$
191,663
$
122,546
(4,588)
(5,059)
(3,331)
(1,207)
(2,492)
169,343
—
—
—
(1,239)
(2,492)
182,873
—
—
—
(1,253)
(2,501)
115,461
418,593
(12,265)
406,328
521,789
Net income available for common stockholders
$
169,343
$
182,873
$
Denominator:
Denominator for basic earnings per Common Share – weighted average shares
103,439
102,682
98,439
Earnings per Common Share - basic:
Income from continuing operations available for common stockholders
Income from discontinued operations available for common stockholders
Net income available for common stockholders
Earnings per Common Share - diluted:
Numerator:
Income from continuing operations
Net (income) attributable to noncontrolling interests in consolidated affiliates from continuing
operations
Dividends on Preferred Stock
Income from continuing operations available for common stockholders before net
(income) attributable to noncontrolling interests in the Operating Partnership
Income from discontinued operations available for common stockholders
$
$
$
1.64
—
1.64
$
$
1.78
—
1.78
$
$
1.17
4.13
5.30
177,630
$
191,663
$
122,546
(1,207)
(2,492)
173,931
—
(1,239)
(2,492)
187,932
—
(1,253)
(2,501)
118,792
418,593
Net income available for common stockholders before net (income) attributable to
noncontrolling interests in the Operating Partnership
$
173,931
$
187,932
$
537,385
Denominator:
Denominator for basic earnings per Common Share – weighted average shares
103,439
102,682
98,439
Add:
Stock options using the treasury method
Noncontrolling interests Common Units
Denominator for diluted earnings per Common Share – adjusted weighted average shares and
assumed conversions (1)
Earnings per Common Share - diluted:
33
2,796
79
2,833
87
2,872
106,268
105,594
101,398
Income from continuing operations available for common stockholders
Income from discontinued operations available for common stockholders
Net income available for common stockholders
$
$
1.64
—
1.64
$
$
1.78
—
1.78
$
$
1.17
4.13
5.30
__________
(1) Includes all unvested restricted stock where dividends on such restricted stock are non-forfeitable.
81
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
16. Income Taxes
Our Consolidated Financial Statements include the operations of the Company's taxable REIT subsidiary, which is not entitled
to the dividends paid deduction and is subject to federal, state and local income taxes on its taxable income.
The minimum dividend per share of Common Stock required for the Company to maintain its REIT status was $1.26, $1.37
and $0.99 per share in 2018, 2017 and 2016, respectively. 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. The tax basis of the
Company's assets (net of accumulated tax depreciation and amortization) and liabilities was approximately $4.3 billion and $2.3
billion, respectively, at December 31, 2018 and $4.1 billion and $2.3 billion, respectively, at December 31, 2017.
During the years ended December 31, 2018, 2017 and 2016, the Company qualified as a REIT and incurred no federal income
tax expense; accordingly, the only federal income taxes included in the accompanying Consolidated Financial Statements relate
to activities of the Company's taxable REIT subsidiary. Due to the passage of federal legislation commonly known as the "Tax
Cuts and Jobs Act," which was signed into law on December 22, 2017, the taxable REIT subsidiary was required to decrease the
deferred tax asset balance, which resulted in an increase to tax expense of $0.1 million in 2017.
The following table sets forth the Company's income tax expense/(benefit):
Year Ended December 31,
2018
2017
2016
Current tax expense/(benefit):
Federal
State
Deferred tax expense/(benefit):
Federal
State
$
133
112
245
(95)
(68)
(163)
Total income tax expense/(benefit)
$
82
$
$
(177) $
105
(72)
223
(9)
214
142
$
(38)
89
51
(160)
87
(73)
(22)
The Company's net deferred tax liability was $0.2 million and $0.3 million as of December 31, 2018 and 2017, respectively.
The net deferred tax liability is comprised primarily of tax versus book differences related to property (depreciation, amortization
and basis differences).
For the years ended December 31, 2018 and 2017, there were no unrecognized tax benefits. The Company is subject to federal,
state and local income tax examinations by taxing authorities for 2015 through 2018. The Company does not expect that the total
amount of unrecognized benefits will materially change within the next year.
82
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
17. Segment Information
Our principal business is the operation, acquisition and development of rental real estate properties. We evaluate our business
by geographic location. The operating results by geographic grouping are regularly reviewed by our chief operating decision maker
for assessing performance and other purposes. There are no material inter-segment transactions.
Our accounting policies of the segments are the same as those used in our Consolidated Financial Statements. All operations
are within the United States.
The following tables summarize the rental and other revenues and net operating income, the primary industry property-level
performance metric used by our chief operating decision maker and which is defined as rental and other revenues less rental
property and other expenses, for each of our reportable segments.
Rental and Other Revenues:
Office:
Atlanta
Greensboro
Memphis
Nashville
Orlando
Pittsburgh
Raleigh
Richmond
Tampa
Total Office Segment
Other
Total Rental and Other Revenues
Year Ended December 31,
2018
2017
2016
$
141,337
$
140,323
$
134,601
22,322
40,230
121,836
53,771
61,177
118,352
45,729
102,404
707,158
12,877
21,453
45,430
111,506
51,236
59,103
119,254
43,959
97,524
689,788
12,949
20,522
48,251
95,912
46,260
58,789
112,958
44,315
89,903
651,511
14,123
$
720,035
$
702,737
$
665,634
83
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
17. Segment Information - Continued
Net Operating Income:
Office:
Atlanta
Greensboro
Memphis
Nashville
Orlando
Pittsburgh
Raleigh
Richmond
Tampa
Total Office Segment
Other
Total Net Operating Income
Reconciliation to income from continuing operations before disposition of investment
properties and activity in unconsolidated affiliates:
Depreciation and amortization
Impairments of real estate assets
General and administrative expenses
Interest expense
Other income
Year Ended December 31,
2018
2017
2016
$
87,503
$
89,575
$
14,275
25,659
88,554
32,841
36,233
86,053
31,276
65,819
468,213
9,407
477,620
13,612
28,128
81,204
30,526
34,784
86,475
29,946
62,378
456,628
9,221
465,849
84,733
12,781
30,038
68,678
26,525
34,175
80,803
30,505
56,493
424,731
9,818
434,549
(229,955)
(227,832)
(220,140)
(423)
(40,006)
(71,422)
1,940
(1,445)
(39,648)
(69,105)
2,283
—
(38,153)
(76,648)
2,338
Income from continuing operations before disposition of investment properties and
activity in unconsolidated affiliates
$
137,754
$
130,102
$
101,946
84
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
17. Segment Information - Continued
Total Assets:
Office:
Atlanta
Greensboro
Memphis
Nashville
Orlando
Pittsburgh
Raleigh
Richmond
Tampa
Total Office Segment
Other
Total Assets
December 31,
2018
2017
$
1,047,850
$
1,049,100
118,611
213,276
937,732
306,370
329,918
792,464
248,669
522,263
134,194
218,088
806,725
306,970
334,136
762,331
229,468
550,375
4,517,153
157,856
4,391,387
232,404
$
4,675,009
$
4,623,791
85
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
18. Quarterly Financial Data (Unaudited)
The following tables set forth quarterly financial information of the Company:
Year Ended December 31, 2018
First
Quarter
Second
Quarter
Third
Quarter
Fourth
Quarter
Total
Rental and other revenues
$
180,438
$
178,792
$
179,417
$
181,388
$
720,035
Net income
34,246
52,998
35,009
55,377
177,630
Net (income) attributable to noncontrolling interests in
the Operating Partnership
Net (income) attributable to noncontrolling interests in
consolidated affiliates
Dividends on Preferred Stock
Net income available for common stockholders
Earnings per Common Share – basic:
Net income available for common stockholders
Earnings per Common Share – diluted:
Net income available for common stockholders
$
$
$
(888)
(286)
(623)
32,449
0.31
0.31
$
$
$
(1,381)
(308)
(623)
50,686
0.49
0.49
$
$
$
(902)
(324)
(623)
33,160
0.32
0.32
$
$
$
(1,417)
(4,588)
(289)
(623)
53,048
0.51
0.51
$
$
$
(1,207)
(2,492)
169,343
1.64
1.64
Year Ended December 31, 2017
First
Quarter
Second
Quarter
Third
Quarter
Fourth
Quarter
Total
Rental and other revenues
$
169,408
$
177,283
$
180,185
$
175,861
$
702,737
Net income
33,485
39,554
59,549
59,075
191,663
Net (income) attributable to noncontrolling interests in
the Operating Partnership
Net (income) attributable to noncontrolling interests in
consolidated affiliates
Dividends on Preferred Stock
Net income available for common stockholders
Earnings per Common Share – basic:
Net income available for common stockholders
Earnings per Common Share – diluted:
Net income available for common stockholders
$
$
$
(888)
(300)
(623)
31,674
0.31
0.31
$
$
$
(1,043)
(1,571)
(1,557)
(5,059)
(299)
(623)
37,589
0.37
0.37
$
$
$
(315)
(623)
57,040
0.55
0.55
$
$
$
(325)
(623)
56,570
0.55
0.55
$
$
$
(1,239)
(2,492)
182,873
1.78
1.78
19. Subsequent Events
On February 5, 2019 the Company declared a cash dividend of $0.475 per share of Common Stock, which is payable on
March 5, 2019 to stockholders of record as of February 19, 2019.
86