Highwoods Properties Inc (HIW) 2005 Q2 法說會逐字稿

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  • Operator

  • Good afternoon. My name is Misty, and I will be your conference facilitator. At this time I would like to welcome everyone to the Highwoods Properties' second quarter 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. [OPERATOR INSTRUCTIONS]. Thank you. Ms. Zane, you may begin your conference.

  • - Senior Director-IR

  • Thank you, Misty. Good afternoon, everybody. On the call today are Ed Fritsch, President and Chief Executive Officer; Terry Stevens, Chief Financial Officer; and Mike Harris, Chief Operating Officer. If anyone has not received a copy of today's press release or the supplemental we distributed, please visit our website at www.highwoods.com or call 919-431-1529, and we'll email a copy to you.

  • Before we begin I would like to remind you that this call will include forward-looking statements concerning the Company's operations and financial conditions, including estimates of asset dispositions, the expected use of net proceeds from dispositions, the affect of tenant bankruptcies, cost and timing of development projects, roll-over rents, occupancy, revenue trends, and so forth. Such statements are subject to various risks and uncertainties. Actual results could materially differ from those currently anticipated due to a number of factors, including those identified at the bottom of today's release and those identified in the Company's amended Annual Report on Form 10-K for the year ended December 31, 2003, and subsequent reports filed with the SEC. The Company assumes no obligation to update or supplement forward-looking statements that become untrue because of subsequent events.

  • During this call we will also discuss Non-GAAP financial measures, such as, FFO. A definition of FFO and management's view of the usefulness and risks of FFO can be found toward the bottom of today's release, and are also available on the Investor Relations section of the Web at www.highwoods.com. I'll now turn the call over to Ed Fritsch.

  • - President, CEO

  • Good afternoon and thank you for joining us today for a status update and review of our second quarter operational results. We are pleased with the progress we've made towards achieving the goals of our strategic management plan and with our second quarter leasing activity both of which I'll discuss in a few minutes. As today's release stated the review and audit of our 2004 and first and second quarter 2005 financial statements has not yet been completed. Therefore, at this time we are unable to report our final audited results for 2004, for the first two quarters of this year. Here's why.

  • On July 6th when we held our last call, I told you we expected to file our 10-K and our first quarter 10-Q by the end of that month. We also anticipated that we would be back to a "quote/unquote" normal reporting schedule with our second quarter release. That timetable was based on the fact that we believed we had completed the work necessary for the audit and completion of our 2004 and prior-year financial statements. In late June management and Ernst & Young, our independent auditors, reported to our audit committees their collective work relative to the 2002, '03, '04, and first quarter '05 financial results was complete and that there was no more -- and that there were no more open matters that would prevent us from releasing our financial statements. What was left was just a few weeks work, basically management needed to finalize the 10-K and 10-Q and E&Y had to complete their final review of these documents.

  • As outlined in today's press release while our accounting personnel and E&Y were finalizing the respective work -- their respective work the '04 10-K and first and second quarter financial statements, we were evaluating how to account for a second quarter takedown of development land. This led us to conduct a review of our accounting methodologies related to prior-year land cost allocations and we determined that adjustments needed to be made. As a result of these adjustments, coupled with those previously disclosed, we and E&Y determined that additional reviews should be undertaken by both parties. E&Y also decided to bring in a partner from the national office to help ensure that the Company and E&Y's audit engagement team had considered all areas important to finalizing their respective work. This review occurred the week of Labor Day and the outcome resulted in an agreement that additional work was required before we could finalize our 2004 financial statements and before E&Y could signoff on the 10-K.

  • This work includes a review of the purchase accounting methodologies used for some of our larger portfolio acquisitions and mergers during the period of 1995 to 1998. For the benefit of those on the call who are relatively new to the Highwoods story we completed ten portfolio acquisitions and two public company mergers between '95 and '98. This work also includes a review of the capitalization of interest and other fixed costs related to development activity prior to 2002. The Company has been an active developer since the IPO delivering over 17 million square feet of new development. While this acquisition and development activity occurred years ago the purpose of undertaking these reviews, which were mainly focused on fixed asset accounting is to be confident with the soundness of our opening balance sheet at January 1, 2002, for our three-year audited financial statements. These reviews are under way. But because of the size, age, and complexity of the transactions we cannot estimate with certainty when our review and E&Y's audit will be completed. Both must occur before we can file our 2004 10-K and release our second quarter financial results. However, I can assure you we will release our third quarter operating results prior to NAREIT's annual conference in November regardless of where we are in the process of our financial review and audit.

  • I am well aware that this additional delay is disappointing to all of our stakeholders and as I said on our last call I'm not happy about this situation. But these additional reviews are necessary and must take place. What is important to remember is that these adjustments are related to transactions and accounting practices that occurred a long time ago. They do not impact our cash position and they are not expected to have a material impact on FFO for 2005 or in the future. Which is another reason we have confidence in reconfirming our guidance for 2005. Also, despite this protected process it should be apparent to all of us that all of us here have remained keenly focused on taking the necessary steps to achieve the goals of our strategic management plan. For example, through September 28th, we've sold $336 million of non-core properties exceeding the high-end of our 100 to $300 million range that we gave you in January. We have used $250 million of these disposition proceeds to strengthen our balance sheet, are redeeming $130 million of our 8% preferreds, and paying off $120 million of high coupon debt, which unencumbered a total of $280 million of assets. We are also using a portion of these disposition proceeds to fund our highly preleased development pipeline.

  • Another example. On the development front we recently began two multi-tenant office buildings, Cool Springs III in Nashville and GlenLake Four in Raleigh. These are high quality, differentiating assets in low vacancy submarkets. We also recently announced that we are the developer of choice for ThyssenKrupp's North American headquarters building in Memphis. In total, these developments encompass approximately 389,000 sq. ft. and represent a projected investment of $56 million. With the addition of these projects the Company's wholly owned development pipeline has grown to just over a million square feet, that is 73% preleased, representing an estimated investment of $135 million. We will have placed in service $89 million of development by year end all of which is 100% leased. Over the next two-and-a-half years we plan to commence development of an additional 150 to $250 million in a number of our submarkets where inventory is scarce and where we have established infill land positions.

  • Turning to second quarter operations I know all of you long ago saw second quarter market data. So I will limit my remarks to our performance. We had another solid quarter of leasing activity with $1.6 million square feet signed. Office leasing accounted for most of this activity with 1.2 million square feet leased in the quarter. This marks the sixth consecutive quarter that we have topped 1 million square feet of second-generation office leasing. Our occupancy increased slightly from the first quarter to 84.1% and includes US Airways, which is current on their lease obligations through September. Having emerged from bankruptcy and having completed their merger with America West Airlines we are now projecting they will be a customer at their current size through year end. However, under the provision of the bankruptcy proceedings US Airways does have an additional six months from yesterday to assume or reject leases and contracts. They have formally assumed the 101,000 square foot lease which houses their customer call center and contributes 46% of the total NOI we currently receive from them. Within our portfolio, office GAAP rents declined a modest 1% and office cash rents declined 8.4%. Pretty much flat from the first quarter and in keeping with our guidance. The cost of TIs and leasing commissions related to office leasing was $9.95 per square foot at the low end of our 2005 expectations of 10 to $11 per square foot.

  • Finally, I want to mention Highwoods Preserve in Tampa where we have leased or sold 93% of this five-building campus. Last month we signed a lease for an additional 29,500 square foot lease with T-Mobile. This lease, which commences on December 1 of '05, is in addition to the 85,000 square feet T-Mobile currently leases at the Preserve. By the end of the year we expect to lease the park's only remaining 60,000 square feet of vacant space at which point well over 3,000 people will be working at Highwoods Preserve. Thanks to the efforts of our Tampa team the Preserve has transformed into a bustling high-profile campus. For those of you who have visited the Preserve you know this rapid improvement in occupancy is very gratifying for everyone at our Company. I now ask Terry to speak about the accounting situation in more detail. Terry?

  • - CFO

  • Thank you, Ed. First I would like to reiterate what Ed stated a few minutes ago. I'm also aware that this ongoing delay is disappointing to all of our stakeholders. This is not something we believe would occur at the time of our last call in early July, but we've determined this additional work is necessary. We have been working on this and we will continue to devote resources to this effort until it's completed. Let me take a few minutes to further comment on the accounting matters mentioned in the release.

  • As Ed noted in July, we were evaluating how to account for a second quarter takedown of development land. This land purchase related to a contract where the Company had been acquiring development land in stages since 1999. The acquisition of this latest parcel led us to evaluate the accounting for a $1 million gain we recorded in the second quarter of 2003 from the land condemnation that occurred at this same development project. The land contract and the related 2003 land condemnation gain were described in Note 8 in our amended 2003 Form 10-K. Specifically, the cost allocated to the portion of land that was taken by Georgia's Department of Transportation was not determined using relative fair value; the method required by FAS 67. Had relative fair value been used more costs would have been allocated to the taken parcel and less to the remaining land, and thus, the gain would have been smaller. In addition, we have appealed the condemnation price and as a result the entire 1 million gain, less than $0.02 per share in FFO originally recorded in 2003 will be reversed and a gain recorded when the final cash condemnation proceeds are determined.

  • Because this particular situation, land cost was not done using relative fair value as required by FAS 67, we undertook a study to determine how land purchase costs and related common land improvement and infrastructure costs were allocated to specific sub parcels in all of our past development projects. This allocation of such costs in prior years could result in recording incorrect gains or losses when the sub parcels were later sold and we've had a number of sales over the years. Our analysis was recently completed and indicated that not all land costs were consistently allocated using relative fair value. Consequently, we will be making adjustments to gains and losses from sales of certain land parcels and buildings. These adjustments, which are subject to audit are expected to reduce net income before minority interest by approximately $4 million in the aggregate during the eight years from 1997 through 2004. Most of the impact is in 2001 and prior periods. There is only a very minor impact in 2002. FFO for 2003 will be reduced by about $0.02 per share, but 2004 FFO will increase by about a $0.005 per share.

  • Ed also referred to reviews we are now performing on capitalization of interest, property taxes, and other fixed costs on past development projects. Our work is not complete but we believe that such costs were overcapitalized in 2001 and prior years. The issue relates to how costs were capitalized during the building/lease-up period, not more than one year after construction was completed. We don't believe we have any issues in 2002 or later periods because our capitalization methodology was modified in 2002. These adjustments will result in lower real estate assets and lower retained earnings as of January 1, 2002, which is the opening balance sheet for our 2004 -- for the financial statements in our 2004 10-K. The impact to the income statement in 2002 and later periods would be higher net income because of the resultant lower depreciation expense and higher gains to the extent that development properties were sold. We don't expect any impact to FFO from 2002 forward from this matter.

  • With respect to purchase accounting under APB 16 for our past portfolio acquisitions and mergers from 1995 to 1998, we are currently reviewing the accounting and how total purchase cost was determined and allocated to all identifiable assets and liabilities including assumed mortgage debt. If any adjustments are required to the original purchase accounting we expect the primary effect of such adjustments in current periods would be to depreciation expense and to gains or losses from sales of property. This would occur due to possible increases or decreases in the original purchase cost assigned to depreciable real estate assets, which were the predominant assets acquired. Depreciation adjustments would impact current and future net income but not FFO. As Ed said because of the age and complexity of these past acquisition transactions we still have work to do and we therefore can't estimate with certainty when our review and E&Y's audit will be completed so that we can file the 2004 10-K and our other quarterly SEC filings. However, we and E&Y are working to get this done as quickly as possible.

  • As a result of the delay in filing our 2004 10-K and 2005 10-Qs the Company has not submitted the required financial reports under its public debt indenture. However, we do regularly communicate with the trustee and have not received any noncompliance notice. The Company remains in compliance with all other covenants. While management is comfortable with our accounting for current period transactions we also must be sure that prior period accounting practices were appropriate. Otherwise our current financial results could be impacted by the continuing effects from incorrect depreciation, gains and loss on sales or other effects. We also need to make sure the opening balance sheet for our three-year financial statements is correct. Ed and I appreciate your patience and understanding as we work through all of this. Ed?

  • - President, CEO

  • Before we open the call up for questions I want to again say that we know this continuing delay is disappointing and frustrating for everyone. But it is important that we don't lose sight of the fact that these adjustments are related to transactions and accounting practices that occurred a long time ago. They do not impact our cash position and are not expected to have a material impact on FFO for 2005 or in the future. Everyone at Highwoods is focused on achieving a three-year goals laid out in our strategic management plan. By year end 2007 our goals are to have disposed of up to $550 million of non-core assets, upgraded the quality of our portfolio, improved our cash flow stability, strengthened our balance sheet, started up to $200 million of development focused on suburban infill locations, achieved occupancy of between 88 and 90%, and achieved positive CAD payout ratio. Our Company is already stronger today than it was a year ago and a year from now it will be stronger still. I appreciate your continued interest and patience and support and now ask Misty to open up the call for questions.

  • Operator

  • [OPERATOR INSTRUCTIONS]. At this time there are no questions. Ms. Zane, are there any closing remarks, ma'am?

  • - President, CEO

  • Misty, let's wait and see if we have some questions.

  • Operator

  • Okay. Your first question comes from Gregg Corradini [sic] with Wachovia Securities.

  • - Analyst

  • Hey, guys. It's Gregg Korondi with Wachovia. I was just hoping you could comment a little bit on a -- well, a couple of items, actually. What is the -- have you guys spoken with the NYSE at all about the delay in filings? Any impact there?

  • - CFO

  • Yes, we have been in touch with the NYSE.

  • - Analyst

  • And what's their deadline for having filed documents on --?

  • - CFO

  • December 31st of this year.

  • - Analyst

  • Okay. And is that a reasonable goal, based on what you see now -- for having some audited statements available?

  • - CFO

  • We would hope to be completed by then. We can't give an exact time -- deadline at this point.

  • - Analyst

  • On the operations side I guess if you could walk through a little bit on kind of where some of the momentum has been. You can maybe comment on what's the adjusted occupancy would have been ex-dispositions from the prior quarter into Q2 and then where the gains have come from, particularly on the office side?

  • - President, CEO

  • Sure. You can see, Gregg, in our supplemental there's a page that shows five trailing quarters of occupancy trends. We've seen some good upside, obviously, in Tampa where we've had good progression with regard to the Preserve. We have three markets, four markets now that are at or above our goal -- our three-year goal with regard to occupancy. Overall, we're seeing that free rent has really been removed from the negotiation discussions in cities like Nashville, and Richmond, and Orlando. They remain robust markets. Where we continue to see softness is mostly in Raleigh and Atlanta.

  • With regard to the disposition impact on our portfolio, if you look at the dispositions we have and you exclude the Preserve where we had true genuine vacancy in the two buildings that we've sold, it's had a negative impact on occupancy by about 60 BMPs. In other words, what we've sold was more highly leased than the portfolio average, but they all were non-core assets that were in outlying or non-core markets in what we call differentiating assets. So we -- while occupancy has improved quarter-over-quarter and certainly year-over-year we haven't sold our way into an improved state of occupancy.

  • - Analyst

  • And the market that you mentioned, Raleigh and Atlanta, for some difficult -- in the lease after that mainly on the office side or on the industrial or both?

  • - President, CEO

  • We only have industrial really in two markets, and that's the Triad in North Carolina and Atlanta. So Raleigh it's clearly the office, and in Atlanta I'd say it's really on both fronts. It's still a bit of a tough market in Atlanta.

  • - Analyst

  • All right. Thank you.

  • Operator

  • [OPERATOR INSTRUCTIONS]. Your next question comes from John Stewart with Citigroup.

  • - Analyst

  • Hi, guys. Can you give us any update on the SEC investigation?

  • - President, CEO

  • Sure, John this is Ed. We are continuing to fully cooperate with the SEC. We remain comfortable with all the information that we've provided them. The investigation is ongoing and that's really all we're in a position to say. We remain very comfortable with where we are as far as quality of what we've provided and the level of conversation that are ongoing between us and them.

  • - Analyst

  • Has it been expanded to include the topics discussed in today's press release?

  • - President, CEO

  • I really can't comment on any of that, John. There's basically no change in the investigation from what we've last reported.

  • - Analyst

  • Okay. And then with respect to E&Y's review, have they basically put to bed the prior issues with [fixed] accounting and depreciation? And is the ongoing review basically related to what's come up today?

  • - CFO

  • John this is Terry. That's correct. I believe that E&Y has substantially completed all of their procedures on those past issues that we talked about on the last call.

  • - Analyst

  • Okay. And just to confirm, you do expect to release third quarter results before NAREIT? Does that mean that you intend to attend NAREIT?

  • - President, CEO

  • Yes, sir.

  • - Analyst

  • Okay. Thank you.

  • - President, CEO

  • You're welcome. Thanks.

  • Operator

  • Your next question comes from Gregg Korondi with Wachovia Securities.

  • - Analyst

  • Yes, just a quick follow-up. On the land allocation part of the restatements is any of that land currently being used for development projects now? Does that change any of your return expectations?

  • - CFO

  • Some of it would impact current developments, Gregg, but I don't believe that the overall amounts would be that large that would have any kind of a significant impact on our development yields.

  • - Analyst

  • Okay, great. Thanks a lot.

  • - President, CEO

  • You're welcome.

  • Operator

  • [OPERATOR INSTRUCTIONS]. At this time, there are no further questions. Ms. Zane, are there any closing remarks, ma'am?

  • - Senior Director-IR

  • I want to thank you all for joining us. We know it was last minute, and we're all available for questions. Thank you, Misty.

  • Operator

  • This concludes today's Highwoods Properties' second quarter conference call. You may now disconnect.