Highwoods Properties Inc (HIW) 2002 Q4 法說會逐字稿

Good morning. My name is Stephanie and I will be your conference facilitator. At this time I would like to welcome everyone to the Highwoods Properties’ fourth quarter and year end financial results conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks there will be a question and answer period. If you would like to ask a question, during this time, simply press star, then the number 1 on your telephone key pad. If you would like to withdraw your question, press star, then the number 2 on your telephone key pad. I would now like to turn the call over to Tabitha Zane, Senior Director Investor Relations. Thank you, Ms. Zane you may begin your conference.

Thanks Stephanie. Good morning everybody and welcome to our quarterly conference call. On the call today are Ron Gibson, CEO, Ed Fritsch, COO and Carman Liuzzo, CFO. If anyone on this call has not received a copy of our fourth quarter press release or our fourth quarter supplemental financial package please visit our website at www.highwoods.com or call 919-875-6717 and we'll fax or e-mail a copy to you.

Before we begin I would like to remind you that this conference call will include forward-looking statements concerning the company’s operations and financial condition, including [inaudible] dispositions and contributions to joint ventures, the reinvestment of disposition and joint venture proceeds, discussion of share repurchase activity, the cost and timing of development projects, rollover rents, occupancy expense, and revenue trends and funds from operation. Such statements are subject to various risks and uncertainties. Actual results could differ materially from those currently due to a number of factors including those identified in the company's annual report on form 10-K for the year ended December 31,2001. The company assumes no obligation to update or supplement forward looking statements that become untrue because of subsequent events. I will now turn the call over to Ron Gibson.

Yes, thank you, Tabitha and good morning everyone. There is really no doubt that the [inaudible] in industrial markets remain challenging and our regions continue to suffer the effects of low employment growth and overall economic softness. We're disappointed with fourth quarter FFO of 77 cents which was below the guidance we provided last quarter. The primary reasons we did not hit our target were a combination of factors, including higher bad debt expenses, lower lease termination fee income, lower capitalized interest on development projects and the dilution that occurred from $140 million of asset sales completed during the fourth quarter. All of these factors reduced FFO by approximately 7 cents per share.

There are a few indicators that may signal that we're truly at the bottom of what has been an incredibly ugly cycle, and these indications which we'll talk about in detail on today’s call give us some optimism that the steady erosion of our operating fundamentals that you saw throughout last year may have stopped or certainly at least slowed considerably.

Occupancy in our in-service portfolio was 84% at year end which reflects the loss of 816,000 square feet in Tampa, following WorldCom's rejection of the Intermedia lease as expected. Excluding the impact of WorldCom, occupancy would have been 86.2%, a 50 basis point decline from the third quarter. A large part of this decline was due to the addition of six development projects to our in-service portfolio, which added 591,000 square feet of office and industrial space at an average occupancy of 24%. Occupancy was also impacted by fourth quarter disposition activity during which we sold assets totaling 1.4 million square feet with an average occupancy of 93%. On a same-store basis, average occupancy for the quarter actually increased ten basis points to 86.9%, and this is the first sequential quarterly increase we've seen in over a year.

Another positive trend to report for the first time in over a year, our top five markets combined had positive net absorption in a quarter, in total Tampa, Research Triangle, Atlanta, Richmond and Nashville reported positive net absorption of 750,000 square feet. Looking at all of our markets combined, excluding Kansas City, where we primarily have retail, we saw positive absorption of 825,000 square feet in the fourth quarter with only three of our markets experiencing very modest negative absorption.

I do have a good news-bad news scenario to communicate. The good news is that the uncertainty surrounding WorldCom and U.S. Airways is gone. The bad news is that just over 900,000 square feet of total space was rejected, and $17.4 million of annualized revenues lost. As expected, and reported in December, Intermedia communications rejected their lease at Highwoods reserve in Tampa. The lease encompassed 816,000 square feet of office space and contributed $14.3 million in annual revenue. We still have 15 leases in place with WorldCom and its affiliates, encompassing about 167,000 square feet with an average remaining term of three years. At this point, based upon their current utilization of the space, we believe these leases will be accepted. However, we can't give you a 100% guarantee until they emerge from bankruptcy, and we are still accounting for the rent from WorldCom on a cash basis.

Our negotiations with U.S. Airways were concluded last week. As most of you know at the time of their bankruptcy filing they had leases encompassing 414,000 square feet with us, all located in Winston Salem. They'll remain in 293,000 square feet, and we've also agreed to a $600,000 reduction in their annualized rent on another lease. They had been paying above market rents and we felt this was the best solution to keep them in place. The lease expires in 2007 and we expect conditions will have improved by that time to reverse the rent roll-down.

We did a good job executing our capital recycling program, for the full year we completed $303 million of asset sales including 142 acres of land and 2.5 million square feet of office and industrial properties. For the year this resulted in a net gain of $31.4 million which included an impairment loss of $9.1 million which was related to the EPA campus. You may recall that we had originally estimated to complete between $150 and $250 million of asset recycling transactions last year. But the demand for real estate was so strong, we saw the opportunity to recognize value for our shareholders and sell assets at very favorable prices. So in most cases significantly above replacement costs. The average cap rate for the transactions completed in 2002 was 9.1%.

Since commencing our capital recycling program four years ago, we've sold over $2 billion in assets. We've also brought down the average age of our portfolio to 12.2 years, and to give you some perspective on this, this is the approximate age of the portfolio when we went public, approximately nine years ago.

This year, we expect disposition activity to total between $75 and $175 million, including $20 to $25 million in land sales. We currently have $146 million of assets under contract, letter of intent or held for sale. And based on the level of interest that we're seeing out there today, I'd anticipate that we'd end up on the high end of that range. We plan to use the proceeds to pay down debt, to fund our dividend and we'll evaluate share repurchases based on our financial flexibility as we move through the year.

As far as acquisitions this year, we continue to see very little in the way of attractive acquisition opportunities, and with interest rates expected to remain low, we're really not anticipating distressed sellers coming to the market. You can see that our development pipeline is as low as it's been in many, many years. In fact, it's almost nonexistent. We entered 2002 expecting to start $75 million or less of new development. And as market conditions worsened we pulled back our projects and ended up commencing only $6.9 million of new development activity in the year. One of which was in the Research triangle, and it is a redevelopment project. Currently we have 331,000 feet in development with only $6.4 million remaining to fund.

Our plans under current market conditions call for limited new development in '03. We're focusing our time and our resources on leasing space in our existing properties. Demand is weak, but we're hopeful that it will begin to pick up later in the year and we should note that employment trends in many of our markets are starting to stabilize. By example, in the fourth quarter Tampa, Charlotte, Research Triangle, Greenville and Nashville all showed positive employment growth. Atlanta is still losing jobs at a steady clip, as is Memphis while the Piedmont Triad showed positive employment growth in two of the three months in the quarter.

We continue to believe that when the recovery comes the southeast will lead the country in drive growth as it has done every time we have emerged from a downturn the last 25 years. Location, cost of living, cost of labor, all very advantageous in this part of the country and are key to this region's continued pop popularity. A recent REIT (ph) report, projecting office employment growth from '02 to '07 predicts national growth at 9%. In our markets, that growth is pegged at 12%.

Our business plan for '03 can be summed up in a word, it’s really all about occupancy. It is the company's mantra. We are living it and breathing it every day. We recognize that in `03 we’ve got 5.3 million square feet expiring and I know this is a concern for many of you and I'd be understating the task if I was going to say it was going to be a cake walk to renew or release the space. We're going to have to run twice as fast just to stay in place but there are encouraging signs. Today we've already renewed 1.8 million square feet and signed an additional 700,000 square feet of new leases with a 2003 start date. Or 43% of the space, so it's very encouraging.

Before I turn the call over to Ed, I want to emphasize once again that maintaining our dividend remains a high priority. And this year unless demand for office space improves significantly in our markets, we expect our dividend payout ratio to exceed 100%. This is based on an average occupancy between 82% and 84% in '03 and assumes no rental income from Highwoods reserve or the former Intermedia campus in Tampa or the properties rejected by U.S. Air. What this means is that with our current annual dividend of 2.34 we're looking at a shortfall of between $10 and $20 million, which we currently intend to fund using proceeds from asset dispositions. However, it's very important to note if our operating fundamentals begin to deteriorate significantly, which I want to emphasize we don't expect, we won't sacrifice the company's long term growth and financial health and flexibility to maintain the dividend at its current level. We'll look at the situation each quarter and make a determination based on current trends and our future outlook. So with that, I'd like to turn the call over to Ed, who's going to discuss our leasing trends and highlight a few of our markets.

Good morning. Our markets continue to be challenging. We're hopeful that we have bottomed out but uncertain as to how long we will be here. We see some positive indicators but cannot speak to the certainty of them signaling the onset of a recovery or if they are simply a collection of mirages. In the fourth quarter we leased 1.6 million square feet of office, industrial, and retail space, of which 67% were renewals, just over a million square feet or 65% of the total was office space, which is the highest level of office leasing we've experienced since fourth quarter of 2000. The million square feet of office leasing was also 59% above the average of the preceding four quarters of 653,000 square feet per quarter.

We placed 2.2 million square feet of development projects in service in 2002 and sold one of these properties, International Place 3, a 214,000 square foot class A 100% pre-leased building in Memphis, for just $38 million. In addition to this very successful development and sale there is a definitive bright spot here. We have had some very positive traction on the 19 development projects. These 2 million square feet of development projects were 68% leased at year end and are currently 82% committed.

For the full year on the office side in the face of tough market conditions we executed 650 second-generation leases with an average lease term of four years representing 3.2 million square feet of office space. Volume increased steadily quarter over quarter throughout the year with 32% of the year's total volume being signed in the fourth quarter. The 3.2 million square feet of second generation leasing equates to approximately 13% of our office portfolio, excluding the buildings that were placed in service during the fourth quarter.

While quarter over quarter we saw an increase in deal volume we also saw significant fourth quarter increase in leasing CAPEX and concessions. $2.23 per square foot per year for TI and commissions and 43 cents per square foot per year for concessions. Up from third quarter's $1.66 and 22 cents respectfully. Much of this increase was anticipated.

First year cash rents for leases signed in the fourth quarter were down 6.8% from a year ago. We anticipate future leasing year over year roll down to continue to be in the 6% to 8% range. On a straight line or GAAP rent comparison the average rent over the life of the lease for the new deals was about 2% higher than leases signed a year ago which means our leasing agents are doing a great job of protecting contractual lease escalations in their lease negotiations. The driving force behind our and the general market's leasing activity can primarily be attributed to musical chairs and a modest amount of net absorption. Customers are seizing the opportunity to upgrade their space without an increase in occupancy cost. We're also seeing customers wanting a reconfiguration of their space but not wanting to endure the construction while they conduct business, instead are relocating [inaudible] to differently or newly configured space.

Our brokers are seasoned and savvy and fighting for every deal but tenant reps and prospective customers are keenly aware of the highly publicized over supplied market. Given the volume of available product, low job growth, recession hangover, declining consumer confidence in the saber rattling of the pending war we expect modest absorption and concessions to remain a topic of negotiations in most deals.

Our industrial leasing activity was slightly below the rolling four quarter average of 531,000 square feet leased in the first quarter. First year cash rents rolled down by 13.1% and CAPEX on the industrial transactions was up over the past two quarters but in line with the four quarter average. Industrial occupancy held steady in the fourth quarter at 86.2%.

Same property net operating income for the year decreased by 4.8%, primarily driven by the decline in average occupancy to 87% for the full year versus 93% for 2001. With regard to occupancy on our third quarter call we stated that we expected 2002 average occupancy would be approximately 87% and year end occupancy would be in the mid 86% level. We actually ended the year at those numbers with '02 average occupancy at 86.8% and year end occupancy at 86.2% and just to be sure we're clear on this point these numbers include the fact that WorldCom was paying rent [inaudible] through year end.

Looking at page 11 of the supplemental, you will see that Richmond and Kansas City remain our best markets, while Atlanta and Research Triangle continue to struggle. Obviously, Tampa is our largest challenge as occupancy dropped 19%, as a direct result of the 816,000 square foot loss of WorldCom loss at Highland Preserve. The Tampa market itself, while negatively impacted by this large move out is recognized as one of the fastest growing metropolitan areas in the country with unemployment at 4.2% which is well below the national average of 6%, we believe Tampa is positioned to recover more quickly than many other national markets and we are optimistic that the unique quality of the Highlands Preserve campus will attract local and national prospects and ultimately users.

Occupancy in a number of our markets was negatively impacted by dispositions in the placing of six development projects in service during the fourth quarter. To illustrate this point, the fourth quarter 4.9% drop in occupancy in Memphis was mostly the result of the November delivery of an 81,000 square foot building that was 19% occupied. Excluding this property occupancy in Memphis would have been 85.2% only a half a percent decline from the third quarter. Occupancy in the Research Triangle dropped by just less than a percent again due to the delivery of new development. We delivered 258,000 square feet 25% leased at year end. That same 258,000 square feet is presently 83% committed. Excluding the impact of these two development projects occupancy would have improved over third quarters 82.2% to 85.5%.

The Orlando occupancy dropped substantially due to the December sale of 316,000 square feet that was 95% leased at the time of sale. Our wholly owned Orlando portfolio is now a small number 330,000 square feet however we continue to own 1.8 million square feet in joint ventures.

In Nashville, occupancy declined by 8/10 of 1%, mostly due to the sale of the 312,000 square foot, 100% leased [inaudible] building. If you were to neutralize the impact of the sale our national portfolio occupancy would have increased 89%.

Available office sublease space in our top five markets is down to 4.1% of the market and 3% of our portfolio. On a percentage basis the Research Triangle market has the largest amount of sublease space available at 5.3% and Richmond has the smallest at 2.7%.

With regard to lease rollover as shown on page 18 of the supplemental report in 2003 we have 5.9 million square feet of space expiring representing 18.5% of our annualized revenues. The cities with the lowest rollover are Nashville, Kansas City and Richmond, the cities with the largest rollovers are Atlanta, Charlotte, and Research Triangle.

Here is our progress to date. As of February 21, Friday, we have signed 2.5 million square feet of transactions with 2003 start dates on this expiring space which represents about 43% of our total '03 expirations. Based on our 2003 budget, we're forecasting an average occupancy for the year to be in 82% to 84% range. And need an additional 4 million square feet of leasing with 2003 starts to achieve the high end of that range.

In closing my comments, I’d tell you that over the last few weeks Ron and I visited every division and hosted all-hands meetings. We provided all of our employees with a detailed assessment of our 2002 performance, a review of the 2003 forecast and lengthy discussion regarding our business strategy and operational initiatives. Our associates genuinely embraced these company-wide meetings. They greatly benefit from the in-depth discussions regarding the company's performance. The visits included open discussions on a wide range of topics and included motivational speaking, which truly helps revitalize the troops. The predominant positive aspect of these most recent visits was the level of enthusiasm and determination displayed by our people despite tough times. Their commitment to our customers and shareholders is firmly entrenched, and they are clearly focused on differentiating Highwoods from the competition in an effort to protect and increase occupancy. Our front line marketing folks are working exponentially harder for every deal and our property management team is fully integrated with our leasing efforts. The work ethic is high, the loyalty and commitment to the company is strong and everyone is beating the bushes for every deal while watching the bottom line. Carman.

Thank you, Ed. What I'd like to do this morning is cover some of the key trends on our balance sheet and our operating statement, provide some additional color on the items that negatively impacted the fourth quarter, and then close with some additional details behind our guidance for the primary assumptions and then take that all the way through the cash available for distribution numbers that Ron alluded to in his remarks.

First, I'd like to discuss a couple of trends on the balance sheet which is page 3 in the supplemental, and also the last page in the press release. During the quarter, you'll note a reduction in the deferred leasing cost line item on the balance sheet of approximately $5 million. During the quarter, we wrote off approximately $5 million of leasing costs that were capitalized related to the Intermedia campus or Highwoods reserve in Tampa. That ran through the income statement and our depreciation and amortization line item. You will also note and again as Ron pointed out a meaningful decrease of approximately $100 million in our mortgage and notes payable line item. We utilized the proceeds from assets sales to pay down balances on our line of credit.

Moving to the income statement, the first trend that I would like to highlight is in the depreciation and amortization line item which ties to the discussion of the Intermedia lease commission charge. You'll note the increase from the last quarter which was approximately $30.9 million to $36.5 million this quarter. Next, with regard to interest expense, an increase sequentially from $27 million to $29.8 million. Much of that increase related to a reduction in capitalized interest due in part to a lower level of development and a truing up of our capitalized interest for the year. Going forward, I would expect capitalized interest to range in the $600,000 to $750,000 range per quarter.

G&A costs were $6 million in 26 -- a little bit over $6 million for the quarter. That number was above our prior guidance due to capitalized overhead in prior quarters that was expensed this quarter. Those amounts were approximately $700,000. Without those two G&A would have been $5.3 million. Going forward we would expect the trend in this line item to range from between$ 5.5 million per quarter to $6 million.

Interest and other income increased from our trend which has been in the $2, $2.5 to $3 million range to $4.7 million due to higher fee income and an unexpected reimbursement from an insurance company. The run rate on this line item going forward we would expect to be in the $2.8 to $3 million range.

Lastly on the income statement I would just like to point out that the gain on sale of land was approximately $400,000, down from $741,000 last quarter, and off of what we expected which was approximately $1.2 million for the quarter.

For the quarter we reported FFO of 70 cents per share. As Ron pointed out this number was negatively impacted by a number of items. I'd like to just cover those again for you. First, the lower level of capitalized interest accounted for approximately 3 cents per share. We also had higher bad debt expense and combined with that a reduction in our straight line rent due to write-offs, an increase in the reserve and a reduction in our straight line rent balance due to early move outs and lease contractions. We think this related to approximately 200,000 square feet of space.

We also had lower than expected lease termination fees. This is a fairly hot topic in our industry. We had budgeted a number that was $1.2 to $1.4 million for the quarter, and we tend to see those numbers higher in the fourth quarter as our customers tend to try to get these items into their closing year. But we only recorded lease termination fees this quarter of approximately $600,000. That was about a penny and a half. And then we had dilution from the higher level of asset sales in the fourth quarter which the proceeds which I mentioned earlier were used to pay down our line of credit. That accounted for about a penny. We believe a good run rate, taking into consideration these items, a good quarterly run rate is in the 81 to 83 cent range. And we believe that most of these negatives will not continue into 2003.

Next I'd like to discuss, which is on the FFO and cash available for distribution page, is our capital cost for the quarter. In the fourth quarter, we expended almost $14 million, which was comparable to last year on a dollar basis, for building improvements, leasing capital, which includes tenant improvements and lease commissions. This represented 34% of our four-year total, excuse me, our full-year total of almost $41 million. Last year, in 2001, we expended $43.7 million for these same three line items.

In evaluating cash available for distribution on a quarterly basis, I think it's important that you take a look at this schedule and factor in the seasonality. The two most different quarters are the first quarter, which tends to be our lowest quarter, and the fourth quarter, which tends to be our highest quarter. And next I'd like to move into a guidance on these items for next year. I'd like you to start with capital.

Next year, in this year, '03, we expect leasing capital and building improvements to total $55 million at the low end of the occupancy range, which is 82%, increasing to $63 million at the high end, or 84% of the occupancy range. These numbers incorporate a fairly flat level of building improvements, approximately $8 million with the increase coming from leasing capital cost, tenant improvements and lease commissions.

Next, as far as FFO guidance for next year, when we reported last quarter, we provided guidance on U.S. Air and WorldCom and we put that number to negative impact at approximately $18 million or 30 cents a share. Now we have a more clear picture and we believe the impact next year will be $20 million. It's a combination of the lost revenue which we discussed in our press release from these properties, and the expenses that we're going to incur on the properties after they vacate. The increase is mostly attributable to the final deal we reached with U.S. Air.

Given all of this, in a modestly lowered occupancy guidance which, on average, is about a percentage point and a half, we've lowered our guidance for FFO for next year to $3 at the low end to $3.25 at the high end per share. At the low end, and considering the CAPEX assumptions that I discussed earlier, we expect a CAD payout ratio of 117% or shortfall of $20 million, which Ron discussed in his remarks. At the high end, this payout ratio improves to 107%, and a shortfall dividends less cash available for distribution of about $10 million. I hope this provides you with many of the details you'll need to evaluate our guidance for next year, and with that Stephanie, I'd like to open up the call for questions.

At this time I would like to remind everyone if you would like to ask a question please press star then the number 1 on your telephone key pad. We'll pause for just a moment to compile the Q&A roster. Your first question comes from David Fick from Legg Mason.

Good morning, gentlemen. I'd like to actually offer congratulations for the manner in which you guys are working through this incredibly difficult time. I really only have one question. And that is, on the dividend coverage, and your assumptions about the sustainability of the dividend, you're basically saying if you come in where you are currently projecting your plan, you do not see the need for dividend cut, and that you would essentially be bottoming this year and earning your way back into full coverage into '04. Is that correct?

Yes, that's correct.

Thank you so much.

Thank you, David.

Your next question comes from Gary Boston of Salomon Smith Barney.

Hey, guys, it's John Litt. I'm here with Gary. What's the taxable income per share, or another way what's the minimum dividend that you could pay?

John, this is Carman. Let me hit that with the answer to your second question. The minimum dividend payout would be 90 cents per share. That would be a minimum dividend required for 2002. Again, there are many factors in that calculation, and we're not going to project what it will be for '03, but I'll give you that data point for '02.

And so you know, I guess as you're selling assets in part to fund the dividend, I guess you said you paid down $100 million in debt in theory, some portion of that debt was used to fund the dividend. As you're selling the assets, it's depleting your ability as the economy recovers to really pay that dividend. Why wait? I mean, you know you're over, and you know you could go, you know, down to 90 cents, obviously you wouldn't go that far. Why wait? Why not just take it down and keep more capital in the company and pay down debt, why even lever up to maintain the dividend at this point?

Well, John, let me start with that and I'm sure Ron may want to add something at the end. I think at the levels that we outline, you know, $10 to $20 million, in the context of our capital structure, we think that is minimal. And if we can avoid having to have a cut, which I don't think you -- I mean if you had to choose you'd rather not have, we would fund it to that level. I think just to follow up, you know, what Ron answered to David's question is, you know, again it has to do not only with the '03 plan but it has to do with our belief in a recovery in '04 and if you're going to fund that for more than just a single year and at what level. At a two-year level I think you get to a number that you really scratch your head and ask if you're going to do it, you know, to fund at that level and sacrifice your growth rate unless you're using that capital to build occupancy, which could be the case in '04. And so that's the way we're looking at it. And I don't think it's an easy answer and it's something we're looking at every quarter.

I mean your shortfall is like 15% you know on a CAD basis below where the dividend is now. And so you know, it seems to me that, you know, I mean, there's a lot of other good uses of that capital and the stock's already telling you that it's there. It sounds to me like for the first time you guys are actually open to revisiting the dividend. I'd say a lot of times once you get it over with it starts the road to recovery much more quickly. Could you comments on the higher bad debt expense?

Jonathan before we get off the dividend discussion, in our view it really comes down to will operations support the dividend? Have our markets bottomed out? Our sense is that they have and with improving conditions, you know, the dividend at its current level is sustainable. But we understand your commentary and we will evaluate the dividend quarterly and you can be assured that we're not going to sacrifice the long term growth and financial health of this group to maintain the dividend in its current level.

You're just sort of -- you might be able to get you know down to 102% next year and then 98% the following year. You're sort of limping along as opposed to getting it cleaned up and [inaudible].

Understood.

All those are points that we agree with. With respect to the bad debts, it was on just a straight write-off, was a little less than a penny, or $600,000 higher than our trend. And that was due not to any one particular tenant or one particular industry. We just had more slower-paying customers and we increased our reserve and wrote off some amounts in the fourth quarter. Combined with that, John, is this, you know, the straight line rent balances which we also reserve. But when you have early move outs or contractions, you know, you make adjustments in your straight line rent balance and we did that as well related to some of the write-offs and also some of the, you know, the early move outs and contractions again. Not any one particular item and not impacted by U.S. Air or WorldCom. We had already reserved those amounts.

I guess can you talk about the trend? It sounds like it's been sort of picking up all year. And also what you're sort of thinking is going to happen in '03 on that line item.

It really just picked up in the fourth quarter, John. We had a fairly smooth and frankly very comparable to the prior year, early in '02, and for the first, you know, couple of quarters and into the third. We think we've seen much of the fallout there although we don't expect the bad debts to go away but we expect them to return to a more normal level in '03.

Carman, it's Gary. I was just wondering if you could comment, you have a fair amount of debt expiring this year and could you give us and update on what the plans are and what are you looking at that to take care of those?

Let me elaborate on that Gary. In the fourth quarter, in December, we have two trenches of unsecured debt that mature about $246 million. We believe that we could refinance that with unsecured debt. It would be modestly on today's rates in positive to FFO, or we could refinance it on a secured basis which again we've not made that decision yet. We're just evaluating. And it would be given our spreads on an unsecured basis or wider than we can borrow on a secured basis it would be more positive to FFO if we financed it under that method. I certainly wouldn't rule out a combination of those or a third which would be a combination of secured and unsecured debt plus proceeds from assets sales. I'd also like to highlight something we disclosed in the press release, in late January early February we exchanged a secured note in the principal amount of $142 million, almost $143 million in exchange for our mandatory par put -- I'm not sure I can even say this remarketed securities that had a remarketing date as of the end of January. Those had a principal balance of $125 million which really represented a maturity in '03 as well. And then tack on to that we have our credit facility which has a December maturity. We had $57 million outstanding on that at the end of the year. We are commencing discussions and negotiations with our bank group to put a new facility in place which will likely be in place you know by mid year.

Are there any restrictions on your ability to use your line to pay your dividend?

No. But there are restrictions which are fairly customary in REIT credit facilities which restricts the amount of your dividend payout to a level of cash available for distribution. And we have one of those, and it's a rolling 12 month calculation which limits it to approximately 100% of CAD.

What happens when it's in excess, you're in default?

Well, yeah, if you broke the covenant you are. But again, that's something we're negotiating to build in flexibility and we're not out of compliance with that at the end of the year and don't expect to be into early '03.

Full year, you guys are saying 107%, 117%.

We would have it in place at the end of the year, without an amendment we would be in violation of that covenant.

That’s on the line. Are there any covenants in regard to the unsecured debt?

Not related to dividend payouts. They are in current and maintenance covenants that you would find in any unsecured debt and ours are typical in the industry.

As you continue to borrow to pay the dividends, are you bumping up against any the of the coverage ratio covenants?

No.

Gary?

That's it for me. Thanks.

Thank you.

Your next question comes from the line of Greg Whyte from Morgan Stanley.

Hi, good morning, guys. Couple of questions. You mentioned that you had a number of assets that were currently under negotiation for sale. Can you -- how much of the land that you expect to sell is included under those negotiations right now, and is that expected to be included in your FFO guidance for first quarter?

Ed, this is Carman. Let me take a swing at that first and again I think Ron may have some additional color. Let's speak to the FFO guidance for next year. We've included a reduced level of land sale gains in that guidance. It would range from 4 cents for the full year to 5 cents, again not a large amount there. Roughly $600,000 a quarter. The land sales that we have, land component that we have under contract right now are in negotiations, represents approximately $16 million.

And Greg, of that a fair contingent is predicated upon proper rezoning in order for the close to occur. So it would be the latter part of the year before that would happen.

Okay. When we look through -- I mean obviously, you know Telco tenants have been an issue for yourselves and a lot of others. When we look through your tenant list you obviously have a significant component arising from those. Can you talk about any that may be on your watch list right now, as well as any other tenants that could be on the watch list? Are you having active discussions with any of these folks?

Greg, this is Ed. With regard to discussions, you know, we've clearly addressed the U.S. Air situation. We still have some leases with WorldCom that we have yet to hear from, and don't anticipate them to reject about 166,000 square feet in various markets comprised of switches and customer service centers, et cetera, that are densely occupied. You know, that makes up the WorldCom and affiliates line. Nortel, we don't expect any give-back there, any default. We expect them to honor the lease and don't have any reason to believe that it would be otherwise at this juncture.

Okay. When I look at the buy-back sort of detail that you gave in the -- in the release referred to OP unit buy-backs. And I was just curious to know am I right in reading most of your buy-back was actually in the form of units and if I am right, who are the sellers of those?

Greg, this is Carman. You're correct, and you know under the terms of our operating partnership agreement unit holders can present those for redemption and we can either purchase them for cash or provide them with an equivalent number of shares. We elected in the fourth quarter to redeem them for cash. I'll tell you that management just in a general category they were early OP unit holders that contributed assets, probably a handful maybe three or four in total and that needed cash for various reasons, you know, in their estate planning or you know or businesses. But again I wouldn't try to take a trend from that, and again, if they were officers or anyone else they would be in a file under section 16 and we have not filed any of those.

Okay. Then just to continue that to thought for a second, could you update us with, you know, what's remaining under the authorized program, and you know given some of the discussions we've heard today and your sort of I guess I would describe it as a cautionary tone with regards to the dividend, what are you thinking about buy-backs right now?

Let me just continue. We have authorized about 3.5 million under the 5 million share authorization which was the second authorization of our board. We, you know, today have a priority on financial flexibility. But that doesn’t mean that we would rule out a buy-back, you know, once we have met sort of that criteria and really understand a little bit more about '03. I will tell you coming out of the year with the leverage level of 45%, in a pretty good sense of where we might be and once we tie down some of these dispositions that we're evaluating or negotiating for '03, I think we would take a hard look at it. And particularly at these share price levels which are below the NABs that are out there that range anywhere from 25 to 26, at least the last published ones which we agree with. So that's sort of our view. But again today the priority's on financial flexibility.

All right thanks a lot guys.

Thank you.

Your next question comes from the line of John Letsus (ph) with Green Street Advisors.

Good morning. Carman, can you go into just a little bit of detail on the capitalized interest line? I'm surprised that that would be something that would be part of the FFO mix for the quarter.

John, yes, I'll be happy to do that. Again, we had a lower level of development, and again, have not fully factored in the occupancy, the economic occupancy of the properties for the quarter. And then, you know, as we do throughout the year, we evaluate the amount we've capitalized based upon occupancy and other factors. And we did have a modest true-up in the amount for the full year which was reflected in the fourth quarter number.

Okay. Let's say that we're at or near the bottom of this cycle. Aren't things so bad in terms of occupancies being so high, that we'll see rental rates come down again in '03, and what have you folks factored into your '03 budget on that item?

Hey, John, Ed. We expect continued rent growth roll down in the 6% to 8% range.

And what is that based on with respect to market rent changes?

Market rents, we see in a roll-down of 10% year over year.

So a 10% decline in market rents in your market for '03?

In the majority of the markets, right. That's in pure base asking rate this year versus last.

Okay. And that's baked into your numbers, that's part of your budget?

Correct.

Okay. Is the fourth quarter leasing progress that you folks have made sustainable, given that it's a high level of leasing typically in terms of seasonality, and to what extent have war worries caused a pause in leasing so far this year?

The activity that we saw in fourth quarter, we thought was heavily driven by a lot of the decision makers wanting to get the deal done in calendar year '02. We saw quite a flurry, particularly in December. And we attributed that to pending war worries. However, for the first seven weeks of '03, that activity is sustained if not increased a little bit. So now, we think it's maybe not so much tied to year end and getting it in, but we think some of it may still be attributable to the war worries. I think that, you know, what's happening there to us, and businesses in virtually every sector is that, you know, it's a slow maybe. And we'd much rather have a fast yes or a fast no. And it's certainly a topic of discussion. And the panels we participate in, the customers we talk to in our peer group.

Okay. Ron, in your prepared remarks you gave a cap rate on I believe it was '02 office sales.

Yes.

Do you also have the average price, sales price per square foot for those transactions?

Well, I can get that to you, John. But I'd caution you on that just varying different types of product in what we sold.

Also, too, I think John, there is a supplemental disclosure, that we provide the square footage and the sales price in the disposition detail that we have in the supplemental.

Okay.

Page 26, John.

With respect to your '03 guidance on CAPEX, there was a pretty big tick up in CAPEX in the fourth quarter. What is your '03 budget based on? Is it based on a run rate similar to the fourth quarter or is it based on something more -- something lower than that?

For building upkeep, the CAPEX side, for grooves, lobbies, parking lots, restrooms ADA and those types of thing, we are recommending and budgeting a run rate of $8 million a year, about $2 million a quarter. But we have seen that to be seasonal and we have evidenced that year over year. We typically have a higher number in December. In November, October, that fourth quarter as opposed to first quarter.

And with respect to leasing capital, we're not going to use the fourth quarter run rate for that. What we use is our leasing activity for the year. And our assumption that on a, for example, on office using the net effective rent table, you know, total of $9 to $10 per square foot, you know, for those deals, which is not per year, but in total. So for every square foot that we put in place, it would be a, you know, around $9.50 for combined lease commissions and TI. So that's how we built that number, John.

Okay. So just following that on page 12, if you're budgeting $9.50 for '03 for office, that's pretty similar to just slightly below your fourth quarter run rate, right?

Okay. I wasn't sure if you were talking about run rate in the aggregate, which was the, you know, the $14 or $15 million number that I discussed in the CAD table or on the net effective rent table you're correct. It would be closer to the fourth quarter than it would be the trend for the full year.

Okay.

Based on budgets.

Okay, that's your budget, okay. And then just last question, based on your budget for '03, based on your plan, would you expect to break any other covenants in any of your loan agreements?

John, this is Carman. No.

Okay. Thanks a lot.

Thank you, John.

Your next question comes from the line of Chris Brown (ph) from Bank of America Securities.

Hey, guys, good morning, I appreciate the equity guys taking all my debt questions for me but I wanted to follow up with one. I understand your unsecured bonds actually have a slightly more restrictive covenant with respect to unencumbered assets to unsecured debt, I believe it is a 200% coverage limitation. I was wondering kind of where you guys stand there particularly given you just did some more secured debt. And if you guys would consider kind of disclosing the public bond covenants in the supplemental going forward.

Chris, this is Carman. Let me -- it is less restrictive than some, but it's a covenant that we have ample flexibility under and to speak to that secured debt issuance, it was over a 70% loan to value. You know, if we’re putting a loan to value that is in excess of that coverage level, which is 50% or so, we are -- we actually better ourselves with respect to the covenant. And then to get to your question on the bond covenants and the credit facility covenants, we plan to include in our file documents the 10-K that we'll file shortly. Those covenants, both the calculation amount and the covenant threshold.

Great, thank you.

Your next question comes from the line of Chris Haley from Wachovia.

Good morning, everybody.

Hi Chris.

Ed I was interested in your comments or Ron about the top five markets with positive absorption in the fourth quarter. Is that something that you're seeing continuing through the early part of this year or do you think it was just less new supply added, just wanted to get some color on those markets.

Ed, why don't you deal with detail market by market on that.

Chris, it was primarily driven by Tampa, they had a pretty big number. Atlanta had about 165,000 of positive absorption. Nashville had a very good number for Nashville, about 240,000 square feet. Raleigh was about a negative 62, Richmond was about a negative 45 or 50. So you know, in the aggregate it was the number that Ron talked about, about three quarters of a million square feet in those top five markets. You know, it's been very lumpy in Raleigh, for example we've run every quarter this year at a negative number, same thing in Richmond, and the others have you know teetered back and forth. And that's why we make the comment that we expect you know, modest recovery if any in '03 with regard to absorption.

If you look at your rental rate assumptions which I'm assuming are more driven by available space rather than direction of absorption, could you give a sense as to what your market officers are telling you and how much absorption would be necessary to flatten rates out? In percentage terms or --

It's, you know, it's a year and a half or so. I know you said percentage terms. But in order -- and we've got to get it down to where our prospects has, you know, two, three, four choices instead of a dozen choices. You know, depending on the size, but customers just have more choices today than they've ever had. And I've been here 21 years. Than they've ever had before. It's got to get to the point where construction stays nonexistent which has finally become the issue with less than 3% of our top markets being underway. In the early part of the year we were above 5% of market that was underway in construction. The fact that the things that were started in late 2000, early 2001 that we were delivering in early `02, that's now a non-factor. So that part of it's stabilized. I think it's going to take another, you know, six quarters for this absorption to occur where we can get to the point where customers have fewer choices and we can be more bold in our proposals.

I'd add to that, Ed, it's really only one market where there's an obvious constituency that's consuming space and providing the updraft and that's Nashville with health care industry and the remainder of the markets there's not an obvious industry or business group of businesses that are going to provide that updraft.

Okay. Question just a quick addition. Carman, what do you expect your line of credit balance to be roughly relative to what it is today at year end '03?

It will be depending on a level of dispositions, in the $100 million range.

Okay. I'm sorry, of the $75 to $175 dispositions, how much do you already have under negotiations?

We have $145 million or so that we are in under letter of intent contract or you know, in negotiations.

Right.

Roughly $150 million, about $25 million of that is land.

So making a horrible parallel, but if you sold about -- was about $2 billion worth of assets over the last couple of years and you had a cumulative gain of what was the number, $30 million or $300 million?

I think that's right.

So --

Chris, say that again.

I'm trying to think of the percentage economic gain on your sales program and how that might translate to an economic gain, percentage economic gain on your '03 assumptions.

Well, it's hard to -- I mean, Chris, I mean, it's very difficult to factor that in. I mean, we had by example in the fourth quarter, the number was about $20 million. On, you know, $130 million.

Is that a GAAP or is that an economic?

That's a GAAP.

All right. What I'm trying to get at is, looking at the shortfall of $10 to $20 million that you'd expect in '03 how much of that is going to be covered from economic gains from the $140 to $170 million of sales?

I would say that it would be fairly easy to get to the $10 to $20 million from that basket of assets.

All right. My last question has to do with the capital expenditures. My recollection is, your prior guidance, the mid point of your guidance was in the $3.25 range, GAAP FFO.

Correct.

Your new guidance is $3.13 mid point. On the $3.25 number you had come down to a $2.30 number FAD or CAD.

Pretty close, correct.

So now I'm down to $3.13 FFO so I'm 12 cents lower. And I'm taking out roughly 92 cents to $1.05 in CAPEX from that number.

Right, that's the $55 million to $63 million divided by 60 million or so shares, correct.

Right, right, right. So when you look at your -- it seems like you're taking maybe a slightly more conservative adjustment on the CAPEX, not much. Where is that coming from? Is that just a TI assumption?

Yes, two things. It's TI, it's not as much leasing commission, it's mainly TI. And then also our straight-line rent or the non-cash portion of revenues which is a reduction from FFO to arrive at what we're able -- what we're distributing, will also increase. And we're estimating that item to be, you know, 13 cents per share, you know, which is approximately $2 million a quarter, or double its current level. Primarily because of concessions. If you do a deal with a free-rent period, you know, that will cause, everything else being equal, your straight-line rent number to increase. Non-cash portion.

So the $55 million to $63 million range for CAPEX is consistent with what you -- is maybe $4 million higher than what you had guided prior quarter?

That's correct.

Okay. How does that -- how do you -- how does that reconcile or does it at all to the fact that you're seeing some bottoming in your markets and you're seeing some positive absorption in some of your markets? Do you expect -- which do you expect to firm up first? Your asking rents or your concession packages?

I think Chris, it depends on the deal. You know, what's the hot point for that customer? Is it face rate or is it build out? If it's a customer who needs mostly open space, you know, their high point's going to be face rate. If it's a customer who needs a lot of 8 by 12 offices, it's going to be, you know, a TI number.

Right. Okay. I guess the last comment is that Carman, there have been a couple of adjustments or there seems over the last one or actually two to three quarters there have been some adjustments to the guidance due to missed items or true-ups. Would you characterize, I mean could you again give us your sense as to where you're feeling your budgeting certain of these items that have had adjustments?

Chris, into '03, I'm comfortable with the guidance we have out there. You know, just to go back, I mean, I hate to even go through this. But the compensation expense item that we had out there was, you know, how we had elected to administer our stock option program which we would consider to be sort of a one-time event and would be -- is really not a matter of estimating. On the bad debts and some of these other items, I mean, I just think it has a -- whether we may be more conservative enough, I'll put that out there how we planned for some of these items may have been the principal factor. And with respect to the capitalized interest that number is going to be so small going forward that from zero to $600,000 is a pretty narrow range. We feel -- I mean the big moving part is the leasing activity and the timing at which you put those leases on the books.

Okay. Thanks a lot.

Thank you, Chris.

Your next question comes from Anatole Pevnev from McDonald Investments.

Hi, this is Frank Greywitt. What was the true-up adjustment on the interest expense?

Couple of pennies a share for the quarter.

So two cents?

Yes.

So a good run rate then would be for next year roughly $28.5 million for interest expense?

Oh, for interest expense?

Yeah.

Yeah, I mean depending on the level of average outstanding debt, that's pretty close.

Okay. And what was the capitalized interest then for the quarter?

It's disclosed. It was actually negative, given that we had the true-up.

Okay, all right. Thanks a lot.

Your next question comes from the line of Scott O’Shea of Deutsche Banc.

Good morning. I was wondering based on your conversation with the banks so far whether you expect material changes in terms or conditions for the new line.

Scott, Carman. I mean, we expect to negotiate some additional flexibility which we discussed earlier. And you know, I think it goes without saying that that would come with a modest change in pricing. We hope modest. Again, we're very early in the discussions right now, but the flexibility given where we are in the cycle right now is important to us. And the early discussions have been good.

Okay, that's helpful. Thank you.

Thank you.

Your next question comes from the line of Dan Denbow (ph) with USAA Investment Management.

Two quick questions if I could. You talked about the average cap rate in 9-1 on last year's dispositions. How would you compare that to current values in trying to figure out Highwoods NAV and secondly what is the thought process now on the Kansas City retail and what to do with that?

What was the second part of the question?

I'll take the second. You go ahead and handle it first.

In terms of the current environment, the dispositions, we really don't see any changes from what we experienced last year. It's a factor related to the type of projects that you offer for sale, the demand remains strong. The buyers are the institutions. Opportunity funds, pension funds, 1031 local players are still there. And you know, the demand just remains strong. So we don't see any material change in the cap rate environment for '03.

But would it be a fair -- would that be a fair cap rate on your portfolio as a whole?

Well, I think, you know, including -- included in that dispositions were a number of single-tenant credit deals that would attract a more attractive cap rate than the portfolios as a whole would. So I think that's aggressive on our portfolios. I'd suggest that you know, we're probably in the 9.75 range on the portfolio overall.

Okay.

Dan, this is Ed. With regard to the plaza, we see it as a crown jewel. And we see the benefit of having that product type in our portfolio, and we've got a million and a half square feet of retail that was 97% occupied at year end, in comparison with the rest of our portfolio is 12 or so basis points better. We had overall sales there were up 4% for the year and looking at comparable centers who are reporting flat to down 1% to 2%. Our sales on a per square foot basis are $468 and we are continuing to reposition and improve that asset with each upgrade of each customer as we're able to roll leases. So we don't have an eye to sell an asset that has continued growth and is provided good diversity for us in the time when we really need it. And there's future upside there.

Thank you very much.

You're welcome.

Your next question comes from the line of Ken Weinberg from Legg Mason.

Hi, just wanted to build off that last question. Could you just I guess characterize the type of assets you have either under contract or letter of intent, and then just getting to the digging a little deep on the cap rate, do you have what that was for the single tenant deal that you sold the Wells last quarter?

The majority of the properties that are teed up as we speak are industrially oriented. And we expect the cap rates on those deals to be in the low 9s. And the cap rate on the Wells transaction --

We've not disclosed individual transaction cap rates. I think you can discern Ken from the relationship of that asset transaction which was around $90 million to the total for the quarter that it had a significant influence on the cap rate overall. So again, we're not going to speak to individual transaction cap rates.

All right, fair enough, thank you.

At this time, there are no further questions. Mr. Gibson, are there any closing remarks?

Thanks everyone for being on the call. If you have additional questions, please don't hesitate to call us at your leisure. Thank you.

This concludes today's conference call. You may now disconnect.