Item 1.
Business.
As used herein, the terms “Company”, “Colonial”, “we”, “us” and “our” refer to Colonial Properties Trust, an Alabama real estate investment trust, and one or more of its subsidiaries and other affiliates, including Colonial Realty Limited Partnership, Colonial Properties Services Limited Partnership and Colonial Properties Services, Inc. or, as the context may require, Colonial Properties Trust only or Colonial Realty Limited Partnership only.
We are a self-administered equity REIT that owns, develops and operates multifamily, office and retail properties primarily in the Sunbelt region of the United States. We are a fully-integrated real estate company, which means that we are engaged in the acquisition, development, ownership, management and leasing of commercial real estate property and for-sale residential property. Our activities include full or partial ownership of a diversified portfolio of 200 properties as of December 31, 2007, located in Alabama, Arizona, California, Florida, Georgia, Maryland, North Carolina, South Carolina, Tennessee, Texas, and Virginia, development of new properties, acquisition of existing properties, build-to-suit development, and the provision of management, leasing, and brokerage services for commercial real estate. As discussed below, we anticipate that, consistent with our strategic initiative to become a multifamily focused REIT, we will generate the majority of our future net operating income from multifamily apartment communities.
As of December 31, 2007, we owned or maintained a partial ownership in 122 multifamily apartment communities containing a total of 36,314 apartment units (consisting of 102 wholly-owned consolidated properties and 20 properties partially-owned through unconsolidated joint venture entities aggregating 30,371 and 5,943 units, respectively) (the “multifamily apartment communities”), 48 office properties containing a total of approximately 16.1 million square feet of office space (consisting of two wholly-owned consolidated properties and 46 properties partially-owned through unconsolidated joint-venture entities aggregating 0.2 and 15.9 million square feet, respectively) (the “office properties”), 30 retail properties containing a total of approximately 7.8 million square feet of retail space, excluding anchor-owned square-footage (consisting of four wholly-owned properties and 26 properties partially-owned through unconsolidated joint venture entities aggregating 0.7 million and 7.1 million square feet, respectively) (the “retail properties”), and certain parcels of land adjacent to or near certain of these properties (the “land”). The multifamily apartment communities, the office properties, the retail properties and the land are referred to herein collectively as the “properties”. As of December 31, 2007, consolidated multifamily, office and retail properties that had achieved stabilized occupancy (which we have defined as having occurred once the property has attained 93% physical occupancy) were 96.0%, 97.1% and 90.4% leased, respectively.
We are the direct general partner of, and as of December 31, 2007, held approximately 82.5% of the interests in, Colonial Realty Limited Partnership, a Delaware limited partnership (“CRLP” or the “Operating Partnership”). We conduct all of our business through CRLP, Colonial Properties Services Limited Partnership (“CPSLP”), which provides management services for our properties, and Colonial Properties Services, Inc. (“CPSI”), which provides management services for properties owned by third parties, including unconsolidated joint venture entities. We perform all of our for-sale residential and condominium conversion activities through CPSI.
As a lessor, the majority of our revenue is derived from residents and tenants under existing leases at our properties. Therefore, our operating cash flow is dependent upon the rents that we are able to charge to our tenants and residents, and the ability of these tenants and residents to make their rental payments. Additionally, our reliance on third-party management fees has increased significantly as a result of an increase in joint venture activities and the related third-party management agreements.
We were formed in Maryland on July 9, 1993. We were reorganized as an Alabama real estate investment trust in 1995. Our executive offices are located at 2101 Sixth Avenue North, Suite 750, Birmingham, Alabama, 35203 and our telephone number is (205) 250-8700.
Business Strategy
In November 2006, we announced that we were accelerating our plan to become a multifamily focused REIT. To facilitate this plan, in June 2007, we completed two joint venture transactions, one involving 26 properties and the other involving 11 properties. In addition, in July 2007, we completed the outright sale of an additional 12 retail properties. Each of these transactions is discussed in more detail below.
On June 15, 2007, we completed the office joint venture transaction with DRA G&I Fund VI Real Estate Investment Trust, an entity advised by DRA Advisors LLC (“DRA”). We sold to DRA our 69.8% interest in the newly formed joint venture (the “DRA/CLP JV”) that became the owner of 24 office properties and two retail properties that were previously wholly-owned by CRLP. Total sales proceeds from the sale of this 69.8% interest were approximately $379.0 million. We retained, through CRLP, a 15% minority interest in the DRA/CLP JV (see Notes 2 and 9 to our Notes to Consolidated Financial Statements included in Item 8 of this Form 10-K), as well as management and leasing responsibilities for the 26 properties. In addition to the approximate 69.8% interest purchased from us, DRA purchased an aggregate of 2.6% of the interests in the DRA/CLP JV from limited partners of CRLP. As of December 31, 2007, DRA owned an approximate 72.4% interest in the DRA/CLP JV, we owned a 15% interest and certain limited partners of CRLP that did not elect to sell their interests in DRA/CLP JV owned the remaining approximate 12.6% interest. The purchase price paid by DRA for each limited liability company interest it acquired in the DRA/CLP JV was based on a portfolio value of approximately $1.13 billion, of which approximately $588.2 million was funded with mortgage indebtedness. We recorded a net gain of approximately $211.8 million on the sale of our 69.8% interest to DRA. We also deferred a gain of approximately $7.2 million as a result of certain obligations we assumed in the transaction. We recognized approximately $3.0 million of this deferred gain as a result of a reduction of certain of the related obligations during 2007. In connection with the office joint venture transaction, 85% of the DRA/CLP JV membership units were distributed to the Company and all limited partners of CRLP on a pro-rata basis. We recorded this distribution at book value.
On June 20, 2007, we completed the retail joint venture transaction with OZRE Retail, LLC (“OZRE”). We sold to OZRE our 69.8% interest in the newly formed joint venture (the “OZRE JV”) that became the owner of 11 retail properties that were previously wholly-owned by CRLP. Total sales proceeds from the sale of this 69.8% interest were approximately $115.0 million. We retained, through CRLP, a 15% minority interest in the OZRE JV (see Notes 2 and 9 to our Notes to Consolidated Financial Statements included in Item 8 of this Form 10-K), as well as management and leasing responsibilities for the 11 properties. In addition to the approximate 69.8% interest purchased from us, OZRE purchased an aggregate of 2.7% of the interests in the OZRE JV from limited partners of CRLP. As of December 31, 2007, OZRE owned an approximate 72.5% interest in the OZRE JV, we owned a 15% interest and certain limited partners of CRLP that did not elect to sell their interests in the OZRE JV owned the remaining approximate 12.5% interest. The purchase price paid by OZRE for each limited liability company interest it acquired in the OZRE JV was based on a portfolio value of approximately $360.0 million, of which approximately $187.2 million was funded with mortgage indebtedness. We recorded a net gain of approximately $64.7 million on the sale of our 69.8% interest to OZRE. We also deferred a gain of approximately $8.5 million as a result of certain obligations we assumed in the transaction. We recognized approximately $5.5 million of this deferred gain as a result of a reduction of certain of the related obligations during 2007. In connection with the retail joint venture transaction, 85% of the OZRE JV membership units were distributed to the Company and all limited partners of CRLP on a pro-rata basis. We recorded this distribution at book value.
In July 2007, we completed our strategic initiative to become a multifamily focused REIT with the outright sale of an additional 12 retail assets and the sale of our interests in one other retail asset (the asset sales, together with the joint venture transactions completed in June 2007 are collectively referred to herein as the “Strategic Transactions”). As a result of the sale of one of these wholly-owned assets, we recorded an impairment charge of approximately $2.5 million during 2007. This charge is included in Income from Discontinued Operations in the Consolidated Statements of Income and Comprehensive Income included in Item 8 of this Form 10-K.
As a result of the joint venture transactions discussed above, we paid a special distribution of $10.75 per share on June 27, 2007. The remaining proceeds from these transactions were used to pay down a portion of our outstanding indebtedness (see Note 11 to our Notes to Consolidated Financial Statements included in Item 8 of this Form 10-K). During June 2007, we incurred approximately $29.2 million in prepayment penalties, which was partially offset by the write-off of approximately $16.7 million of debt intangibles. These amounts are included in
Losses on retirement of debt in the Consolidated Statements of Income and Comprehensive Income included in Item 8 of this Form 10-K.
While there will be less capital allocated to our commercial businesses, we will continue to utilize our development, leasing and management expertise. We expect to continue our emphasis on value creation through the development of multifamily, office, mixed-use and open-air shopping center properties.
Merger with Cornerstone Realty Income Trust
On April 1, 2005, we completed the merger with Cornerstone Realty Income Trust, Inc. (“Cornerstone”), a Virginia corporation, pursuant to an Agreement and Plan of Merger, dated as of October 25, 2004, as amended by Amendment No. 1 to the Agreement and Plan of Merger, dated January 24, 2005 (the “Merger Agreement”). As a result of the merger, we succeeded by operation of law to all of the assets and liabilities of Cornerstone prior to the merger, which consisted of 86 apartment communities with 22,981 apartment homes, a third party property management business, apartment land under development and ownership in four real estate joint ventures. In connection with the merger, Colonial issued 11,277,358 Colonial common shares, 5,326,349 Colonial Series E preferred depositary shares and 578,358 CRLP common units to former shareholders of Cornerstone.
Acquisitions and Developments
The following table summarizes our acquisitions and developments that were completed in 2007. For the purposes of the following table and throughout this Form 10-K, the size of a multifamily property is measured by the number of units and the size of an office property and retail property is measured in square feet.
(1)
Square footage includes anchor-owned square footage.
(2)
Prior to our acquisition of the remaining 65% interest in this property in May 2007, we owned a 35% interest in this property through one of our unconsolidated joint ventures.
(3)
Amount represents our portion of the acquisition cost, including mortgage debt issued or assumed.
(4)
In 2008, we sold our interests in these properties. See the discussion under “Recent Events” below.
(5)
Represents 25% of development costs, as we are a 25% equity partner in this unconsolidated development.
(6)
These completed developments are part of the DRA/CLP JV, in which we own 15%.
(7)
Total costs are presented net of a $0.8 million impairment charge recorded during 2007.
Acquisitions
During 2007, we acquired three wholly-owned multifamily apartment communities and a partial interest in three multifamily apartment communities. We also acquired the remaining interest in a multifamily apartment community (Merritt at Godley Station), in which we had a partial interest in since April 2005. We provide management services for all partially-owned multifamily properties acquired during 2007. In addition to these acquisitions, we also acquired certain parcels of land to be used in developments (see Development Activity below).
Multifamily Properties
Colonial Grand at Old Town Scottsdale North - On January 31, 2007, we acquired a 208-unit multifamily apartment community, Colonial Grand at Old Town Scottsdale North (formerly Monte Carlo Apartments) located in Phoenix, Arizona. The property was acquired for $33.8 million, which was funded with proceeds from asset sales and from borrowings under our unsecured credit facility.
Colonial Grand at Old Town Scottsdale South - On January 31, 2007, we acquired a 264-unit multifamily apartment community, Colonial Grand at Old Town Scottsdale South (formerly Monaco Apartments) located in Phoenix, Arizona. The property was acquired for $42.2 million, which was funded with proceeds from asset sales and from borrowings under our unsecured credit facility.
Fairmont at Fossil Creek - On February 15, 2007, we acquired a 15% partnership interest in Fairmont at Fossil Creek, a 240-unit multifamily apartment community located in Fort Worth, Texas. Our 15% investment in the partnership was approximately $3.2 million, which consisted of $2.6 million of newly issued mortgage debt and $0.6 million of cash. The cash portion of this investment was funded from borrowings under our unsecured credit facility.
Auberry at Twin Creeks - On February 28, 2007, we acquired a 15% partnership interest in Auberry at Twin Creeks, a 216-unit multifamily apartment community located in Dallas, Texas. Our 15% investment in the partnership was approximately $3.1 million, which consisted of $2.6 million of newly issued mortgage debt and $0.5 million of cash. The cash portion of this investment was funded from borrowings under our unsecured credit facility.
Colonial Grand at Inverness Commons - On March 1, 2007, we acquired a 300-unit multifamily apartment community, Colonial Grand at Inverness Commons (formerly Sandbridge), located in Phoenix, Arizona. The property was acquired for $41.3 million in cash, which was funded by proceeds from asset sales and borrowings under our unsecured credit facility.
Merritt at Godley Station - On May 1, 2007, we acquired the remaining 65% interest in a 312-unit multifamily apartment community, Merritt at Godley Station, located in Savannah, Georgia. We acquired our initial 35% interest as a part of the merger with Cornerstone Realty Income Trust in April 2005. The remaining 65% interest was acquired for a total price of $20.9 million, which consisted of the assumption of $12.3 million of existing mortgage debt and $8.6 million of cash. The cash portion of this investment was funded by proceeds from asset sales and borrowings under our unsecured credit facility.
Colonial Village at Cary - On May 23, 2007, we acquired a 20% partnership interest in Colonial Village at Cary, a 319-unit multifamily apartment community located in Raleigh, North Carolina. Our 20% investment in the partnership was approximately $6.0 million, which consisted of $4.3 million of newly issued mortgage debt and $1.7 million of cash. The cash portion of this investment was funded from borrowings under our unsecured credit facility.
Office Properties
Huntsville TIC - On November 7, 2007, we and our partner, DRA, disposed of our interest in nine office properties containing 1.7 million square feet located in Huntsville, Alabama that were originally acquired from us in June 2007 in connection with the office joint venture transaction. As part of the transaction, we acquired a 40% interest (of which 30% is owned by CPSI, our taxable REIT subsidiary) in three separate tenancy in common (TIC) investments of the same nine office properties for a total acquisition price of $88.7 million, which included the issuance of $43.0 million of third-party secured financing and $30.4 million of ground lease financing. We continue to manage the nine properties and intend to sell CPSI’s 30% ownership position in each of these TIC investments
during 2008 through offerings sponsored by Bluerock Real Estate, LLC (the 60% partner) to unrelated TIC investors, and to retain CRLP’s 10% ownership interest.
Completed Developments
Multifamily Properties
Colonial Grand at Round Rock - During the first quarter of 2007, we completed the development of Colonial Grand at Round Rock, a 422-unit multifamily apartment community located in Austin, Texas. Project development costs, including land acquisition costs, were $35.0 million and were funded through our unsecured credit facility.
Colonial Grand at Canyon Creek - During the fourth quarter of 2007, we completed the development of Colonial Grand at Canyon Creek, a joint venture development with an affiliate of Abacus Capital Group, LLC in which we own a 25% interest. Colonial Grand at Canyon Creek is a 336-unit multifamily apartment community located in Austin, Texas. Our portion of the project development costs, including land acquisition costs, was $7.9 million and was funded through our unsecured credit facility.
Office Properties
Colonial Center TownPark 300 - During the first quarter of 2007, we completed the development of Colonial Center TownPark 300, a 150,000 square foot development located in Orlando, Florida. Project development costs, including land acquisition costs, were $21.6 million and were funded through our unsecured credit facility. We sold 85% of our interest in this building as part of the DRA/CLP JV transaction.
Colonial Center Brookwood - During the third quarter of 2007, we completed the development of Colonial Center Brookwood, a 169,000 square foot development located in Birmingham, Alabama. Project development costs were $42.8 million and were funded through our unsecured credit facility.
Northrop Grumman Building - During the first quarter of 2007, we completed the development of the Northrop Grumman Building, an 110,000 square foot development located in Huntsville, Alabama. Project development costs, including land acquisition costs, were $17.0 million and were funded through our unsecured credit facility. We sold 85% of our interest in this building as part of the DRA/CLP JV transaction.
Retail Properties
Colonial Pinnacle Craft Farms I - During the third quarter of 2007, we completed the development of Colonial Pinnacle Craft Farms I, a 243,000 square foot development, excluding anchor-owned square-footage (368,000 square feet, including anchor-owned square footage), located in Gulf Shores, Alabama. Project costs, including land acquisition costs, were $48.1 million and were funded through our unsecured credit facility. We sold 85% of our interest in this property to a joint venture partner during the third quarter of 2007.
Colonial Pinnacle Tutwiler Farms II - During the fourth quarter of 2007, we completed the development of Colonial Pinnacle at Tutwiler Farms II, a 65,000 square foot development located in Birmingham, Alabama. Project development costs, including land acquisition costs, were $9.0 million and were funded through our unsecured credit facility. We sold 95% of our interest in this property to a joint venture partner during the fourth quarter of 2007.
Colonial Promenade Alabaster II - During the fourth quarter of 2007, we completed the development of Colonial Promenade Alabaster II, a 127,000 square foot development, excluding anchor-owned square-footage (354,000 square feet, including anchor-owned square footage), located in Birmingham, Alabama. Project development costs, including land acquisition costs, were $22.6 million and were funded through our unsecured credit facility. We sold 95% of our interest in this property to a joint venture partner during the fourth quarter of 2007.
For-Sale Properties
Regatta at James Island - During 2007, we completed the development of Regatta at James Island, a 212-unit condominium development located in Charleston, South Carolina. Project development costs, including land acquisition costs, were $25.7 million and were funded through our unsecured credit facility.
Southgate on Fairview - During 2007, we completed the development of Southgate on Fairview, a 47-unit development located in Charlotte, North Carolina. Project development costs, including land acquisition costs, were $16.4 million, net of an $0.8 million impairment charge recorded during 2007, and were funded through our unsecured credit facility.
Development Activity
The following table summarizes our properties that are under construction, including undeveloped land, at December 31, 2007. Unless otherwise noted, all developments will be funded through our unsecured credit facility (discussed in this Form 10-K below under the heading “Management’s Discussion and Analysis - Liquidity and Capital Resources”):
Footnotes on the following page
(1)
Square footage for the retail assets including anchor-owned square-footage.
(2)
Enclave, formerly a for-sale residential project, is now being developed as a multifamily apartment community.
(3)
During the third quarter of 2007, we recorded a $43.3 million non-cash impairment charge ($26.8 million net of income tax) associated with these projects as a result of the deterioration in the single family housing market. Estimated Total Costs and Costs Capitalized to Date are net of the $43.3 million impairment charge, $0.8 million of which relates to Southgate on Fairview, a for-sale residential property classified as held for sale on our Consolidated Balance Sheet.
(4)
These projects are part of mixed-use developments.
(5)
Estimated Total Costs and Costs Capitalized to Date are net of $17.2 million, which represent a portion of the development placed into service during 2007. Total Square Feet is net of 261,000 square feet, which represent the portion of the development placed into service during 2007.
(6)
This project will include the sale of undeveloped land parcels.
(7)
Estimated Total Costs and Costs Capitalized to Date are net of $0.7 million, which represent portions of lots sold during 2007.
(8)
Development costs represent 40% of total development costs, as we are a 40% partner in this project.
(9)
Development costs represent 50% of total development costs, as we are a 50% partner in this project.
(10)
Development costs represent 35% of total development costs, as we are a 35% partner in this project.
(11)
Development costs represent 20% of total development costs, as we are a 20% partner in this project.
Multifamily Development Activity
Colonial Grand at Ayrsley - During 2007, we continued the development of Colonial Grand at Ayrsley, a 368-unit multifamily apartment community located in Charlotte, North Carolina. Project development costs, including land acquisition costs, are expected to be $34.9 million. The development is expected to be completed in the third quarter of 2008.
Colonial Grand at Ashton Oaks - We expect to begin the development of Colonial Grand at Ashton Oaks, a 362-unit multifamily apartment community located in Austin, Texas, in the first quarter of 2008. Project development costs, including land acquisition costs, are expected to be $34.3 million. The development is expected to be completed in the fourth quarter of 2009.
Colonial Grand at Huntersville - During 2007, we continued the development Colonial Grand at Huntersville, a 250-unit multifamily apartment community located in Charlotte, North Carolina. Project development costs, including land acquisition costs, are expected to be $25.9 million. The development is expected to be completed in the first quarter of 2008.
Colonial Grand at Onion Creek (formerly Double Creek) - During 2007, we continued the development of Colonial Grand at Onion Creek, a 300-unit multifamily apartment community located in Austin, Texas. Project development costs, including land acquisition costs, are expected to be $31.8 million. The development is expected to be completed in the fourth quarter of 2008.
Colonial Grand at Shelby Farms II - During the first quarter of 2007, we began the development of Colonial Grand at Shelby Farms II, a 154-unit multifamily apartment community located in Memphis, Tennessee. Project development costs, including land acquisition costs, are expected to be $13.1 million. The development is expected to be completed in the first quarter of 2008.
Colonial Village at Godley Lake - During the third quarter of 2007, we began the development of Colonial Village at Godley Lake, a 288-unit multifamily apartment community located in Savannah, Georgia. Project development costs, including land acquisition costs, are expected to be $26.2 million. The development is expected to be completed in the fourth quarter of 2008.
Colonial Village at Matthews Commons - During the fourth quarter of 2007, we began the development of Colonial Village at Matthews Commons, a 216-unit multifamily apartment community located in Charlotte, North Carolina. Project development costs, including land acquisition costs, are expected to be $21.1 million. The development is expected to be completed in the fourth quarter of 2008.
Enclave (formerly The Renwick) - During 2007, we continued the development of Enclave, an 84-unit development located in Charlotte, North Carolina. This project was initially a for-sale residential project but is now being developed as a multifamily apartment community. Project development costs, including land acquisition costs, are expected to total $26.2 million, net of a $5.4 million impairment charge recorded during 2007. The development is expected to be completed in the second quarter of 2008.
Colonial Grand at Traditions - During 2007, we continued the development of Colonial Grand at Traditions, a 324-unit multifamily apartment community located in Gulf Shores, Alabama, which we are developing through one of our unconsolidated joint ventures. Our portion of the project development costs, including land acquisition costs, is expected to be $15.1 million, and will be funded primarily through a secured construction loan. We are a 35% partner in this project; therefore, development costs represent 35% of total development costs. The development, which is part of the Traditions mixed use development, is expected to be completed in the first quarter of 2008.
Future Multifamily Development Activity
Colonial Grand at Azure - We expect to begin the development of Colonial Grand at Azure, a 188-unit multifamily apartment community located in Las Vegas, Nevada, in the second quarter of 2008. Project development costs, including land acquisition costs, are expected to be $26.4 million. The development is expected to be completed in the fourth quarter of 2009.
Colonial Grand at Cityway (formerly Ridell Ranch) - We expect to begin the development of Colonial Grand at Cityway, a 376-unit multifamily apartment community located in Austin, Texas, in the third quarter of 2008. Project development costs, including land acquisition costs, are expected to be $34.3 million. The development is expected to be completed in second quarter of 2010.
Colonial Grand at Desert Vista (formerly Pecos) - We expect to begin the development of Colonial Grand at Desert Vista, a 380-unit multifamily apartment community located in Las Vegas, Nevada, in the first quarter of 2008. Project development costs, including land acquisition costs, are expected to be $52.0 million. The development is expected to be completed in the second quarter of 2009.
Colonial Grand at Hampton Preserve - We expect to begin the development of Colonial Grand at Hampton Preserve, a 486-unit multifamily apartment community located in Tampa, Florida, in the second quarter of 2008. Project development costs, including land acquisition costs, are expected to be $60.8 million. The development is expected to be completed in the third quarter of 2010.
Colonial Grand at Randal Park - We expect to begin the development of Colonial Grand at Randal Park, a 600-unit multifamily apartment community located in Orlando, Florida, in the second quarter of 2008. Project development costs, including land acquisition costs, are expected to be $76.7 million. The development is expected to be completed in the fourth quarter of 2009.
Colonial Grand at South End - We expect to begin the development of Colonial Grand at South End, a 344-unit multifamily apartment community located in Charlotte, North Carolina, in the second quarter of 2008. Project development costs, including land acquisition costs, are expected to be $52.1 million. The development is expected to be completed in the fourth quarter of 2010.
Colonial Grand at Sweetwater - We expect to begin the development of Colonial Grand at Sweetwater, a 195-unit multifamily apartment community located in Phoenix, Arizona, in the second quarter of 2008. Project development costs, including land acquisition costs, are expected to be $24.2 million. The development is expected to be completed in the third quarter of 2009.
Colonial Grand at Thunderbird - We expect to begin the development of Colonial Grand at Thunderbird, a 244-unit multifamily apartment community located in Phoenix, Arizona, in the second quarter of 2008. Project development costs, including land acquisition costs, are expected to be $29.5 million. The development is expected to be completed in the fourth quarter of 2009.
Colonial Grand at Wakefield - We expect to begin the development of Colonial Grand at Wakefield, a 365-unit multifamily apartment community located in Raleigh, North Carolina, in the first quarter of 2008. Project development costs, including land acquisition costs, is expected to be $36.8 million. The development is expected to be completed in the third quarter of 2009.
Colonial Grand at Lake Forest - We expect to begin the development of Colonial Grand at Lake Forest, a 529-unit multifamily apartment community located in Dallas, Texas, in the second quarter of 2008, which we are developing through one of our unconsolidated joint ventures. Our portion of the project development costs, including land acquisition costs, is expected to be $12.6 million. We are a 20% partner in this project; therefore, development costs represent 20% of total development costs. The development is expected to be completed in the first quarter of 2010.
All of the new multifamily communities listed above will have numerous amenities, including a cyber café, a fitness center, a resort style swimming pool and a resident business center.
Office Development Activity
Colonial Center TownPark 400 - During the second quarter of 2007, we began the development of Colonial Center TownPark 400, a 176,000 square foot office property, located in Orlando, Florida. Project development costs, including land acquisition costs, are expected to be $30.4 million. The development, which is part of the Colonial TownPark Lake Mary mixed use development, is expected to be completed in the second quarter of 2008.
Metropolitan - During 2007, we continued the development of Metropolitan, a 153,000 square foot office property, located in Charlotte, North Carolina. Project development costs, including land acquisition costs, are expected to be $35.2 million. The development, which is part of the Metropolitan mixed use development, is expected to be completed in the second quarter of 2008.
Retail Development Activity
Colonial Promenade Fultondale - During 2007, we continued the development of Colonial Promenade at Fultondale, a 234,000 square foot development, excluding anchor-owned square footage (397,000 square feet,
including anchor-owned square footage), located in north Birmingham, Alabama. Project development costs, including land acquisition costs, are expected to total $24.3 million. We expect to complete the project in the second quarter of 2008.
Colonial Promenade Tannehill - During 2007, we continued the development of Colonial Promenade at Tannehill, a 346,800 square foot development, excluding anchor-owned square-footage (474,400 square feet, including anchor-owned square footage), located in Birmingham, Alabama. Project development costs, including land acquisition costs, are expected to total $50.7 million. We expect to complete the project in the third quarter of 2008.
Metropolitan - During 2007, we continued the development of Metropolitan, an 189,000 square foot development, located in Charlotte, North Carolina. Project development costs, including land acquisition costs, are expected to total $53.7 million. The development, which is part of the Metropolitan mixed use development, is expected to be completed in the fourth quarter of 2008.
Colonial Promenade Smyrna - During 2007, we continued the development of Colonial Promenade at Smyrna, a 50% joint venture development with Blanchard and Calhoun Commercial. The center is expected to total approximately 174,000 square feet, excluding anchor-owned square-footage (441,000 square feet, including anchor-owned square footage), and is located in Nashville, Tennessee. Our portion of project development costs, including land acquisition costs, is expected to be $17.4 million and will be funded primarily through a construction loan. We expect to complete the project in the second quarter of 2008.
Future Retail Development Activity
Colonial Pinnacle Craft Farms II - We expect to begin the development of Colonial Pinnacle at Craft Farms II, a 75,000 square foot development, located in Gulf Shores, Alabama, in 2010. Project development costs, including land acquisition costs, are expected to total $11.1 million. We expect to complete construction on the project in 2011.
Colonial Promenade Huntsville - We expect to begin the development of Colonial Promenade Huntsville, a 90,000 square foot development, excluding anchor-owned square-footage (220,000 square feet, including anchor-owned square footage), located in Huntsville, Alabama, in 2009. Project development costs, including land acquisition costs, are expected to total $17.6 million. We expect to complete construction on the project in 2010.
Ongoing For-Sale Development Activity
We are developing each of the for-sale projects discussed below through our taxable REIT subsidiary, CPSI.
Colonial Traditions at Gulf Shores - During 2007, we continued the development of the Colonial Traditions at Gulf Shores, a residential lot development located in Gulf Shores, Alabama. Project development costs, including land acquisition costs, are expected to total $22.8 million. We expect to begin sales of completed lots in the third quarter of 2009. This project will also include the sale of undeveloped land parcels.
Grander - During 2007, we continued the development of Grander, a 26-unit residential development located in Gulf Shores, Alabama. Project development costs, including land acquisition costs, are expected to total $18.9 million, net of a $4.3 million impairment charge recorded during 2007. We began selling these units in the fourth quarter of 2006 and had sold 12 of the 26 townhouse units as of December 31, 2007.
Cypress Village - During 2007, we continued the development of Cypress Village, a residential community that will consist of 96 townhouse units and 236 for-sale residential lots located in Gulf Shores, Alabama. Project development costs, including land acquisition costs, are expected to total $48.1 million, net of a $31.6 million impairment charge recorded during 2007. We began selling lots in this development in the fourth quarter of 2006 and had sold five of the 236 available lots as of December 31, 2007. During January 2008, we moved this development project out of the for-sale residential pipeline and into the multifamily rental pool.
Spanish Oaks - During 2007, we continued to sell undeveloped land parcels at Spanish Oaks, a 200-lot residential development located in Mobile, Alabama. Project development costs, including land acquisition costs, are expected to total $16.9 million. We began selling lots in the first quarter of 2007 and had sold 14 of the 200 available lots as of December 31, 2007.
Metropolitan - During 2007, we continued the development of Metropolitan, a 101-unit condominium development located in Charlotte, North Carolina. Project development costs, including land acquisition costs, are expected to total $41.2 million. The development is part of the Metropolitan mixed use development. We expect to begin sales of completed units in the third quarter of 2008.
Regents Park - During 2007, we continued the development of Regents Park, a joint venture development with Carter and Associates in which we own a 40% interest. This development will consist of 23 townhomes located in Atlanta, Georgia. Our portion of project development costs, including land acquisition costs, is expected to total $18.7 million, net of a $1.2 million impairment charge recorded during 2007. In addition, we provided a $40.0 million construction loan to the joint venture, under which $25.6 million was outstanding as of December 31, 2007. We began closing on sales of completed units in the fourth quarter of 2007 and had sold four of the 23 available units as of December 31, 2007.
Dispositions
During 2007, we disposed of all or a portion of our interests in 14 multifamily apartment communities, 24 office properties, 29 retail properties and three retail developments, having an aggregate value of approximately $2.1 billion. We also generated approximately $48.6 million from our pro rata share of the dispositions of two properties held through two of our joint ventures. In addition, throughout 2007, we sold various parcels of land located adjacent to our existing properties for an aggregate sales price of approximately $15.2 million. The multifamily communities, office properties, retail properties and land parcels, and interests in such properties, as applicable, disposed of during 2007 generated an aggregate sales price of approximately $2.2 billion. The proceeds from the 2007 dispositions were used to repay a portion of the borrowings outstanding under our unsecured credit facility, to repay collateralized debt, and to fund other investment activities. These dispositions are summarized below.
Multifamily Dispositions
During 2007, we disposed of 12 multifamily apartment communities and our 25% interest in two multifamily apartment communities representing an aggregate of 3,880 units.
Office Dispositions
During 2007, we sold 85% of our interest in 24 office assets to the DRA/CLP JV. Subsequently, the DRA/CLP JV sold nine of these assets to Bluerock Real Estate, LLC. As a part of that transaction, we acquired a 40% interest (of which 30% is owned by CPSI, our taxable REIT subsidiary) in three separate TIC investments of the same nine properties. In addition, the DRA/CRT JV sold two office assets during 2007. These office assets represent, in the aggregate, approximately 7.8 million square feet, 6.6 million of which we continue to manage and lease.
Retail Dispositions
During 2007, we sold 15 wholly-owned retail assets and our 90% interest in a retail center. We also sold 85% of our interest in two retail assets to the DRA/CLP JV and 85% of our interest in 11 retail assets to the OZRE JV. These retail assets, sold during 2007, represent, in the aggregate, approximately 6.1 million square feet, 3.0 million of which we continue to manage and lease. In addition to these dispositions, we also disposed of our majority interests in three retail developments completed during 2007. These retail development assets represent, in the aggregate, approximately 0.7 million square feet, all of which we continue to manage and lease.
The following table is a summary of our operating property disposition activity in 2007:
Footnotes on the following page
(1)
Sales Price represents the sales price of the property, when sold outright, and the property/portfolio value for those properties that are sold into joint ventures.
(2)
These properties were sold as a single transaction during January 2007.
(3)
Sales Price and Gain on Sale of Property represents our 25% interest in these two properties.
(4)
The DRA/CLP JV properties include 24 office properties located in Birmingham and Huntsville, AL; Orlando and Tampa, FL; Atlanta, GA; Charlotte, NC; and Austin, TX and two adjacent retail properties located in Birmingham, AL and Orlando, FL. We retained a 15% interest in these properties. The sales price represents 100% of the portfolio’s value (not just our pro rata share of the sales price with respect to such properties).
(5)
The DRA/CLP JV sold nine office assets located in Huntsville, Alabama. We acquired a 40% interest (of which 30% is owned by CPSI, our taxable REIT subsidiary) in three separate TIC investments of the same nine properties.
(6)
Sales Price and Gain on Sale of Property represents our 15% interest in these two properties.
(7)
Retail square footage includes total square footage of asset including anchor-owned square footage.
(8)
These properties were sold as a single transaction during July 2007. We did not recognize a gain on this transaction.
(9)
The OZRE Retail JV properties include 11 retail properties located in Birmingham, AL; Orlando, Punta Gorda, Jacksonville, and Tampa, FL; Athens, GA; and Houston, TX. We retained a 15% interest in these properties. The sales price represents 100% of the portfolio’s value (not just our pro rata share of the sales price with respect to such properties).
(10)
Sales Price and Gain on Sale of Property represents our 90% interest in this property.
(11)
We retained a 15% interest in this property. The sales price represents 100% of the property’s value (not just our pro rata share of the sales price with respect to such property).
(12)
We retained a 5% interest in these properties. The sales price represents 100% of the portfolio’s value (not just our pro rata share of the sales price with respect to such properties).
In some cases, we use disposition proceeds to fund investment activities through tax-deferred exchanges under Section 1031 of the Internal Revenue Code. Certain of the proceeds described above were received into temporary cash accounts pending the fulfillment of Section 1031 exchange requirements. Subsequently, the funds were utilized to fund investment activities.
For-Sale Projects
During 2007, we, through CPSI, sold 262 condominium units at our condominium conversion properties, 14 residential lots and 101 condominium units at our for-sale residential development properties. During 2007, gains from sales of property on the Consolidated Statements of Income and Comprehensive Income included $13.2 million ($10.6 million net of income taxes) from these condominium conversion and for-sale residential sales. A summary of the revenues and costs from these sales of for-sale projects are set forth in the table below.
The net gains on condominium conversion sales are classified in discontinued operations if we previously operated the related condominium property as an apartment community. For 2007, gains on condominium sales, net of income taxes, of $9.3 million are included in discontinued operations. Condominium conversion properties are reflected in the accompanying Consolidated Balance Sheet as part of real estate assets held for sale, and totaled $2.9 million as of December 31, 2007. For-sale residential projects actively under development of $96.0 million (net of a $42.1 million non-cash impairment charge related to wholly-owned for-sale properties) as of December 31, 2007, are reflected as construction in progress in the accompanying Consolidated Balance Sheet. Completed for-sale
residential projects of approximately $22.2 million are reflected in real estate assets held for sale as of December 31, 2007.
For cash flow statement purposes, we classify capital expenditures for newly developed for-sale residential communities and for other condominium conversion communities in investing activities. Likewise, the proceeds from the sales of condominium conversion units and for-sale residential sales are also included in investing activities.
During 2007, there was a softening in the condominium and single family housing markets due to increasing mortgage financing rates, the decline in the availability of sub-prime lending and other types of mortgages, increasing supplies of such assets, an increase in construction costs, and higher insurance costs, resulting in lower sales prices and reduced sales velocity. In addition, pricing in the single family housing market declined, primarily due to a lack of demand, and certain units that were under contract did not close because buyers elected not to consummate the purchase of the units. As a result, we recorded a non-cash impairment charge of $43.3 million ($26.8 million net of income tax) to reduce the carrying value of certain of our for-sale residential developments to their estimated fair market value. The impairment charge is primarily related to the for-sale residential projects located in Gulf Shores, Alabama (Cypress Village project and Grander condominium development) and one condominium project in downtown Charlotte, North Carolina (The Enclave). An increase in construction costs partially resulting from a contract dispute with a general contractor (see Note 19 to our Notes to Consolidated Financial Statements included in Item 8 of this Form 10-K) during development was also factored into the impairment charge. We utilized a probability weighted discounted future cash flow analysis that incorporates available market information and other assumptions made by management. Including the impairment charge, as of December 31, 2007, we had approximately $135.6 million of capital cost (based on book value, including pre-development and land costs) invested in our consolidated and unconsolidated for-sale residential projects.
If market conditions do not improve or if there is further market deterioration, it may impact the number of projects we can sell, the timing of the sales and/or the prices at which we can sell them. If we are unable to sell projects, we may incur additional impairment charges on projects previously impaired as well as on projects not currently impaired but for which indicators of impairment may exist, which would decrease the value of our assets as reflected on our balance sheet and adversely affect our shareholders’ equity. There can be no assurances of the amount or pace of future for-sale residential sales and closings, particularly given current market conditions. See “Risk Factors - Risks Associated with Our Operations - The development or conversion of for-sale projects could adversely affect our results of operations.”
Recent Events
Property Acquisitions
On January 16, 2008, we acquired the remaining 75% interest in a 270-unit multifamily apartment community, Colonial Village at Matthews, located in Charlotte, North Carolina. We acquired our initial 25% interest in March 2006. The remaining 75% interest was acquired for a total price of $24.5 million, consisting of the assumption of $14.7 million of existing mortgage debt and $9.8 million of cash, which was funded through proceeds from asset sales.
Property Dispositions
On January 24, 2008, we disposed of our 15% interest in Fairmont at Fossil Creek, a 240-unit multifamily apartment community located in Fort Worth, Texas. Our interest in this asset was sold for a total sales price of $3.2 million and the proceeds will be used to fund future investment activities and for general corporate purposes.
On January 24, 2008, we disposed of our 15% interest in Auberry at Twin Creeks, a 216-unit multifamily apartment community located in Dallas, Texas. Our interest in this asset was sold for a total sales price of $3.2 million and the proceeds will be used to fund future investment activities and for general corporate purposes.
On January 31, 2008, we disposed of our 10% interest in Arbors at Windsor Lake, a 228-unit multifamily apartment community located in Columbia, South Carolina. Our interest in this asset was sold for a total sales price of approximately $1.4 million and the proceeds from the sale will be used to fund future investment activities and for general corporate purposes.
On February 1, 2008, we disposed of 250 Commerce Center, a 37,000 square foot office asset located in Montgomery, Alabama. We sold this asset for approximately $3.1 million, and the proceeds from the sale of this asset will be used to fund future investment activities and for general corporate purposes.
Financing Activities
On January 8, 2008, we, together with CRLP, increased the amount of our borrowing capacity by $175 million through the accordion feature included in our existing $500 million unsecured revolving credit facility dated as of March 22, 2005, as amended, among CRLP, the Company, Wachovia Bank, National Association, as administrative agent, Bank of America, N.A., as syndication agent, and the lenders named therein.
Distribution
During January 2008, the Board of Trustees declared a cash distribution to our shareholders and the partners of CRLP in the amount of $0.50 per share and per partnership unit, totaling approximately $28.6 million. The distribution was made to shareholders and partners of record as of February 11, 2008 and was paid on February 19, 2008.
Business Strategy
As discussed above, during 2007 we executed our plan to become a multi-family focused REIT by completing the Strategic Transactions. Each of these transactions is discussed in more detail above. As a result of these transactions, we anticipate that we will generate the majority of our future income from operations from multifamily apartment communities.
Our business objective as a multifamily focused REIT is to generate stable and increasing cash flow and portfolio value for our shareholders through a strategy of:
•
realizing growth in income from our existing portfolio of properties;
•
developing multifamily properties to grow our core portfolio and improve the age and quality of our multifamily apartment communities in growth markets located in the Sunbelt region of the United States, where we have first-hand knowledge of growth patterns and local economic conditions;
•
developing office, mixed use and open air shopping center properties creating value through the sale of a majority interest to a joint venture partner or the outright sale of such properties in growth markets located in the Sunbelt region of the United States, where we have first-hand knowledge of growth patterns and local economic conditions;
•
recycling capital by selectively disposing of assets that are approaching or have reached their maximum investment potential and reinvesting the proceeds into opportunities with more perceived growth potential;
•
managing our own properties as well as commercial assets through joint venture arrangements, which enables us to better control our operating expenses and establish and maintain long-term relationships with our office and retail tenants;
•
selectively acquiring additional multifamily apartment communities in growth markets located in the Sunbelt region of the United States;
•
completing our existing condominium conversion and for-sale residential projects;
•
maintaining our third-party property management business, which increases cash flow through management fee income stream and establishes additional relationships with investors and tenants; and
•
employing a comprehensive capital maintenance program to maintain properties in first-class condition.
Financing Strategy
We seek to maintain a well-balanced, conservative and flexible capital structure by:
•
maintaining conservative debt service and fixed charge coverage ratios in order to retain our investment grade status;
•
extending and sequencing the maturity dates of our debt;
•
borrowing primarily at fixed rates; and
•
generally pursuing long-term debt financings and refinancings on an unsecured basis.
We believe that these strategies have enabled, and should continue to enable, us to access the debt and equity capital markets to fund debt refinancings and the acquisition and development of additional properties. However, as a result of our cash position at December 31, 2007, our availability under our existing unsecured credit facility and minimal debt maturities in 2008, we do not anticipate the need to access the capital markets in 2008. This liquidity, along with our projected asset sales is expected to allow us to execute our business plan in the short-term, without the dependency on the capital markets.
We may modify our borrowing policy and may increase or decrease our ratio of debt to gross asset value in the future. To the extent that our Board of Trustees determines to seek additional capital, we may raise such capital through additional asset dispositions, equity offerings, debt financings or retention of cash flow (subject to provisions in the Internal Revenue Code of 1986, as amended, requiring the distribution by a REIT of a certain percentage of taxable income and taking into account taxes that would be imposed on undistributed taxable income) or a combination of these methods.
We have historically funded our acquisition and development activities primarily through proceeds received from the disposition of assets, unsecured senior notes offerings and advances on our unsecured credit facility. For additional information regarding current year financing activities and year-end balances, refer to Item 7 - “Management’s Discussion and Analysis of Financial Condition and Results of Operations” of this Form 10-K.
Property Management
We are experienced in the management and leasing of multifamily, office and retail properties and believe that the management and leasing of our own portfolio has helped maintain consistent income growth and has resulted in reduced operating expenses from the properties. The third-party management, leasing and brokerage businesses conducted through CPSI have provided us with both a relatively stable source of cash flow and with the benefits of economies of scale in conjunction with the management and leasing of our own properties. These businesses also allow us to establish additional relationships with tenants who may require additional office or retail space and may help us to identify potential acquisitions.
Operational Structure
We currently manage our business through, and based on the performance of four operating segments: multifamily, office, retail and for-sale residential. As a result of the impairment charge recorded during 2007 related to our for-sale residential projects, our for-sale residential operating segment met the quantitative threshold to be considered a reportable segment. The results of operations and assets of the for-sale residential operating segment were previously included in other income (expense) and in unallocated corporate assets, respectively, due to the insignificance of this operating segment in prior periods. We have centralized functions that are common to each portfolio, including accounting, information technology and administrative services. Each segment has a separate management team that is responsible for acquiring, developing, managing and leasing properties within such segment. See Note 10 - Segment Information in our Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K for information on our four segments and the reconciliation of total segment revenues to total revenues, total segment net operating income to income from continuing operations and minority interest for the years ended December 31, 2007, 2006 and 2005, and total segment assets to total assets as of December 31, 2007 and 2006. Information regarding our segments contained in such Note 10 - Segment Information in our Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K is incorporated by reference herein. Additional information with respect to each of the operating portfolios is set forth below:
Multifamily Portfolio - Multifamily portfolio management is responsible for all aspects of multifamily operations, including day-to-day management and leasing of our 122 multifamily apartment communities (102 of which are wholly-owned properties and 20 of which are partially-owned through unconsolidated joint venture entities), as well as providing third-party management services for apartment communities in which we do not have an ownership interest or have a non-controlling ownership interest. Additionally, all of our condominium conversion and related sales are managed under the multifamily portfolio, as well as for-sale multifamily developments.
For-Sale Residential - Multifamily portfolio management is also responsible for all aspects of our for-sale residential development and disposition activities. As of December 31, 2007, we had nine for-sale development properties, six of which are residential and three of which are lot developments.
Office Portfolio - Office portfolio management is responsible for all aspects of our commercial office operations, including the management and leasing services for our 48 office properties (two of which are wholly-owned properties and 46 of which are partially-owned through unconsolidated joint venture entities), as well as third-party management services for office properties in which we do not have an ownership interest and for brokerage services in other office property transactions.
Retail Portfolio - Retail portfolio management is responsible for all aspects of our retail operations, including the management and leasing services for our 30 retail properties (four of which are wholly-owned properties and 26 of which are partially-owned through unconsolidated joint venture entities), as well as third-party management services for retail properties in which we do not have an ownership interest and for brokerage services in other retail property transactions. Additionally, all of our for-sale retail developments are managed by Retail portfolio management.
Competition
The ownership, development, operation and leasing of multifamily, office and retail properties are highly competitive. We compete with domestic and foreign financial institutions, other REITs, life insurance companies, pension trusts, trust funds, partnerships and individual investors for the acquisition of properties. See Item 1A
Item 1A.
Risk Factors
Set forth below are the risks that we believe are material to investors who purchase or own our common, preferred or debt securities. You should consider carefully the following risks, together with the other information contained in and incorporated by reference in this Annual Report on Form 10-K, and the descriptions included in our consolidated financial statements and accompanying notes.
Risks Associated with Real Estate
We face numerous risks associated with the real estate industry that could adversely affect our results of operations through decreased revenues or increased costs.
As a real estate company, we are subject to various changes in real estate conditions, particularly in the Sunbelt region where our properties are concentrated, and any negative trends in such real estate conditions may adversely affect our results of operations through decreased revenues or increased costs. These conditions include:
•
worsening of national and regional economic conditions, as well as the local economic conditions in our principal market areas;
•
the existence and quality of the competition, such as the attractiveness of our property as compared to our competitors’ properties based on considerations such as convenience of location, rental rates, amenities and safety record;
•
increased operating costs, including increased real property taxes, maintenance, insurance and utilities costs;
•
weather conditions that may increase or decrease energy costs and other weather-related expenses;
•
oversupply of multifamily, office, retail space, or single-family housing or a reduction in demand for real estate in the markets in which our properties are located;
•
a favorable interest rate environment that may result in a significant number of potential tenants of our multifamily properties deciding to purchase homes instead of renting;
•
rent control or stabilization laws, or other laws regulating rental housing, which could prevent us from raising rents to offset increases in operating costs; and
•
changing trends in the demand by consumers for merchandise offered by retailers conducting business at our retail properties.
Moreover, other factors may affect our results of operations adversely, including changes in government regulations and other laws, rules and regulations governing real estate, zoning or taxes, changes in interest rate levels, the availability of financing and potential liability under environmental and other laws and other unforeseen events, most of which are discussed elsewhere in the following risk factors. Any or all of these factors could materially adversely affect our results of operations through decreased revenues or increased costs.
Real estate investments are illiquid, and therefore we may not be able to sell our properties in response to economic changes which could adversely affect our results of operations or financial condition.
Real estate investments generally are relatively illiquid, and as a result we may not be able to sell a property or properties quickly or on favorable terms in response to changes in the economy or other conditions when it otherwise may be prudent to do so. This inability to respond quickly to changes in the performance of our properties could adversely affect our results of operations if we cannot sell an unprofitable property. Our financial condition could also be adversely affected if we were, for example, unable to sell one or more of our properties in order to meet our debt obligations upon maturity. In addition, the tax laws applicable to REITs require that we hold our properties for investment, rather than primarily for sale in the ordinary course of business, which may cause us to forego or defer sales of properties that otherwise would be in our best interest. Therefore, we may be unable to vary our portfolio promptly in response to market conditions, which may adversely affect our financial position.
We are subject to significant regulation, which could adversely affect our results of operations through increased costs and/or an inability to pursue business opportunities.
Local zoning and use laws, environmental statutes and other governmental requirements may restrict our development, expansion, rehabilitation and reconstruction activities. These regulations may prevent or delay us from
taking advantage of economic opportunities. Failure to comply with these requirements could result in the imposition of fines, awards to private litigants of damages against us, substantial litigation costs and substantial costs of remediation or compliance. In addition, we cannot predict what requirements may be enacted in the future or that such a requirement will not increase our costs of regulatory compliance or prohibit us from pursuing business opportunities that could be profitable to us.
Compliance or failure to comply with the Americans with Disabilities Act and Fair Housing Act could result in substantial costs.
Under the Americans with Disabilities Act of 1990, or ADA, and the Fair Housing Amendment Act of 1988, or FHAA, and various state and local laws, all public accommodations and commercial facilities, including office buildings, must meet certain federal requirements related to access and use by disabled persons. Compliance with these requirements could involve removal of structural barriers from certain disabled persons’ entrances. Other federal, state and local laws may require modifications to or restrict further renovations of our properties with respect to such means of access. Noncompliance with the ADA, FHAA or related laws or regulations could result in the imposition of fines by government authorities, awards to private litigants of damages against us, substantial litigation costs and the incurrence of additional costs associated with bringing the properties into compliance.
Increased competition and increased affordability of residential homes could limit the Company’s ability to retain its residents, lease apartment homes or increase or maintain rents.
The Company’s multi-family communities compete with numerous housing alternatives in attracting residents, including other multi-family and apartment communities and single-family rental homes, as well as owner occupied single- and multi-family homes. Competitive housing in a particular area and the increasing affordability of owner occupied single and multi-family homes caused by declining housing prices, mortgage interest rates and government programs to promote home ownership could adversely affect the Company’s ability to retain its residents, lease apartment homes and increase or maintain rents.
Risks Associated with Our Operations
Our revenues are significantly influenced by demand for multifamily properties generally, and a decrease in such demand will likely have a greater adverse effect on our revenues than if we owned a more diversified real estate portfolio.
During 2007, we changed the asset mix of our portfolio to focus predominately on multifamily properties. As a result of this change in strategy, we will be subject to a greater extent to risks inherent in investments in a single industry. A decrease in the demand for multifamily properties would likely have a greater adverse effect on our rental revenues than if we owned a more diversified real estate portfolio. Tenant demand at multifamily properties has been and could be adversely affected by weakness in the national, regional and local economies, changes in job growth, household formation or population growth in our markets, changes in interest rates or changes in supply of, or demand for, similar or competing multifamily properties in an area. To the extent that any of these conditions occur, they are likely to affect market rents at multifamily properties, which could cause a decrease in our rental revenue. Any such decrease could impair our ability to satisfy our substantial debt service obligations or make distributions to our shareholders.
The development or conversion of for-sale projects could adversely affect our results of operations.
We intend to develop for-sale assets and may continue to convert existing apartment communities into condominium units for sale. For-sale development and conversion activities may be conducted through wholly-owned affiliated companies or through joint ventures. Our for-sale development and conversion activities may expose us to the following risks:
•
we may be unable to obtain, or face delays in obtaining, necessary zoning, land-use, building, occupancy, and other required governmental permits and authorizations, which could result in increased development costs and/or lower than expected sales;
•
local real estate market conditions, such as oversupply or reduction in demand, may result in reduced or fluctuating sales;
•
we may incur development or conversion costs for a property that exceed original estimates due to increased materials, labor or other costs or unforeseen environmental conditions, which could make completion of the property uneconomical;
•
land, insurance and construction costs continue to increase in our markets and may continue to increase in the future, and we may be unable to attract rents, or sales prices with respect to for-sale product, that compensate for these increases in costs;
•
for-sale properties under development or acquired for development usually generate little or no cash flow until completion of development and sale of a significant number of homes or condominium units and may experience operating deficits after the date of completion and until such homes or condominium units are sold;
•
we may abandon development or conversion opportunities that we have already begun to explore, and we may fail to recover expenses already incurred in connection with exploring any such opportunities;
•
buyers may be unable to qualify for financing;
•
sale prices may be lower than anticipated;
•
competition from other condominiums and other types of residential housing;
•
changes in applicable zoning and land use laws may require us to abandon projects prior to their completion, resulting in the loss of development costs incurred up to the time of abandonment;
•
we may be unable to close on sales of individual units under contract; and
•
we could be subject to liability claims from condominium associations or others asserting that construction performed was defective, resulting in litigation and/or settlement discussions.
During 2007, there was a softening in the condominium and single family housing markets due to increasing mortgage financing rates, the decline in the availability of sub-prime lending and other types of mortgages, increasing supplies of such assets, an increase in construction costs, and higher insurance costs, resulting in lower sales prices and reduced sales velocity. In addition, pricing in the single family housing market declined, primarily due to a lack of demand, and certain units that were under contract did not close because buyers elected not to consummate the purchase of the units. As a result, we recorded a non-cash impairment charge of $43.3 million ($26.8 million net of income tax) to reduce the carrying value of certain of our for-sale residential developments to their estimated fair market value. This impairment charge was primarily related to the for-sale residential projects located in Gulf Shores, Alabama and one condominium project in downtown Charlotte, North Carolina. Including the charge, as of December 31, 2007, we had approximately $135.6 million of capital cost (based on book value, including pre-development and land costs) invested in our consolidated and unconsolidated for-sale residential projects. An increase in construction costs partially resulting from a dispute with a general contractor (see Note 19 to our Notes to Consolidated Financial Statements included in this Annual Report on Form 10-K) during development was also factored into the impairment charge. If market conditions do not improve or if there is further market deterioration, it may impact the number of projects we can sell, the timing of the sales and/or the prices at which we can sell them. If we are unable to sell projects, we may incur additional impairment charges on projects previously impaired as well as on projects not currently impaired but for which indicators of impairment may exist, which would decrease the value of our assets as reflected on our balance sheet and adversely affect our shareholders’ equity. There can be no assurances of the amount or pace of future for-sale residential sales and closings, particularly given current market conditions.
Our properties may not generate sufficient rental income to pay our expenses if we are unable to lease our new properties or renew leases or re-lease space at our existing properties as leases expire, which may adversely affect our operating results.
We derive the majority of our income from tenants who lease space from us at our properties. A number of factors may adversely affect our ability to attract tenants at favorable rental rates and generate sufficient income, including:
•
local conditions such as an oversupply of, or reduction in demand for, multifamily, office or retail properties;
•
the attractiveness of our properties to residents, shoppers and tenants;
•
decreases in market rental rates; and
•
our ability to collect rent from our tenants.
If we cannot generate sufficient income to pay our expenses, maintain our properties and service our debt as a result of any of these factors, our operating results may be adversely affected.
The tenants at our multifamily properties generally enter into leases with an initial term ranging from six months to one year. Tenants at our office properties generally enter into leases with an initial term ranging from three to ten years and tenants at our retail properties generally enter into leases with an initial term ranging from one to ten years. As leases expire at our existing properties, tenants may elect not to renew them. Even if the tenants do renew or if we can re-lease the space, the terms of renewal or re-leasing, including the cost of required renovations may be less favorable than current lease terms. In addition, for new properties, we may be unable to attract enough tenants and the occupancy rates and rents may not be sufficient to make the property profitable. If we are unable to renew the leases or re-lease the space at our existing properties promptly and/or lease the space at our new properties, or if the rental rates upon renewal or re-leasing at existing properties are significantly lower than expected rates, our operating results will be negatively affected.
We may not be able to control our operating costs or our expenses may remain constant or increase, even if our revenues decrease, causing our results of operations to be adversely affected.
Factors that may adversely affect our ability to control operating costs include:
•
the need to pay for insurance and other operating costs, including real estate taxes, which could increase over time;
•
the need periodically to repair, renovate and re-lease space;
•
the cost of compliance with governmental regulation, including zoning and tax laws;
•
the potential for liability under applicable laws;
•
interest rate levels; and
•
the availability of financing.
If our operating costs increase as a result of any of the foregoing factors, our results of operations may be adversely affected.
The expense of owning and operating a property is not necessarily reduced when circumstances such as market factors and competition cause a reduction in income from the property. As a result, if revenues drop, we may not be able to reduce our expenses accordingly. Costs associated with real estate investments, such as real estate taxes, loan payments and maintenance generally will not be reduced even if a property is not fully occupied or other circumstances cause our revenues to decrease. If a property is mortgaged and we are unable to meet the mortgage payments, the lender could foreclose on the mortgage and take the property, resulting in a further reduction in net income.
We are subject to increased exposure to economic and other factors due to the concentration of our properties in the Sunbelt region, and an economic downturn, a natural disaster or an act of terrorism in the Sunbelt region could adversely affect our results of operations or financial condition.
Substantially all of our properties are located in the Sunbelt region of the United States. In particular, we derived approximately 87.5% of our net operating income in 2007 from top quartile cities located in the Sunbelt region. We are therefore subject to increased exposure to economic and other factors specific to these geographic areas. If the Sunbelt region of the United States, and in particular the areas of or near Birmingham, Charlotte, Orlando, Atlanta, Dallas or Fort Worth, experiences a slowdown in the economy, a natural disaster or an act of terrorism, our results of operations and financial condition may be negatively affected as a result of decreased revenues, increased costs or damage or loss of assets.
Tenant bankruptcies and downturns in tenants’ businesses may adversely affect our operating results by decreasing our revenues.
At any time, a tenant may experience a downturn in its business that may weaken its financial condition. As a result, our tenants may delay lease commencement, cease or defer making rental payments or declare bankruptcy. A bankruptcy filing by or relating to one of our tenants would bar all efforts by us to collect pre-bankruptcy debts from that tenant, or their property, unless we receive an order permitting us to do so from the bankruptcy court. A tenant bankruptcy could delay our efforts to collect past due balances under the relevant leases, and could ultimately preclude collection of these sums. If a lease is assumed by the tenant in bankruptcy, all pre-bankruptcy balances due under the lease must be paid to us in full. However, if a lease is rejected by a tenant in bankruptcy, we would have only a general unsecured claim for damages. Any unsecured claim we hold may be paid only to the extent that funds are available and only in the same percentage as is paid to all other holders of unsecured claims, and there are restrictions under bankruptcy laws that limit the amount of the claim we can make if a lease is rejected. As a result, it is likely that we will recover substantially less than the full value of any unsecured claims we hold from a bankrupt tenant. The bankruptcy or financial difficulties of any of our tenants may negatively affect our operating results by decreasing our revenues.
Risks associated with the property management, leasing and brokerage businesses could adversely affect our results of operations by decreasing our revenues.
In addition to the risks we face as a result of our ownership of real estate, we face risks relating to the property management, leasing and brokerage businesses of CPSI, including risks that:
•
management contracts or service agreements with third-party owners will be terminated and lost to competitors;
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contracts will not be renewed upon expiration or will not be available for renewal on terms consistent with current terms; and
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leasing and brokerage activity generally may decline.
Each of these developments could adversely affect our results of operations by decreasing our revenues.
We could incur significant costs related to environmental issues which could adversely affect our results of operations through increased compliance costs or our financial condition if we become subject to a significant liability.
Under federal, state and local laws and regulations relating to the protection of the environment, a current or previous owner or operator of real property, and parties that generate or transport hazardous substances that are disposed of on real property, may be liable for the costs of investigating and remediating hazardous substances on or under or released from the property and for damages to natural resources. The federal Comprehensive Environmental Response, Compensation & Liability Act, and similar state laws, generally impose liability on a joint and several basis, regardless of whether the owner, operator or other responsible party knew of or was at fault for the release or presence of hazardous substances. In connection with the ownership or operation of our properties, we could be liable in the future for costs associated with investigation and remediation of hazardous substances released at or from such properties. The costs of any required remediation and related liability as to any property could be substantial under these laws and could exceed the value of the property and/or our assets. The presence of hazardous substances, or the failure to properly remediate those substances may result in our being liable for damages suffered by a third party for personal injury, property damage, cleanup costs, or otherwise and may adversely affect our ability to sell or rent a property or to borrow funds using the property as collateral. In addition, environmental laws may impose restrictions on the manner in which we use our properties or operate our business, and these restrictions may require expenditures for compliance. The restrictions themselves may change from time to time, and these changes may result in additional expenditures in order to achieve compliance. We cannot assure you that a material environmental claim or compliance obligation will not arise in the future. The costs of defending against any claims of liability, of remediating a contaminated property, or of complying with future environmental requirements could be substantial and affect our operating results. In addition, if a judgment is obtained against us or we otherwise become subject to a significant environmental liability, our financial condition may be adversely affected.
During 2007, the Company engaged in the expansion of its Wal-Mart center at Colonial Promenade Winter Haven in Orlando, Florida. The Company received notice that the property that was purchased for the expansion contained environmental contamination that required remediation. The Company’s obligation was $0.9 million and was paid during 2007. The Company has been given a permit to proceed with the expansion and expects to have the remediation resolved by the end of the first quarter of 2008. Once remediation is completed, the Company will seek to obtain a “no further action” letter from the relevant regulatory agency.
Costs associated with addressing indoor air quality issues, moisture infiltration and resulting mold remediation may be costly.
As a general matter, concern about indoor exposure to mold or other air contaminants has been increasing as such exposure has been alleged to have a variety of adverse effects on health. As a result, there have been a number of lawsuits in our industry against owners and managers of apartment communities relating to indoor air quality, moisture infiltration and resulting mold. The terms of our property and general liability policies generally exclude certain mold-related claims. Should an uninsured loss arise against us, we would be required to use our funds to resolve the issue, including litigation costs. We make no assurance that liabilities resulting from indoor air quality, moisture infiltration and the presence of or exposure to mold will not have a future impact on our business, results of operations and financial condition.
As the owner or operator of real property, we could become subject to liability for asbestos-containing building materials in the buildings on our properties.
Some of our properties may contain asbestos-containing materials. Environmental laws typically require that owners or operators of buildings with asbestos-containing building materials properly manage and maintain these materials, adequately inform or train those who may come in contact with asbestos and undertake special precautions, including removal or other abatement, in the event that asbestos is disturbed during building renovation or demolition. These laws may impose fines and penalties on building owners or operators for failure to comply with these requirements. In addition, third parties may be entitled to seek recovery from owners or operators for personal injury associated with exposure to asbestos-containing building materials.
Uninsured or underinsured losses could adversely affect our financial condition.
As of December 31, 2007, we are self insured up to $0.8 million, $1.1 million and $1.8 million for general liability, workers’ compensation and property insurance, respectively. We are also self insured for health insurance and responsible for claims up to $125,000 per claim and up to $1.0 million per person, according to plan policy limits. If the actual costs incurred to cover such uninsured claims are significantly greater than our budgeted costs, our financial condition will be adversely affected.
We carry comprehensive liability, fire, extended coverage and rental loss insurance in amounts that we believe are in line with coverage customarily obtained by owners of similar properties and appropriate given the relative risk of loss and the cost of the coverage. There are, however, certain types of losses, such as lease and other contract claims, acts of war or terrorism, acts of God, and in some cases, earthquakes, hurricanes and flooding that generally are not insured because such coverage is not available or it is not available at commercially reasonable rates. Should an uninsured loss or a loss in excess of insured limits occur, we could lose all or a portion of the capital we have invested in the damaged property, as well as the anticipated future revenue from the property. The costs associated with property and casualty renewals may be higher than anticipated. We cannot predict at this time if in the future we will be able to obtain full coverage at a reasonable cost. Inflation, changes in building codes and ordinances, environmental considerations, and other factors also might make it impractical or undesirable to use insurance proceeds to replace a property after it has been damaged or destroyed. In addition, if the damaged properties are subject to recourse indebtedness, we would continue to be liable for the indebtedness, even if these properties were irreparably damaged.
Competition for acquisitions could reduce the number of acquisition opportunities available to us and result in increased prices for properties, which could adversely affect our return on properties we purchase.
We compete with other major real estate investors with significant capital for attractive investment opportunities in multifamily, office and retail properties. These competitors include publicly traded REITs, private REITs, domestic and foreign financial institutions, life insurance companies, pension trusts, trust funds, investment banking
firms, private institutional investment funds and national, regional and local real estate investors. The current market for acquisitions continues to be extremely competitive. This competition could increase the demand for multifamily properties, and therefore reduce the number of suitable acquisition opportunities available to us and increase the prices paid for such acquisition properties. As a result, our expected return from investment in these properties would deteriorate.
We may be unable to successfully integrate and effectively manage the properties we acquire, which could adversely affect our results of operations.
So long as we are able to obtain capital on commercially reasonable terms, we intend to continue to selectively acquire multifamily properties that meet our criteria for investment opportunities, are consistent with our business strategies and we believe will be profitable or will enhance the value of our portfolio, as a whole. The success of these acquisitions will depend, in part, on our ability to efficiently integrate the acquired properties into our organization, and apply our business, operating, administrative, financial and accounting strategies and controls to these acquired properties. As a result of the rapid growth of our portfolio, we cannot assure you that we will be able to adapt our management, administrative, accounting and operational systems or hire and retain sufficient operational staff to integrate these properties into our portfolio and manage any future acquisitions of additional properties without operating disruptions or unanticipated costs. As we develop or acquire additional properties, we will be subject to risks associated with managing new properties, including tenant retention and mortgage default. In addition, acquisitions or developments may cause disruptions in our operations and divert management’s attention away from day-to-day operations, which could impair our relationships with our current tenants and employees. In addition, our profitability may suffer because of acquisition-related costs or amortization costs for acquired goodwill and other intangible assets. If we are unable to successfully integrate the acquired properties into our operations, our results of operations may be adversely affected.
We may not be able to achieve the anticipated financial and operating results from our acquisitions, which would adversely affect our operating results.
We will continue to acquire multifamily properties only if they meet our criteria and we believe that they will enhance our future financial performance and the value of our portfolio. Our belief, however, is based on and is subject to risks, uncertainties and other factors, many of which are forward-looking and are uncertain in nature or are beyond our control. In addition, some of these properties may have unknown characteristics or deficiencies or may not complement our portfolio of existing properties. As a result, some properties may be worth less or may generate less revenue than, or simply not perform as well as, we believed at the time of the acquisition, thereby negatively affecting our operating results.
We may be unable to develop new properties or redevelop existing properties successfully, which could adversely affect our results of operations due to unexpected costs, delays and other contingencies.
To complement our acquisition strategy, we will continue to develop new properties or expand or redevelop existing properties as opportunities arise. Development activity may be conducted through wholly-owned affiliates or through joint ventures. However, there are significant risks associated with our development activities in addition to those generally associated with the ownership and operation of developed properties. These risks include the following:
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we may be unable to obtain, or face delays in obtaining, necessary zoning, land-use, building, occupancy, and other required governmental permits and authorizations, which could result in increased development costs and/or lower than expected leases;
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local real estate market conditions, such as oversupply or reduction in demand, may result in reduced or fluctuating rental rates;
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we may incur development costs for a property that exceed original estimates due to increased materials, labor or other costs or unforeseen environmental conditions, which could make completion of the property uneconomical;
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land, insurance and construction costs continue to increase in our markets and may continue to increase in the future and we may be unable to attract rents that compensate for these increases in costs;
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we may abandon development opportunities that we have already begun to explore, and we may fail to recover expenses already incurred in connection with exploring any such opportunities;
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rental rates and occupancy levels may be lower than anticipated;
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changes in applicable zoning and land use laws may require us to abandon projects prior to their completion, resulting in the loss of development costs incurred up to the time of abandonment; and
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we may experience late completion because of construction delays, delays in the receipt of zoning, occupancy and other approvals or other factors outside of our control.
In addition, if a project is delayed, certain tenants may have the right to terminate their leases. Any one or more of these risks may cause us to incur unexpected costs in connection with our development strategy, which would negatively affect our results of operations.
Our joint venture investments could be adversely affected by our lack of sole decision-making authority, our reliance on our joint venture partners’ financial condition, any disputes that may arise between us and our joint venture partners and our exposure to potential losses from the actions of our joint venture partners.
As of December 31, 2007, we had ownership interests in 35 joint ventures. Our investments in these joint ventures involve risks not customarily associated with our wholly-owned properties, including the following:
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we share decision-making authority with some of our joint venture partners regarding major decisions affecting the ownership or operation of the joint venture and the joint venture properties, such as the acquisition of properties, the sale of the properties or the making of additional capital contributions for the benefit of the properties, which may prevent us from taking actions that are opposed by those joint venture partners;
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prior consent of our joint venture partners is required for a sale or transfer to a third party of our interests in the joint venture, which restricts our ability to dispose of our interest in the joint venture;
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our joint venture partners might become bankrupt or fail to fund their share of required capital contributions, which may delay construction or development of a joint venture property or increase our financial commitment to the joint venture;
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our joint venture partners may have business interests or goals with respect to the joint venture properties that conflict with our business interests and goals, which could increase the likelihood of disputes regarding the ownership, management or disposition of such properties;
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disputes may develop with our joint venture partners over decisions affecting the joint venture properties or the joint venture, which may result in litigation or arbitration that would increase our expenses and distract our officers and/or trustees from focusing their time and effort on our business, and possibly disrupt the day-to-day operations of the property such as by delaying the implementation of important decisions until the conflict or dispute is resolved (see, for example, the discussion under Note 19 to our Notes to Consolidated Financial Statements included in Item 8 of this Form 10-K);
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we may suffer losses as a result of the actions of our joint venture partners with respect to our joint venture investments; and
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our joint venture partner may elect to sell or transfer its interests in the joint venture to a third party, which may result in our loss of management and leasing responsibilities and fees that we currently receive from the joint venture properties.
Failure to succeed in new markets may limit the company’s growth.
The Company may from time to time commence development activity or make acquisitions outside of its existing market areas if appropriate opportunities arise. The Company’s historical experience in its existing markets does not ensure that it will be able to operate successfully in new markets. The Company may be exposed to a variety of risks if it chooses to enter new markets. These risks include, among others:
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an inability to evaluate accurately local apartment or for-sale residential housing market conditions and local economies;
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an inability to obtain land for development or to identify appropriate acquisition opportunities;
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an inability to hire and retain key personnel; and
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lack of familiarity with local governmental and permitting procedures.
Risks Associated with Our Indebtedness and Financing
We have substantial indebtedness and our cash flow may not be sufficient to make required payments on our indebtedness or repay our indebtedness as it matures.
We rely on debt financing for our business. As of December 31, 2007, the amount of our total debt was approximately $2.2 billion, consisting of $1.6 billion of consolidated debt and $0.6 billion of our pro rata share of joint venture debt. Due to our high level of debt, we may be required to dedicate a substantial portion of our funds from operations to servicing our debt, and our cash flow may be insufficient to meet required payments of principal and interest.
If a property were mortgaged to secure payment of indebtedness and we were unable to meet mortgage payments, the mortgagee could foreclose upon that property, appoint a receiver and receive an assignment of rents and leases or pursue other remedies.
In addition, if principal payments due at maturity cannot be refinanced, extended or paid with proceeds of other capital transactions, such as new equity capital, our cash flow will not be sufficient in all years to repay all maturing debt. Most of our indebtedness does not require significant principal payments prior to maturity. However, we will need to raise additional equity capital, obtain collateralized or unsecured debt financing, issue private or public debt, or sell some of our assets to either refinance or repay our indebtedness as it matures. We cannot assure you that these sources of financing or refinancing will be available to us at reasonable terms or at all. Our inability to obtain financing or refinancing to repay our maturing indebtedness, and our inability to refinance existing indebtedness on reasonable terms, may require us to make higher interest and principal payments, issue additional equity securities, or sell some of our assets on disadvantageous terms, all or any of which may result in foreclosure of properties, partial or complete loss on our investment and otherwise adversely affect our financial conditions and results of operation.
Our degree of leverage could limit our ability to obtain additional financing which would negatively impact our results of operation and financial condition.
As of December 31, 2007, our consolidated borrowings and pro rata share of unconsolidated borrowings totaled approximately $2.2 billion ($1.6 billion of consolidated borrowings and $0.6 billion of unconsolidated borrowings), which represented approximately 59.0% of our total market capitalization. Total market capitalization represents the sum of the outstanding indebtedness (including our share of joint venture indebtedness), the total liquidation preference of all our preferred shares and the total market value of our common shares and units of partnership interest of our operating partnership, based on the closing price of our common shares as of December 31, 2007. Our organizational documents do not contain any limitation on the incurrence of debt. Our leverage and any future increases in our leverage could adversely affect our ability to obtain additional financing in the future for working capital, capital expenditures, acquisitions, development or other general corporate purposes which would negatively impact our results of operation and financial condition.
Due to the amount of our variable rate debt, rising interest rates would adversely affect our results of operation.
As of December 31, 2007, we had approximately $213.4 million of variable rate debt outstanding, consisting of $82.9 million of our consolidated debt and $130.5 million of our pro rata share of variable rate unconsolidated joint venture debt. While we have sought to refinance our variable rate debt with fixed rate debt or cap our exposure to interest rate fluctuations by using interest rate swap agreements where appropriate, failure to hedge effectively against interest rate changes may adversely affect our results of operations. In addition, as opportunities arise, we may borrow additional money with variable interest rates in the future. As a result, a significant increase in interest rates would adversely affect our results of operations.
We have entered into debt agreements with covenants that restrict our operating activities, which could adversely affect our results of operations, and violation of these restrictive covenants could adversely affect our financial condition through debt defaults or acceleration.
Our unsecured credit facility contains numerous customary restrictions, requirements and other limitations on our ability to incur debt, including the following financial ratios:
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collateralized debt to total asset value ratio;
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fixed charge coverage ratio;
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total liabilities to total asset value ratio;
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total permitted investments to total asset value ratio; and
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unencumbered leverage ratio.
The indenture under which our senior unsecured debt is issued also contains financial and operating covenants including coverage ratios. Our indenture also limits our ability to:
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incur collateralized and unsecured indebtedness;
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sell all or substantially all or our assets; and
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engage in mergers, consolidations and acquisitions.
These restrictions will continue to hinder our operational flexibility through limitations on our ability to incur additional indebtedness, pursue certain business initiatives or make other changes to our business. These limitations could adversely affect our results of operations. In addition, violations of these covenants could cause the declaration of defaults and any related acceleration of indebtedness, which would result in adverse consequences to our financial condition. As of December 31, 2007, we were in compliance with all of the financial and operating covenants under our existing credit facility and indenture, and we believe that we will continue to remain in compliance with these covenants.
Our inability to obtain sufficient third party financing could adversely affect our results of operations and financial condition because we depend on third party financing for our development, expansion and acquisition activities.
To qualify as a REIT, we must distribute to our shareholders each year at least 90% of our REIT taxable income, excluding any net capital gain. Because of these distribution requirements, it is not likely that we will be able to fund all future capital needs from income from operations. As a result, as we continue to develop or acquire new properties or expand existing properties, we will continue to rely on third-party sources of capital, including lines of credit, collateralized or unsecured debt (both construction financing and permanent debt), and equity issuances. These sources, however, may not be available on favorable terms or at all. Our access to third-party sources of capital depends on a number of factors, including the market’s perception of our growth potential and our current and potential future earnings. Moreover, additional equity offerings may result in substantial dilution of our shareholders’ interests, and additional debt financing may substantially increase our leverage. There can be no assurance that we will be able to obtain the financing necessary to fund new development or project expansions or our acquisition activities on terms favorable to us or at all. If we are unable to obtain sufficient level of third party financing to fund our growth, our results of operations and financial condition may be adversely affected.
Our senior notes do not have an established trading market, therefore, holders of our notes may not be able to sell their notes
Each series of our senior notes is a new issue of securities with no established trading market. We do not intend to apply for listing of any series of notes on any national securities exchange. The underwriters in an offering of senior notes may advise us that they intend to make a market in the notes, but they are not obligated to do so and may discontinue market making at any time without notice. We can give no assurance as to the liquidity of or any trading market for any series of our notes.
Risks Associated with Our Organization
Some of our trustees and officers have conflicts of interest and could exercise influence in a manner inconsistent with the interests of our shareholders.
As a result of their substantial ownership of common shares and units, Messrs. Thomas Lowder, our Chairman of the Board, James Lowder and Harold Ripps, each of whom is a trustee, could seek to exert influence over our decisions as to sales or re-financings of particular properties we own. Any such exercise of influence could produce decisions that are not in the best interest of all of the holders of interests in us.
The Lowder family and their affiliates hold interests in a company that has performed insurance brokerage services with respect to our properties. This company may perform similar services for us in the future. As a result, the Lowder family may realize benefits from transactions between this company and us that are not realized by other holders of interests in us. In addition, Thomas and James Lowder, as our trustees, may be in a position to influence us to do business with companies in which the Lowder family has a financial interest. Our policies may not be successful in eliminating the influence of conflicts. Moreover, transactions with companies controlled by the Lowder family, if any, may not be on terms as favorable to us as we could obtain in an arms-length transaction with a third party.
Restrictions on the acquisition and change in control of the Company may have adverse effects on the value of our common shares.
Various provisions of our Declaration of Trust restrict the possibility for acquisition or change in control of us, even if the acquisition or change in control were in the shareholders’ interest. As a result, the value of our common shares may be less than they would otherwise be in the absence of such restrictions.
Our Declaration of Trust contains ownership limits and restrictions on transferability. Our Declaration of Trust contains certain restrictions on the number of common shares and preferred shares that individual shareholders may own, which is intended to ensure that we maintain our qualification as a REIT. In order for us to qualify as a REIT, no more than 50% of the value of our outstanding shares may be owned, directly or indirectly, by five or fewer individuals (as defined in the Code to include certain entities) during the last half of a taxable year and the shares must be beneficially owned by 100 or more persons during at least 335 days of a taxable year of 12 months or during a proportionate part of a shorter taxable year. To help avoid violating these requirements, our Declaration of Trust contains provisions restricting the ownership and transfer of shares in certain circumstances. These ownership limitations provide that no person may beneficially own, or be deemed to own by virtue of the attribution provisions of the Code, more than:
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9.8%, in either number of shares or value (whichever is more restrictive), of any class of our outstanding shares;
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5% in number or value (whichever is more restrictive), of our outstanding common shares and any outstanding excess shares; and
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in the case of certain excluded holders related to the Lowder family: 29% by one individual; 34% by two individuals; 39% by three individuals; or 44% by four individuals.
These ownership limitations may be waived by our Board of Trustees if it receives representations and undertakings of certain facts for the protection of our REIT status, and if requested, an IRS ruling or opinion of counsel.
Our Declaration of Trust permits our Board of Trustees to issue preferred shares with terms that may discourage a third party from acquiring us. Our Declaration of Trust permits the Board of Trustees to issue up to 20,000,000 preferred shares, having those preferences, conversion or other rights, voting powers, restrictions, limitations as to distributions, qualifications, or terms or conditions of redemption as determined by the Board of Trustees. Thus, the Board of Trustees could authorize the issuance of preferred shares with terms and conditions that could have the effect of discouraging a takeover or other transaction in which some or a majority of shares might receive a premium for their shares over the then-prevailing market price of shares.
Our Declaration of Trust and Bylaws contain other possible anti-takeover provisions. Our Declaration of Trust and Bylaws contain other provisions that may have the effect of delaying, deferring or preventing an
acquisition or change in control of the Company, and, as a result could prevent our shareholders from being paid a premium for their common shares over the then-prevailing market prices. These provisions include:
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a prohibition on shareholder action by written consent;
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the ability to remove trustees only at a meeting of shareholders called for that purpose, by the affirmative vote of the holders of not less than two-thirds of the shares then outstanding and entitled to vote in the election of trustees;
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the limitation that a special meeting of shareholders can be called only by the president or chairman of the board or upon the written request of shareholders holding outstanding shares representing at least 25% of all votes entitled to be cast at the special meeting;
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the advance written notice requirement for shareholders to nominate a trustee before a meeting of shareholders; and
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the requirement that the amendment of certain provisions of the Declaration of Trust relating to the removal of trustees, the termination of the Company and any provision that would have the effect of amending these provisions, require the affirmative vote of the holders of two-thirds of the shares then outstanding.
Our board of directors has adopted a shareholder rights plan that could discourage a third party from making a proposal to acquire us.
Our Board of Trustees has adopted a shareholder rights plan, which may discourage a third party from making a proposal to acquire us. Under the plan, preferred purchase rights, which are attached to our common shares, generally will be triggered upon the acquisition of 20% or more of our outstanding common shares, unless the rights are redeemed or exchanged. If triggered, these rights would entitle our shareholders other than the acquirer to purchase 1/10,000th of a Colonial Series 1998 preferred share at a price of $92.00, subject to adjustment. The plan expires by its own terms on November 1, 2008.
We may change our business policies in the future, which could adversely affect our financial condition or results of operations.
Our major policies, including our policies with respect to development, acquisitions, financing, growth, operations, debt capitalization and distributions, are determined by our Board of Trustees. Although it has no present intention to do so, our Board of Trustees may amend or revise these and other policies from time to time. A change in these policies could adversely affect our financial condition or results of operations, including our ability to service debt.
Risks Related to Our Shares
Market interest rates and low trading volume may have an adverse effect on the market value of our common shares.
The market price of shares of a REIT may be affected by the distribution rate on those shares, as a percentage of the price of the shares, relative to market interest rates. If market interest rates increase, prospective purchasers of our shares may expect a higher annual distribution rate. Higher interest rates would not, however, result in more funds for us to distribute and, in fact, would likely increase our borrowing costs and potentially decrease funds available for distribution. This could cause the market price of our common shares to go down. In addition, although our common shares are listed on the New York Stock Exchange, the daily trading volume of our shares may be lower than the trading volume for other industries. As a result, our investors who desire to liquidate substantial holdings may find that they are unable to dispose of their shares in the market without causing a substantial decline in the market value of the shares.
A large number of shares available for future sale could adversely affect the market price of our common shares.
The sales of a substantial number of common shares, or the perception that such sales could occur, could adversely affect prevailing market prices for shares. In addition to the possibility that we may sell our shares in a public offering at any time, or pursuant to share option and share purchase plans, as of December 31, 2007 we may
issue up to 10,052,778 common shares upon redemption of currently outstanding units. No prediction can be made about the effect that future sales of common shares will have on the market price of our common shares.
Changes in market conditions or a failure to meet the market’s expectations with regard to our earnings and cash distributions could adversely affect the market price of our common shares.
We believe that the market value of a REIT’s equity securities is based primarily upon the market’s perception of the REIT’s growth potential and its current and potential future cash distributions, and is secondarily based upon the real estate market value of the underlying assets. For that reason, our shares may trade at prices that are higher or lower than the net asset value per share. To the extent we retain operating cash flow for investment purposes, working capital reserves or other purposes, these retained funds, while increasing the value of our underlying assets, may not correspondingly increase the market price of our common shares. In addition, we are subject to the risk that our cash flow will be insufficient to meet the required payments on our preferred shares and the Operating Partnership’s preferred units. Our failure to meet the market’s expectations with regard to future earnings and cash distributions would likely adversely affect the market price of our shares.
The stock markets, including The New York Stock Exchange (NYSE), on which we list our common shares, have experienced significant price and volume fluctuations. As a result, the market price of our common shares could be similarly volatile, and investors in our common shares may experience a decrease in the value of their shares, including decreases unrelated to our operating performance or prospects. Among the market conditions that may affect the market price of our publicly traded securities are the following:
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our financial condition and operating performance and the performance of other similar companies;
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actual or anticipated differences in our quarterly operating results;
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changes in our revenues or earnings estimates or recommendations by securities analysts;
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publication of research reports about us or our industry by securities analysts;
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additions and departures of key personnel;
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strategic decisions by us or our competitors, such as acquisitions, divestments, spin-offs, joint ventures, strategic investments or changes in business strategy;
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the reputation of REITs generally and the reputation of REITs with portfolios similar to ours;
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the attractiveness of the securities of REITs in comparison to securities issued by other entities (including securities issued by other real estate companies);
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an increase in market interest rates, which may lead prospective investors to demand a higher distribution rate in relation to the price paid for our shares;
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the passage of legislation or other regulatory developments that adversely affect us or our industry;
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speculation in the press or investment community;
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actions by institutional shareholders or hedge funds;
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changes in accounting principles;
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terrorist acts; and
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general market conditions, including factors unrelated to our performance.
In the past, securities class action litigation has often been instituted against companies following periods of volatility in their stock price. This type of litigation could result in substantial costs and divert our management’s attention and resources.
Risks Associated with Income Tax Laws
Our failure to qualify as a REIT would decrease the funds available for distribution to our shareholders and adversely affect the market price of our common shares.
We believe that we have qualified for taxation as a REIT for federal income tax purposes commencing with our taxable year ended December 31, 1993. We intend to continue to meet the requirements for taxation as a REIT, but we cannot assure shareholders that we will qualify as a REIT. We have not requested and do not plan to request a
ruling from the IRS that we qualify as a REIT, and the statements in this Form 10-K are not binding on the IRS or any court. As a REIT, we generally will not be subject to federal income tax on our income that we distribute currently to our shareholders. Many of the REIT requirements are highly technical and complex. The determination that we are a REIT requires an analysis of various factual matters and circumstances that may not be totally within our control. For example, to qualify as a REIT, at least 95% of our gross income must come from sources that are itemized in the REIT tax laws. We generally are prohibited from owning more than 10% of the voting securities or more than 10% of the value of the outstanding securities of any one issuer, subject to certain exceptions, including an exception with respect to certain debt instruments and corporations electing to be “taxable REIT subsidiaries.” We are also required to distribute to shareholders at least 90% of our REIT taxable income (excluding capital gains). The fact that we hold most of our assets through the Operating Partnership further complicates the application of the REIT requirements. Even a technical or inadvertent mistake could jeopardize our REIT status. Furthermore, Congress or the Internal Revenue Service might make changes to the tax laws and regulations, or the courts might issue new rulings that make it more difficult, or impossible, for us to remain qualified as a REIT.
If we fail to qualify as a REIT for federal income tax purposes, and are unable to avail ourselves of certain savings provisions set forth in the Internal Revenue Code, we would be subject to federal income tax at regular corporate rates. As a taxable corporation, we would not be allowed to take a deduction for distributions to shareholders in computing our taxable income or pass through long term capital gains to individual shareholders at favorable rates. We also could be subject to the federal alternative minimum tax and possibly increased state and local taxes. We would not be able to elect to be taxed as a REIT for four years following the year we first failed to qualify unless the IRS were to grant us relief under certain statutory provisions. If we failed to qualify as a REIT, we would have to pay significant income taxes, which would reduce our net earnings available for investment or distribution to our shareholders. This likely would have a significant adverse effect on our earnings and the value of our common shares. In addition, we would no longer be required to pay any distributions to shareholders. If we fail to qualify as a REIT for federal income tax purposes and are able to avail ourselves of one or more of the statutory savings provisions in order to maintain our REIT status, we would nevertheless be required to pay penalty taxes of $50,000 or more for each such failure.
Even if we qualify as a REIT, we will be required to pay some taxes (particularly related to our taxable REIT subsidiary).
Even if we qualify as a REIT for federal income tax purposes, we will be required to pay certain federal, state and local taxes on our income and property. For example, we will be subject to income tax to the extent we distribute less than 100% of our REIT taxable income (including capital gains). Moreover, if we have net income from “prohibited transactions,” that income will be 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. The determination as to whether a particular sale is a prohibited transaction depends on the facts and circumstances related to that sale. However, we will not be treated as a dealer in real property with respect to a property that we sell for the purposes of the 100% tax if (i) we have held the property for at least four years for the production of rental income prior to the sale, (ii) capitalized expenditures on the property in the four years preceding the sale are less than 30% of the net selling price of the property, and (iii) we either (a) have seven or fewer sales of property (excluding certain property obtained through foreclosure) for the year of sale or (b) the aggregate tax basis of property sold during the year of sale is 10% or less of the aggregate tax basis of all of our assets as of the beginning of the taxable year and substantially all of the marketing and development expenditures with respect to the property sold are made through an independent contractor from whom we derive no income. The sale of more than one property to one buyer as part of one transaction constitutes one sale for purposes of this “safe harbor.” We intend to hold our properties, and CRLP intends to hold its properties, for investment with a view to long-term appreciation, to engage in the business of acquiring, developing, owning and operating properties, and to make occasional sales of properties as are consistent with our investment objectives. However, not all of our sales will satisfy the “safe harbor” requirements described above. Furthermore, there are certain interpretive issues related to the application of the “safe harbor” that are not free from doubt under the federal income tax law. While we acquire and hold our properties with an investment objective and do not believe they constitute dealer property, we cannot provide any assurance that the IRS might not contend that one or more of these sales are subject to the 100% penalty tax or that the IRS would not challenge our interpretation of, or any reliance on, the “safe harbor” provisions.
In addition, any net taxable income earned directly by our taxable REIT subsidiaries, or through entities that are disregarded for federal income tax purposes as entities separate from our taxable REIT subsidiaries, will be subject to federal and possibly state corporate income tax. We have elected to treat Colonial Properties Services, Inc. as a taxable REIT subsidiary, and we may elect to treat other subsidiaries as taxable REIT subsidiaries in the future. In this regard, several provisions of the laws applicable to REITs and their subsidiaries ensure that a taxable REIT subsidiary will be subject to an appropriate level of federal income taxation. For example, a taxable REIT subsidiary is limited in its ability to deduct interest payments made to an affiliated REIT. In addition, the REIT has to pay a 100% penalty tax on some payments that it receives or on some deductions taken by the taxable REIT subsidiaries if the economic arrangements between the REIT, the REIT’s tenants, and the taxable REIT subsidiary are not comparable to similar arrangements between unrelated parties. Finally, some state and local jurisdictions may tax some of our income even though as a REIT we are not subject to federal income tax on that income because not all states and localities treat REITs the same as they are treated for federal income tax purposes. To the extent that we and our affiliates are required to pay federal, state and local taxes, we will have less cash available for distributions to our shareholders.
Item 1B.
Item 1B.
Unresolved Staff Comments.
None.
Item 2.
Item 2.
Operating Properties.
General
As of December 31, 2007, our consolidated real estate portfolio consisted of 108 consolidated operating properties. In addition, we maintain non-controlling partial interests ranging from 5% to 50% in an additional 92 properties held through unconsolidated joint ventures. These 200 properties, including consolidated and unconsolidated properties, are located in eleven states in the Sunbelt region of the United States.
For purposes of the tables included in this Item 2, “Total 2007 Operating Property Revenue from Continuing Operations” is calculated by adding Minimum rent, Minimum rent from affiliates, Percentage rent, Tenant recoveries and Other property related revenues from our Consolidated Statements of Income and Comprehensive Income. Total 2007 Operating Property Revenue in the following tables includes revenue from continuing operations and well as discontinued operations, which corresponds to the manner in which we analyze our operating results. We generally reinvest disposition proceeds into new operating communities and developments and, therefore, believe it is most useful to present continuing and discontinued operations revenues on a combined basis (see Note 5 to our Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K). In addition, for purposes of the tables included in this Item 2, we define “stabilized occupancy as having occurred once a property has attained 93% physical occupancy.
The following table sets forth certain summary information about our consolidated operating properties as of December 31, 2007:
Summary of Consolidated Operating Properties
(1)
For purposes of this table, units refer to multifamily units, NRA refers to net rentable area of office space and GRA refers to gross retail area, which includes gross leasable area and space owned by anchor tenants.
(2)
Total 2007 Operating Property Revenue is calculated for the year ended December 31, 2007, and, as a result, includes revenue attributable to consolidated properties acquired or disposed of during 2007 that are not reflected in the Number of Operating Properties column.
(3)
Amount includes $62,917,852 of revenue from properties classified as discontinued operations during 2007. In order to arrive at consolidated property revenues of $343,717,461, in accordance with accounting principles generally accepted in the United States (“GAAP”), this amount must be removed from the total property revenue.
(4)
Total Operating Property Revenue from Continuing Operations can be calculated by adding Minimum rent, Minimum rent from affiliates, Percentage rent, Tenant recoveries and Other property related revenue on our Consolidated Statements of Income and Comprehensive Income.
(5)
Excludes the units/square feet of developments of one multifamily apartment community (336 units), one office property (169,256 square feet) and one retail property (260,649 square feet) that had not achieved stabilized occupancy as of December 31, 2007.
Multifamily Properties
Our multifamily portfolio is comprised of 122 multifamily apartment communities, including those properties in lease-up, consisting of 102 wholly-owned consolidated properties and 20 properties held through unconsolidated joint ventures, which properties contain, in the aggregate, a total of 36,314 garden-style apartments and range in size from 80 to 586 units. Of the 122 multifamily communities, 13 multifamily properties (containing a total of 4,552 apartment units) are located in Alabama, four multifamily properties (containing a total of 952 units) are located in Arizona, one multifamily property (containing a total of 200 units) is located in California, 11 multifamily properties (containing a total of 3,409 units) are located in Florida, 16 multifamily properties (containing a total of 4,789 units) are located in Georgia, 28 multifamily properties (containing a total of 8,087 units) are located in North Carolina, eight multifamily properties (containing a total of 1,997 units) are located in South Carolina, three multifamily properties (containing a total of 899 units) are located in Tennessee, 28 multifamily properties (containing a total of 8,550 units) are located in Texas and 10 multifamily properties (containing a total of 2,879 units) are located in Virginia. Each of the multifamily properties is established in its local market and provides residents with numerous amenities, which may include a swimming pool, exercise room, jacuzzi, clubhouse, laundry room, tennis court(s) and/or a playground. We manage all of the multifamily properties.
The following table sets forth certain additional information relating to the consolidated multifamily properties as of and for the year ended December 31, 2007.
Consolidated Multifamily Properties
(1)
At December 31, 2007, only 102 of the properties listed above are 100% owned by us. As reflected in the notes below, the other properties listed above reflect properties that were consolidated during 2007 before being sold outright or sold to joint ventures in which we retain an ownership interest. All properties are 100% owned by us. In the listing of multifamily property names, CG has been used as an abbreviation for Colonial Grand and CV as an abbreviation for Colonial Village.
(2)
Represents year initially completed or, where applicable, year(s) in which additional phases were completed at the property.
(3)
Units (in this table only) refer to multifamily apartment units. Number of units includes all apartment units occupied or available for occupancy at December 31, 2007.
(4)
Represents weighted average rental rate per unit of the 102 consolidated multifamily properties at December 31, 2007.
(5)
Total Multifamily Operating Property Revenue for 2007 includes property operating revenue for each of our 102 consolidated multifamily properties at December 31, 2007, as well as 12 consolidated properties sold during 2007, three properties in development, two properties that were previously condominium projects and three that were converted to condominiums.
(6)
Percent of Total Multifamily Operating Property Revenue for 2007 represents each property’s proportionate share of Total Multifamily Operating Property Revenue for 2007 from our 102 consolidated multifamily properties, as well as 12 consolidated properties sold during 2007, three properties in development, two properties that were previously condominium projects and three properties that were converted to condominiums.
(7)
Represents revenues from January 1, 2007 through the date the properties were sold during 2007.
(8)
Represents revenues from the date of our acquisition of this property in 2007 through December 31, 2007.
(9)
These properties are condominium conversions properties that are classified as held for sale.
(10)
These are operating properties that are classified as held for sale.
(11)
These properties were previously condominium projects. During the first quarter of 2007, the Company made the decision to lease all remaining unsold units at both projects.
(12)
This property was renamed during 2007, from CV at Grayson Square I & II to CV at Grapevine I & II.
(13)
This property was renamed during 2007, from CV at Paces Point to CV at Vista Ridge.
The following table sets forth certain additional information relating to the unconsolidated multifamily properties as of and for the year ended December 31, 2007.
Unconsolidated Multifamily Properties
(1)
We hold between a 5% - 35% non-controlling interest in these unconsolidated joint ventures. In the listing of multifamily property names, CG has been used as an abbreviation for Colonial Grand and CV as an abbreviation for Colonial Village.
(2)
Represents year initially completed or, where applicable, year(s) in which additional phases were completed at the property.
(3)
For the purposes of this table, units refer to multifamily apartment units. Number of units includes all apartment units occupied or available for occupancy at December 31, 2007.
(4)
Represents weighted average rental rate per unit of the 19 unconsolidated multifamily properties not in lease-up at December 31, 2007.
(5)
This property is currently in lease-up and is not included in the Percent Occupied and Average Rental Rate per Unit totals.
The following table sets forth the total number of multifamily units, percent leased and average base rental rate per unit as of the end of each of the last five years for our consolidated multifamily properties:
(1)
Represents weighted average occupancy of the multifamily properties that had achieved stabilized occupancy at the end of the respective period (excluding one property in lease-up at December 31, 2007).
The following table sets forth the total number of multifamily units percent leased and average base rental rate per unit as of the end of each of the last five years for our total multifamily portfolio (including our wholly-owned consolidated properties and our partially-owned unconsolidated joint venture properties):
(1)
Represents weighted average occupancy of the multifamily properties that had achieved stabilized occupancy at the end of the respective period (excluding one property in lease-up at December 31, 2007).
Office Properties
Our office portfolio is comprised of 48 office properties (including one property in lease-up), consisting of two wholly-owned consolidated properties and 46 properties held through unconsolidated joint ventures, which properties contain, in the aggregate, a total of approximately 16.1 million net rentable square feet. Of the 48 office properties, 18 are located in Alabama (representing 21% of the total office property net rentable square feet), 14 are located in Florida (representing 35% of the total office property net rentable square feet), eight are located in Atlanta, Georgia (representing 24% of the total office property net rentable square feet), one is located in Rockville, Maryland (representing 1% of the total office property net rentable square feet), two are located in Charlotte, North Carolina (representing 2% of the total office property net rentable square feet), one is located in Memphis, Tennessee (representing 3% of the total office property net rentable square feet), and four are located in Texas (representing 14% of the total office property net rentable square feet). The office properties range in size from approximately 29,988 square feet to 1,196,581 square feet. All of the office properties are managed by us, with the exception of two properties in the DRA/CRT Joint Venture, which are managed by unaffiliated third parties.
The following table sets forth certain additional information relating to the consolidated office properties as of and for the year ended December 31, 2007:
Consolidated Office Properties
(1)
At December 31, 2007, only two of the properties listed above are 100% owned by us. As reflected in the notes below, the other properties listed above reflect properties that were consolidated during 2007 before being sold outright or sold to joint ventures in which we retain an ownership interest.
(2)
Represents year initially completed or, where applicable, most recent year in which the property was substantially renovated or in which an additional phase of the property was completed.
(3)
Total Office Operating Property Revenue for 2007 includes property operating revenue for each of our two consolidated office properties at December 31, 2007, as well as 46 consolidated properties sold during 2007 through the date of sale.
(4)
Percent of Total Office Operating Property Revenue for 2007 represents each of the property’s proportionate share of Total Office Operating Property Revenue for 2007 from our two consolidated office properties, as well as 46 consolidated properties sold during 2007.
(5)
These properties were transferred to the DRA/CLP JV. We retained a 15% interest in these properties through a non-controlling interest in this joint venture.
(6)
Represents revenues from January 1, 2007 through the date the property was sold during 2007.
(7)
This property is currently in lease-up and is not included in the Percent Leased and Average Base Rent per Leased Square Foot property totals.
(8)
This operating property is classified as held for sale.
The following table sets forth certain additional information relating to the unconsolidated office properties as of and for the year ended December 31, 2007.
Unconsolidated Office Properties
Footnotes on the following page
(1)
We hold between a 15% - 40% non-controlling interest in these unconsolidated joint ventures.
(2)
Represents year initially completed or, where applicable, most recent year in which the property was substantially renovated or in which an additional phase of the property was completed.
(3)
The DRA/CLP JV sold nine office assets located in Huntsville, Alabama. We acquired a 40% interest (of which 30% is owned by CPSI, our taxable REIT subsidiary) in three separate TIC investments of the same nine properties.
The following table sets out a schedule of the lease expirations for leases in place as of December 31, 2007, for our consolidated office properties:
(1)
Excludes approximately 170,332 square feet of space not leased as of December 31, 2007.
(2)
Annualized base rent is calculated using base rents as of December 31, 2007.
The following table sets out a schedule of the lease expirations for leases in place as of December 31, 2007, for our consolidated office properties and office properties held in unconsolidated joint ventures combined:
(1)
Excludes approximately 1,224,599 square feet of space not leased as of December 31, 2007.
(2)
Annualized base rent is calculated using base rents as of December 31, 2007.
The following table sets forth the net rentable area, total percent leased and average base rent per leased square foot for each of the last five years for our consolidated office properties:
(1)
Total Percent Leased and Average Base Rent Per Leased Square Foot is calculated excluding one property in lease-up at December 31, 2007.
The following table sets forth the net rentable area, total percent leased and average base rent per leased square foot for each of the last five years for our consolidated office properties and office properties held in unconsolidated joint ventures combined:
(1)
Total Percent Leased and Average Base Rent Per Leased Square Foot is calculated excluding one property in lease-up at December 31, 2007.
Retail Properties
The retail portfolio is comprised of 30 retail properties (including one property in lease-up), consisting of four wholly-owned consolidated properties and 26 properties held through unconsolidated joint ventures, which properties contain, in the aggregate, a total of approximately 10.5 million square feet of gross retail area (including space owned by anchor tenants). Of the 30 retail properties, 16 are located in Alabama (representing 48.1% of the total retail property gross rentable area), six are located in Florida (representing 13.4% of the total retail property gross rentable area), three are located in Georgia (representing 13.6% of the total retail property gross rentable area), one is located in North Carolina (representing 5.2% of the total retail property gross rentable area), one is located in South Carolina (representing 6.7% of the total retail property gross rentable area), one is located in Tennessee (representing 6.2% of the total retail property gross rentable area), and two are located in Texas (representing 6.9% of the total retail property gross rentable area). All of the retail properties are managed by us, except Parkway, Glynn Place, Valdosta, Bel Air, University Village, Myrtle Beach and Greenville, which are managed by unaffiliated third parties.
The following table sets forth certain information relating to the consolidated retail properties as of and for the year ended December 31, 2007.
Consolidated Retail Properties
(1)
At December 31, 2007, only four of the properties listed above are 100% owned by us. As reflected in the notes below, the other properties listed above reflect properties that were consolidated during 2007 before being sold outright or sold to joint ventures in which we retained an ownership interest.
(2)
Represents year initially completed or, where applicable, year(s) in which the property was substantially renovated or an additional phase of the property was completed.
(3)
For the purposes of this table, GRA refers to gross retail area, which includes gross leasable area and space owned by anchor tenants. Percent leased excludes anchor-owned space.
(4)
Total Annualized Base Rent includes all base rents for our wholly-owned properties.
(5)
Includes specialty store space only.
(6)
Total Retail Operating Property Revenue for 2007 includes property operating revenue for each of our four consolidated retail properties at December 31, 2007, as well as 29 consolidated properties sold during 2007 through the date of sale.
(7)
Percent of Total Retail Operating Property Revenue for 2007 represents each of the property’s proportionate share of Total Retail Operating Property Revenue for 2007 from our four consolidated retail properties, as well as 29 consolidated properties sold during 2007.
(8)
Represents revenues from January 1, 2007 through the date the property was sold during 2007.
(9)
Represents revenues from the completion of development of the property through December 31, 2007 or the date the property was sold.
(10)
This property is currently in lease-up and is not included in Percent Leased and Average Base Rent per Leased Square Foot property totals.
(11)
These properties were transferred to the OZRE JV. We retained a 15% interest in these properties through a non-controlling interest in this joint venture.
(12)
These properties were transferred to the DRA/CLP JV. We retained a 15% interest in these properties through a non-controlling interest in this joint venture.
(13)
This property was transferred to a joint venture, Colonial Promenade Craft Farms joint venture. We retained a 15% interest in this property through a non-controlling interest in this joint venture.
(14)
These properties were transferred to a joint venture, Colonial Promenade Alabaster II/Tutwiler II joint venture. We retained a 5% interest in these properties through a non-controlling interest in this joint venture.
(15)
Represents space owned by anchor tenants.
The following table sets forth certain information relating to the unconsolidated retail properties as of and for the year ended December 31, 2007.
Unconsolidated Retail Properties
(1)
We hold between a 5% - 50% non-controlling interest in these unconsolidated joint ventures.
(2)
Represents year initially completed or, where applicable, year(s) in which the property was substantially renovated or an additional phase of the property was completed.
(3)
GRA refers to gross retail area, which includes gross leasable area and space owned by anchor tenants. Percent leased excludes anchor-owned space.
(4)
Total Annualized Base Rent includes all base rents for our partially-owned properties.
(5)
Includes specialty store space only.
(6)
This property is currently in lease-up and is not included in Percent Leased and Average Base Rent per Leased Square Foot property totals.
(7)
Represents space owned by anchor tenants.
The following table sets out a schedule of the lease expirations for leases in place as of December 31, 2007, for our consolidated retail properties:
(1)
Annualized base rent is calculated using base rents as of December 31, 2007.
The following table sets out a schedule of the lease expirations for leases in place as of December 31, 2007, for our consolidated office properties and office properties held in unconsolidated joint ventures combined:
(1)
Annualized base rent is calculated using base rents as of
The following table sets forth the total gross retail area, percent leased and average base rent per leased square foot as of the end of each of the last five years for the consolidated retail properties:
(1)
Total Percent Leased and Average Base Rent Per Leased Square Foot is calculated excluding one property in lease-up at December 31, 2007.
(2)
Average base rent per leased square foot is calculated using specialty store year-end base rent figures.
The following table sets forth the total gross retail area, percent leased and average base rent per leased square foot as of the end of each of the last five years for the total retail portfolio:
(1)
Total Percent Leased and Average Base Rent Per Leased Square Foot is calculated excluding one property in lease-up at December 31, 2007.
(2)
Average base rent per leased square foot is calculated using specialty store year-end base rent figures.
For-Sale Residential
As of December 31, 2007, we had eight consolidated for-sale developments and one partially-owned development. See Note 8 - Undeveloped Land and Construction in Progress in our Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K for a list of our for-sale residential projects. As of December 31, 2007, net of the $42.1 million impairment charge recorded on our consolidated assets, we had approximately $118.2 million of capital cost (based on book value, including pre-development and land costs) invested in these eight consolidated projects. See Note 6 - For-Sale Activity and Impairment in our Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K for additional discussion.
Undeveloped Land
We own various parcels of land that are held for future developments. Land adjacent to multifamily properties typically will be considered for potential development of another phase of an existing multifamily property if we determine that the particular market can absorb additional apartment units. For expansions at office and retail properties, we own parcels both contiguous to the boundaries of the properties, which would accommodate additional office buildings, expansion of the shopping center, and outparcels which are suitable for restaurants, financial institutions, hotels, or free standing retailers.
Property Markets
The table below sets forth certain information with respect to the geographic concentration of our consolidated properties as of December 31, 2007.
Geographic Concentration of Consolidated Properties
(1)
Units (in this table only) refer to multifamily apartment units.
(2)
NRA refers to net rentable area of office space.
(3)
GRA refers to gross retail area, which includes gross leasable area and space owned by anchor tenants.
(4)
See Note 5 to our Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K.
(5)
Total Operating Property Revenue from Continuing Operations can be calculated by adding Minimum rent, Minimum rent from affiliates, Percentage rent, Tenant recoveries and Other property related revenue on our Consolidated Statements of Income and Comprehensive Income.
We believe that the demographic and economic trends and conditions in the markets where our operating properties are located indicate a potential for continued growth in property net operating income. Our consolidated and unconsolidated operating properties are located in a variety of distinct submarkets within Alabama, Arizona, California, Florida, Georgia, Maryland, North Carolina, South Carolina, Tennessee, Texas and Virginia. However, Birmingham, Alabama; Orlando, Florida; Atlanta, Georgia; Charlotte and Raleigh, North Carolina; and Austin, Dallas and Houston, Texas are our primary markets. We believe that our markets in these 11 states are characterized by stable and increasing populations and as a result of the recent economic downturn moderate employment growth. These markets should continue to provide a steady demand for multifamily, office and retail properties.
Mortgage Financing
As of December 31, 2007, we had approximately $1.6 billion of collateralized and unsecured indebtedness outstanding with a weighted average interest rate of 5.8% and a weighted average maturity of 5.8 years. Of this amount, approximately $62.1 million was collateralized mortgage financing and $1.6 billion was unsecured debt. Our mortgaged indebtedness was collateralized by four of our consolidated properties and carried a weighted average interest rate of 5.9% and a weighted average maturity of 5.5 years. The following table sets forth our collateralized and unsecured indebtedness in more detail.
Mortgage Debt and Notes Payable
(dollars in thousands)
(1)
Certain of the properties were developed in phases and separate mortgage indebtedness may encumber each of the various phases. In the listing of property names, CG has been used as an abbreviation for Colonial Grand and CV as an abbreviation for Colonial Village.
(2)
This unsecured credit facility bears interest at a variable rate, based on LIBOR plus a spread of 75 basis points. The facility also includes a competitive bid feature that allows us to convert up to $250 million under the unsecured credit facility to a fixed rate, for a fixed term not to exceed 90 days. At December 31, 2007, we had no amounts outstanding under the competitive bid feature.
(3)
Represents variable rate debt.
In addition to our consolidated debt, all of our unconsolidated joint venture properties are also subject to mortgage loans. Under these unconsolidated joint venture non-recourse mortgage loans, we could, under certain circumstances, be responsible for portions of the mortgage indebtedness in connection with certain customary non-recourse carve-out provisions, such as environmental conditions, misuse of funds, and material misrepresentations. Our pro-rata share of such indebtedness as of December 31, 2007 was $544.2 million. In addition, we have made certain guarantees in connection with our investment in unconsolidated joint ventures (see Note 19 to our Notes to Consolidated Financial Statements included in Item 8 of this Form 10-K).
Item 3.
Item 3.
Legal Proceedings.
We are involved in various lawsuits and claims arising in the normal course of business, many of which are expected to be covered by liability insurance. In the opinion of management, although the outcomes of these normal course suits and claims are uncertain, in the aggregate they should not have a material adverse effect on our business, financial condition, and results of operations. In addition, neither we nor any of our properties are presently subject to any material litigation arising out of the ordinary course of business. For additional information regarding legal disputes, see Note 19 to our Notes to Consolidated Financial Statements included in Item 8 of this Form 10-K.
Item 4.
Item 4.
Submission of Matters to a Vote of Security Holders.
No matters were submitted to a vote of our shareholders during the fourth quarter of 2007.
PART II
Item 5.
Item 5.
Market for Registrant’s Common Equity and Related Shareholder Matters.
Our common shares are traded on the New York Stock Exchange under the symbol “CLP”. The following sets forth the high and low sale prices for the common shares for each quarter in the two-year period ended December 31, 2007, as reported by the New York Stock Exchange Composite Tape, and the distributions paid by us with respect to each such period.
(1)
Includes a special distribution paid during the second quarter of 2007 of $10.75 (see Note 2 to our Notes to Consolidated Financial Statements included in Item 8 of this Form 10-K).
On February 25, 2008, the last reported sale price of the common shares on the New York Stock Exchange was $26.11. On February 25, 2008, we had approximately 3,547 shareholders of record.
During December 2007, the Company issued an aggregate of 166,565 common shares of beneficial interest in exchange for common units of CRLP. The following table sets forth the specific dates and number of shares issued upon exchange of the common units of CRLP:
The units were tendered for redemption by certain limited partners of CRLP in accordance with the terms of the agreement of limited partnership of CRLP. These common shares were issued in private placement transactions exempt from registration pursuant to Section 4(2) of the Securities Act of 1933, as amended, based on an exchange ratio of one common share for each common unit of CRLP.
We intend to continue to declare quarterly distributions on our common shares. Future distributions will be declared and paid at the discretion of our board of trustees and will depend upon cash generated by operating activities, our financial condition, capital requirements, annual distribution requirements under the REIT provisions of the Internal Revenue Code, and such other factors as our board of trustees deem relevant. In order to maintain our qualification as a REIT, we must make annual distributions to shareholders of at least 90% of our taxable income.
Performance Graph
The following graph compares the percentage change in the cumulative total stockholder return on our common stock with the cumulative total return of the S&P 500 Stock Index and the NAREIT Equity Index for the period December 31, 2002 through December 31, 2007, assuming an initial investment of $100 on December 31, 2002 in stock or index - including reinvestment of dividends. The stock price performance shown on the graph is not necessarily indicative of future price performance.
COMPARISON OF 5 YEAR CUMULATIVE TOTAL RETURN*
Among Colonial Properties Trust, The S&P 500 Index
And the NAREIT Equity Index
*
$100 invested on 12/31/02 in stock or index-including reinvestment of dividends. Fiscal year ending December 31.
Item 6.
Item 6.
Selected Financial Data.
The following table sets forth selected financial and operating information on a historical basis for each of the five years ended December 31, 2007. The following information should be read together with our consolidated financial statements and notes thereto included in Item 8 of this Form 10-K. Our historical results may not be indicative of future results due, among other things, to our current strategy to generate approximately 75% to 80% of our net operating income from multifamily properties (see Note 1 - Organization and Basis of Presentation in our Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K).
(1)
Includes a special distribution paid of $10.75 per share during the second quarter of 2007 of $10.75 (see Note 2 to our Notes to Consolidated Financial Statements included in Item 8 of this Form 10-K).
(2)
Pursuant to the definition of Funds from Operations (FFO) adopted by the Board of Governors of NAREIT, FFO is calculated by adjusting net income (loss) (computed in accordance with GAAP), excluding gains (or losses) from sales of depreciated property, plus depreciation and amortization, and after adjustments for unconsolidated partnerships and joint ventures. Adjustments for unconsolidated partnerships and joint ventures are calculated to reflect FFO on the same basis.
The Company believes that FFO is useful to investors because it provides an additional indicator of the Company’s financial and operating performance. This is because, by excluding the effect of real estate depreciation and gains (or losses) from sales of properties (all of which are based on historical costs which may be of limited relevance in evaluating current performance), FFO can facilitate comparison of operating performance among equity REITs. FFO is a widely recognized measure in the Company’s industry. FFO does not represent cash generated from operating activities determined in accordance with GAAP, and should not be considered as an alternative to net cash flows from operating activities (determined in accordance with GAAP), as a measure of our liquidity, or as an indicator of our ability to make cash distributions.
(3)
Total market capitalization is defined as the market value of outstanding common shares of the Company and operating partnership units of CRLP, plus the market value of preferred equity and outstanding principal balance of consolidated debt of the Company. This amount was calculated assuming the conversion of 10,052,778, 10,579,261, 10,872,568, 10,372,650 and 10,361,034 operating partnership units in CRLP into the Company’s common shares as of December 31, 2007, 2006, 2005, 2004 and 2003, respectively.
*
Non-GAAP financial measure. See Item 7
Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Funds from Operations” for reconciliation.
Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations.
The following discussion and analysis of the consolidated financial condition and consolidated results of operations should be read together except as otherwise noted, with the consolidated financial statements of the Company and notes thereto contained in Item 8 of this Form 10-K.
General
As of December 31, 2007, we owned or maintained a partial ownership in 122 multifamily apartment communities containing a total of 36,314 apartment units (consisting of 102 wholly-owned consolidated properties and 20 properties partially-owned through unconsolidated joint venture entities aggregating 30,371 and 5,943 units, respectively), 48 office properties containing a total of approximately 16.1 million square feet of office space (consisting of two wholly-owned consolidated properties and 46 properties partially-owned through unconsolidated joint-venture entities aggregating 0.2 and 15.9 million square feet, respectively), 30 retail properties containing a total of approximately 7.8 million square feet of retail space, excluding anchor-owned square-footage (consisting of four wholly-owned properties and 26 properties partially-owned through unconsolidated joint venture entities aggregating 0.7 million and 7.1 million square feet, respectively, and certain parcels of land adjacent to or near certain of these properties. As of December 31, 2007, consolidated multifamily, office and retail properties that had achieved stabilized occupancy (which occurs once a property has attained 93% physical occupancy) were 96.0%, 97.1% and 90.4% leased, respectively.
We are the direct general partner of, and as of December 31, 2007, held approximately 82.5% of the interests in, Colonial Realty Limited Partnership, a Delaware limited partnership (“CRLP”). We conduct all of our business through CRLP, Colonial Properties Services Limited Partnership (“CPSLP”), which provides management services for our properties, and Colonial Properties Services, Inc. (“CPSI”), which provides management services for properties owned by third parties.
As a lessor, the majority of our revenue is derived from tenants and residents under existing leases at our properties. Therefore, our operating cash flow is dependent upon the rents that we are able to charge to our tenants and residents, and the ability of these tenants and residents to make their rental payments. Additionally, our reliance on third-party management fees has increased significantly as a result of an increase in joint venture activities and the related third-party management agreements.
The for-sale residential business, which deteriorated throughout 2007, experienced significant deterioration in the third and fourth quarters of 2007 due to increasing mortgage financing rates, the decline in the availability of sub-prime lending and other types of mortgages. This deterioration led to increasing supplies of such assets, an increase in construction costs, and higher insurance costs, resulting in lower sales prices and reduced sales velocity. In addition, pricing in the single family housing market declined, primarily due to a lack of demand, and certain units that were under contract did not close because buyers backed out of the sales contracts. Because of these factors, we recorded a non-cash impairment charge of $43.3 million ($26.8 million, net of tax) to reduce the carrying value of certain of our for-sale residential developments to their estimated fair market value. This impairment charge was primarily related to the for-sale residential projects located in Gulf Shores, Alabama and one condominium project in downtown Charlotte, North Carolina. Including the charge, as of December 31, 2007, we had approximately $135.6 million of capital cost (based on book value, including pre-development and land costs) invested in our consolidated and unconsolidated for-sale residential projects. If market conditions do not improve or if there is further market deterioration, it may impact the number of projects we can sell, the timing of the sales
and/or the prices at which we can sell them. If we are unable to sell projects, we may incur additional impairment charges on projects previously impaired as well as on projects not currently impaired but for which indicators of impairment may exist, which would decrease the value of our assets as reflected on our balance sheet and adversely affect our shareholders’ equity. There can be no assurances of the amount or pace of future for-sale residential sales and closings, particularly given current market conditions.
Strategic Initiative
In November 2006, the Company announced that it was accelerating its plan to become a multi-family focused REIT by reducing its ownership interests in its office and retail portfolios. To facilitate this plan, in June 2007, the Company completed two joint venture transactions, one involving 26 properties and the other involving 11 properties. In addition, in July 2007, the Company completed the outright sale of an additional 11 retail properties for an aggregate sales price of $129.0 million. As a result of the sale of one of these assets for less than its carrying value, the Company recorded an impairment charge of approximately $2.5 million during the three months ended June 30, 2007. In addition, the Company sold a retail property, of which it owned 90%, for a sales price of $74.4 million. These transactions are more fully described under “Business -Business Strategy” in Item 1 of this Form 10-K.
As a result of the joint venture transactions, the Company paid a special dividend of $10.75 per share on June 27, 2007. The remaining proceeds from these transactions were used to pay down the Company’s outstanding indebtedness (see Note 11 to our Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K). During 2007, the Company incurred approximately $29.2 million in prepayment penalties, which was partially offset by the write-off of approximately $16.7 million in debt intangibles. In addition the Company incurred transaction costs of approximately $11.8 million (excluding minority interest of approximately $2.0 million) in connection with the office and retail joint venture transactions, including employee incentives of approximately $0.5 million. These transaction costs were recorded as a part of the net gain recorded for the two joint venture transactions. During 2007, the Company also incurred approximately $3.0 million of non-divisional termination benefits and severance costs associated with its strategic initiative. Of the $3.0 million of restructuring charges, approximately $0.2 million was associated with our multifamily portfolio, $0.7 million with our office portfolio, $0.3 million with our retail portfolio and $0.3 million with our for-sale residential portfolio. The remainder of these costs were non-divisional charges.
Executive Summary of Results of Operations
The following discussion of results of operations should be read in conjunction with the Consolidated Statements of Income and Comprehensive Income and the Operating Results Summary included below. In order to evaluate the operating performance of our properties for the comparative periods presented, we have presented financial information which summarizes the rental and other property revenues, property operating expenses (excluding depreciation and amortization) and net operating income (“NOI”) on a comparative basis. We believe that in order to facilitate a clear understanding of our operating results, NOI should be examined in conjunction with net income as presented in our consolidated financial statements. NOI is a supplemental non-GAAP financial measure. We believe that the line on our Consolidated Statements of Income and Comprehensive Income entitled “net income” is the most directly comparable GAAP measure to NOI. A reconciliation of net operating income to GAAP net income is included below. A reconciliation of segment NOI for our four operating segments with operating properties - multifamily, office, retail and for-sale residential - is set forth in Note 10 to our Consolidated Financial Statements included in Item 8 of this Form 10-K.
We believe that NOI is an important supplemental measure of operating performance for a REIT’s operating real estate because it provides a measure of the core operations, rather than factoring in depreciation and amortization, financing costs and general and administrative expenses. This measure is particularly useful, in the opinion of management, in evaluating the performance of geographic operations, operating segment groupings, individual properties and geographic operations. Additionally, management believes that NOI is a widely accepted measure of comparative operating performance in the real estate investment community. NOI presented by us may not be comparable to NOI reported by other REITs that define NOI differently. NOI should not be considered (1) as an alternative to net income (determined in accordance with GAAP), (2) as an indicator of financial performance,
(3) as cash flow from operating activities (determined in accordance with GAAP) or (4) as a measure of liquidity nor is it indicative of sufficient cash flow to fund all of our needs.
The principal factors that influenced our operating results for 2007 are as follows:
•
Total multifamily revenues decreased $4.0 million, or 1.3%, compared to 2006 primarily as a result of the net of four acquisitions and 12 dispositions during 2007, compared to 10 acquisitions and 16 dispositions during 2006.
•
Total multifamily NOI decreased $1.9 million, or 1.1%, compared to 2006 as a result of the net of four acquisitions and 12 dispositions during 2007, compared to 10 acquisitions and 16 dispositions during 2006.
•
Office and Retail NOI and Rental revenues associated with our office and retail assets decreased due to:
•
the office and retail joint venture transactions that were consummated during June 2007;
•
the sale of 85% of our interest in the office assets contributed to the Colonial Center Mansell joint venture in June 2006;
•
the outright sale of three other office assets throughout the remainder of 2006; and
•
the outright sale of 16 retail assets during 2007.
•
Gains on sale of real estate increased as a result of net gains of approximately $276.5 million recognized in connection with the sale of our 69.8% interest in the DRA/CLP JV and our 69.8% interest in the OZRE JV in June 2007, as more fully described under “Business-Business Strategy” in Item 1 of this Form 10-K. During 2007, we recognized an additional $8.5 million of gain on sale related to these transactions as a result of a reduction of the obligations initially incurred in connection with these transactions.
•
We incurred a $43.3 million non-cash impairment charge ($26.8 million net of income tax) related to our for-sale residential business, a $2.5 million impairment charge related to a retail asset sold during 2007 and an $0.8 million impairment charge as a result of fires at two of our multifamily apartment communities .
•
Commercial development sales and for-sale residential sales contributed approximately $17.0 million of net income, excluding impact of impairment charge.
•
Operations for 2007 included approximately $20.5 million of net expenses associated with our strategic initiative (see below for detailed discussion of these expenses).
Additionally, our multifamily portfolio physical occupancy for consolidated properties was 96.0%, 95.5% and 95.3% for the years ended December 31, 2007, 2006 and 2005.
Reconciliation of Operating Results Summary to Consolidated Statements of Income and Comprehensive Income
The following schedules are provided to reconcile our Consolidated Statements of Income and Comprehensive Income to the information presented in the Operating Results Summary (dollar amounts in thousands).
(1)
Rental revenues include minimum rent, percentage rent, tenant recoveries and other property related revenue from our Consolidated Statements of Income.
Operating Results Summary
The following operating results summary is provided for reference purposes and is intended to be read in conjunction with the narrative discussion. This summary includes all operating activities for our consolidated properties, including those classified as discontinued operations for GAAP reporting purposes. This information is presented to correspond with the manner in which we analyze our operating results. We generally reinvest disposition proceeds into new operating communities and developments and, therefore, believe it is most useful to analyze continuing and discontinued operations on a combined basis.
(1)
Net operating income is a non-GAAP financial measure. See discussion related to this measure above under “Executive Summary of Results of Operations.” Multifamily NOI, Office NOI and Retail NOI each can be calculated by subtracting operating expenses from rental revenues.
(2)
Multifamily Margin is calculated by subtracting multifamily operating expenses from multifamily rental revenues and dividing the difference by multifamily rental revenues.
(3)
Multifamily occupancy at end of period consists of physical occupancy for consolidated properties in our multifamily portfolio at the end of the applicable period.
Operating Results - 2007 compared to 2006
Multifamily analysis
For the year ended December 31, 2007 as compared to 2006, total multifamily revenues decreased $4.0 million as a result of disposition activities, which were partially offset by revenues from acquisitions, new developments placed into service and additional ancillary income. Multifamily revenues decreased $45.0 million as a result of the multifamily community dispositions that occurred during 2007 and 2006 and $2.1 million as a result of the conversion of three multifamily communities to for-sale condominiums. This decrease was partially offset by multifamily revenue increases of $31.0 million related to 2007 and 2006 acquisitions, $7.7 million related to improved operations at our properties held for all of 2006 and 2007 ($4.4 million associated with increased rental rates and $3.3 million associated with additional ancillary income), $3.8 million related to new developments placed into service during 2007 and 2006 and $1.0 million as a result of moving two for-sale residential projects into the rental pool.
For the year ended December 31, 2007 as compared to 2006, total multifamily NOI decreased $1.9 million as a result of disposition activities, which were partially offset by acquisitions, new developments placed into service and improved operations. NOI decreased $27.6 million as a result of the multifamily community dispositions that occurred during 2007 and 2006, $1.3 million related to an increase in salaries and incentives and $1.2 million as a result of the conversion of three multifamily communities to for-sale condominiums. In addition, NOI decreased due to impairment charges recorded as a result of fires at two multifamily apartment communities. These decreases in NOI were partially offset by $19.4 million related to 2007 and 2006 acquisitions, $2.3 million related to new developments placed into service and $7.7 million as a result of improved operations as mentioned above. The markets that experienced the majority of the growth were Austin and Fort Worth, Texas; Charlotte and Raleigh, North Carolina; and Richmond, Virginia.
Commercial property analysis
For the year ended December 31, 2007 as compared to 2006, rental revenues associated with our office and retail assets decreased $125.5 million and office and retail NOI decreased $87.4 million. As a result of the office joint venture transaction that closed in June 2007, office revenues and office NOI decreased $74.1 million and $46.5 million, respectively. As a result of the retail joint venture transaction that closed in June 2007, retail revenues and retail NOI decreased $16.6 million and $12.4 million, respectively. Additionally, retail rental revenues and retail NOI decreased $11.6 million and $8.4 million, respectively, as a result of the outright sale of 12 of our retail malls and shopping centers during July 2007. The remaining decrease is related to other single property dispositions of office and retail assets during 2007 and 2006.
Construction activities
Revenues from construction activities increased approximately $8.0 million for the year ended December 31, 2007, as compared to the same period in 2006. Expenses from construction activities increased approximately $5.1 million for the year ended December 31, 2007, as compared to the same period in 2006. We provided construction services to Colonial Grand at Traditions, a wholly-owned development project during 2007, and to Colonial Grand at Canyon Creek, in which we own a 25% interest, during 2006 and 2007. All revenues and expenses associated with our percent interest are eliminated in consolidation.
Non-property related revenues
Non-property related revenues increased $1.7 million for the year ended December 31, 2007, as compared to the same period in 2006. This increase is a result of the management fees that the Company began receiving as a result of the office and retail joint venture transactions that closed in June 2007, as well as an increase in construction and development fees. These increases were partially offset by lost management fee revenues from the DRA Southwest Partnership, in which we sold our interest in December 2006, and from the GPT/Colonial Retail Joint Venture, for which we ceased providing management services as of June 2007.
Depreciation and amortization expenses
Depreciation and amortization expense decreased $46.9 million for the year ended December 31, 2007 compared to the same period in 2006. This decrease resulted from the net disposition activity since December 31,
2006, including, in particular, the dispositions resulting from the office and retail joint venture transactions and retail sales in June 2007 and July 2007, respectively.
General and administrative expenses
General and administrative expenses increased approximately $6.1 million during the year ended December 31, 2007 as compared to the same period in 2006 primarily as a result of expenses incurred in connection with the termination of our pension plan, totaling $2.3 million (including a one-time pension bonus of $1.4 million), an increase in corporate office rental fees of $1.0 million, an increase in insurance costs of $1.1 million and an increase in salaries and incentives associated with the growth of the company of $1.0 million. The remaining increase is attributable to costs incurred as a result of unsuccessful ventures.
Management fee and other expenses
Management fee and other expenses consist of property management and other services provided to third parties, including properties held in unconsolidated joint ventures in which we are a member. These expenses increased $3.1 million for the year ended December 31, 2007 as compared to the same period in 2006 primarily due to an increase in broker commissions paid on leasing and dispositions in 2007, the reallocation of management salaries from property management expenses, and an increase in recruiting and other general corporate expenditures resulting from our office and retail joint venture transactions that closed in June 2007.
Property management expenses
Property management expenses consist of regional supervision and accounting costs related to property operations at our wholly-owned properties. These expenses decreased $0.4 million for the year ended December 31, 2007 as compared to the same period in 2006 primarily due to a reallocation of management salaries to management fee expenses as a result of the office and retail joint venture transactions that closed in June 2007.
Restructuring charges
The restructuring charges recorded in the year ended December 31, 2007 were comprised of termination benefits and severance costs recorded in the second and fourth quarters of 2007 associated with our strategic initiative to become a multifamily focused REIT.
Impairments
For 2007, we recorded non-cash impairment charges totaling $46.6 million. We recorded an income tax benefit of $16.5 million related to the $43.3 million non-cash impairment charge recorded on our for-sale residential business.
During the second quarter of 2007, we recorded a non-cash impairment charge of $2.5 million related to a retail asset that was sold in July 2007 for less than its carrying value.
During the third quarter of 2007, we recorded a non-cash impairment charge of $43.3 million on our for-sale residential business as a result of the deterioration in the single family housing market, primarily in Gulf Shores, Alabama and Charlotte, North Carolina, and the turmoil in the mortgage markets. In addition, we recorded an impairment charge of $0.8 million during the third quarter of 2007, as a result of fire damage at two separate multifamily apartment communities. The fires resulted in the loss of a total of 20 units at the two properties.
Interest expense and debt cost amortization
For the year ended December 31, 2007, the decrease in interest expense and debt cost amortization is a result of the pay-down of $409.0 million of collateralized mortgages associated with 37 multifamily properties with a portion of the proceeds received from the June 2007 joint venture transactions.
Loss on retirement of debt
Loss on retirement of debt increased approximately $11.3 million during the year ended December 31, 2007 as compared to the same period in 2006. During the second quarter 2007, with proceeds from the office and retail joint venture transactions, we repaid $409.0 million of collateralized mortgages associated with 37 multifamily properties. These repayments resulted in a loss on retirement of debt during year ended December 31, 2007, comprised of
approximately $29.2 million in prepayment penalties partially offset by the write-off of approximately $16.7 million of mark-to-market debt intangibles.
Income taxes
During 2007, we recorded an income tax benefit of $15.8 million primarily as a result of the income tax benefit associated with the $43.3 million non-cash impairment charge related to our for-sale residential business. This income tax benefit was partially offset by income tax expense associated with gains on sales of retail developments.
Gains on hedging activities
Gains on hedging activities decreased $5.2 million during the year ended December 31, 2007 as compared to the same period in 2006. This decrease resulted from the settlement of $200 million forward starting swap during the first quarter of 2006 and settling a $175 million forward starting interest rate swap during the fourth quarter of 2006. Combined, we received a payment of $5.6 million in connection with these settlements in 2006.
Equity in earnings from unconsolidated entities
Income from unconsolidated entities decreased $23.6 million for the year ended December 31, 2007 due primarily to the gain on the sale of our interest in 15 multifamily apartment communities which were part of the DRA Southwest Joint Venture recognized in December 2006. This decrease was partially offset by gains recognized during 2007 of $9.2 million from the sale of our 25% interest in Colonial Grand at Bayshore in March 2007, $6.6 million gain from the sale of our 15% interest in Las Olas Centre in July 2007 and $1.7 million from the sale of our 25% interest in Colonial Village at Hendersonville in September 2007.
Gains from sales of property
Gains from sales of property for the year ended December 31, 2007 increased primarily as a result of net gains of approximately $276.5 million recognized in connection with the sale of our 69.8% interest in the DRA/CLP JV and our 69.8% interest in the OZRE JV during June 2007 as part of our office and retail joint venture transactions. The remaining increase in gains relates to the outright sale of 12 multifamily communities and 15 retail assets and the sale of our 90% interest in Village on the Parkway in 2007. In addition, we sold our interest in three retail development properties including the sale of 85% of Colonial Pinnacle Craft Farms I and the sale of 95% of each of Colonial Promenade Alabaster II and Colonial Pinnacle Tutwiler II during 2007. We also recognized additional gain of $8.5 million representing previously deferred gain related to the office and retail joint venture transactions attributable to a reduction in certain obligations and contingencies with the newly formed entities.
Dividends to preferred shareholders
Dividends to preferred shareholders decreased $7.5 million for the year ended December 31, 2007, as compared to the same period in 2006 as a result of the redemption of the Series C Preferred Shares of Beneficial Interest on June 30, 2006 and the partial repurchase during 2006 and redemption in 2007 of the Series E Cumulative Redeemable Preferred Shares of Beneficial Interest during 2006 and 2007. In connection with the Series E Preferred Shares redemption in 2007, we wrote off $0.3 million of associated issuance costs.
Discontinued Operations
Included in the overall results discussed above are amounts associated with properties that have been sold or were classified as held-for-sale as of December 31, 2007 (see Note 5 to our Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K).
Operating Results - 2006 compared to 2005
Multifamily analysis
For the year ended December 31, 2006 as compared to 2005, total multifamily revenues increased $37.4 million as a result of the properties acquired in the Cornerstone merger, the addition of 10 properties, partially offset by the disposition of 16 properties in 2006, new developments placed into service during 2006 and improved operations.
For the year ended December 31, 2006 as compared to 2005, total multifamily NOI increased $21.7 as a result of the Cornerstone merger, net acquisition and disposition activities, new developments placed into service and improved operations.
Commercial property analysis
For the year ended December 31, 2006 as compared to 2005, rental revenues associated with our office and retail assets decreased $43.6 million and office and retail NOI decreased $30.8 million, compared to the same period in 2005. This decrease is attributable to the disposition of 12 wholly-owned retail assets and an additional six retail assets that were contributed to a joint venture in which we retained a 10% interest during 2005 and 2006.
Construction activities
Revenues from construction activities were approximately $30.5 million for the year ended December 31, 2006. Expenses from construction activities were approximately $29.4 million for the year ended December 31, 2006. Our construction company had not begun providing services to third parties during the year ended December 31, 2005. These construction and development services were provided to the joint venture, CG at Canyon Creek, in which we own a 25% partnership interest. All revenues and expenses associated with our percent interest are eliminated in consolidation.
Non-property related revenues
Non-property related revenues increased $2.7 million for the year ended December 31, 2006, as compared to the same period in 2005. The increase is primarily due to an increase in property management fees and leasing income as a result of additional third party management agreements.
Depreciation and amortization expenses
Depreciation and amortization expense decreased $22.2 million for the year ended December 31, 2006 compared to the same period in 2005. The decrease is related to disposition activity since December 31, 2005 and reduced amortization expenses related to properties acquired in the Cornerstone merger in 2005.
General and administrative expenses
General and administrative expenses increased approximately $1.6 million during the year ended December 31, 2006 as compared to the same period in 2005 primarily as a result of an increase in salaries and other incentives associated with the growth of the Company and an additional quarter of overhead costs in 2006 associated with the Cornerstone merger.
Management fee and other expenses
Management fee and other expenses consist of property management and other services provided to third parties, including properties held in unconsolidated joint ventures in which we are a member. These expenses increased $2.7 million for the year ended December 31, 2006 as compared to the same period in 2005 primarily due to an increase in property management and leasing expenses as a result of additional third party management agreements.
Property management expenses
Property management expenses consist of regional supervision and accounting costs related to property operations at our wholly-owned properties. These expenses remained flat in 2006 as compared to the same period in 2005.
Impairments
During the year ended December 31, 2006, we recorded a total non-cash impairment charge of $1.6 million on one of our condominium conversion properties as a result of the softening in the condominium and single family housing markets during 2006.
Interest expense
Interest expense decreased $3.8 million during the year ended December 31, 2006 as compared to the same period in 2005. The increase reflects the issuance of $275 million of senior notes on August 29, 2006, which was offset by principal reductions of debt during 2006 and the net reduction in our revolving credit facilities during the year.
Interest income
Interest income increased $3.3 million during the year ended December 31, 2006 as compared to the same period in 2005. The increase is a result of a $24.6 million increase in notes receivable, primarily resulting from subordinated financing provided to partially-owned joint ventures in 2006 compared to 2005.
Gains on hedging activities
Gains on hedging activities increased $4.6 million during the year ended December 31, 2006 as compared to the same period in 2005. This increase is a result of changes in the fair value of an economic hedge totaling approximately $2.7 million and the gain recognized on the settlement of a forward starting interest rate swap of approximately $2.9 million, for which the originally hedged future debt issuance is probable of not occurring (see Note 12 - Derivative Instruments in our Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K).
Other
Other income decreased during year ended December 31, 2006 as compared to the same period in 2005, as a result of $4.0 million of forfeited earnest money received by the Company in 2005.
Gains from sales of property
Gains from sales of property for the year decreased $87.2 million for the year ended December 31, 2006 as compared to the same period in 2005. The decrease is primarily attributable to larger gains on sales of properties to joint ventures during 2005, offset by an increase in gains on sales of land, undepreciated property, condominium units and for-sale residential sales.
Discontinued operations
Included in the overall results discussed above are amounts associated with properties that have been sold or were classified as held-for-sale as of December 31, 2007 (see Note 5 to our Notes to Consolidated Financial Statements included in Item 8 of this Form 10-K).
Preferred share issuance costs write-off
Preferred share issuance costs write-off for the year ended December 31, 2006 included the write-off of issuance costs associated with the Series C and Series E preferred shares, which resulted from the redemption or repurchase of such shares during 2006 (see Note 14 - Equity Offerings in our Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K).
Summary of Critical Accounting Policies
We believe our accounting policies are in conformity with GAAP. The preparation of financial statements in conformity with GAAP requires management to use judgment in the application of accounting policies, including making estimates and assumptions. These judgments affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the dates of the financial statements and the reported amounts of revenue and expenses during the reporting periods. If our judgment or interpretation of the facts and circumstances relating to various transactions had been different, it is possible that different accounting policies would have been applied resulting in a different presentation of our financial statements. We consider the following accounting policies to be critical to our reported operating results:
Principles of Consolidation - We consolidate entities in which we have a controlling interest or entities where we are determined to be the primary beneficiary under FASB Interpretation No. 46R (“FIN 46R”), “Consolidation of Variable Interest Entities.” Under FIN 46R, variable interest entities (“VIEs”) are generally entities that lack
sufficient equity to finance their activities without additional financial support from other parties or whose equity holders lack adequate decision-making ability. The primary beneficiary is required to consolidate the VIE for financial reporting purposes. Additionally, Emerging Issues Task Force (“EITF”) Issue No. 04-5, Determining Whether a General Partner, or the General Partner as a Group, Controls a Limited Partnership or Similar Entity When the Limited Partners Have Certain Rights provides guidance in determining whether a general partner controls and, therefore, should consolidate a limited partnership. The application of FIN 46R and EITF No. 04-5 requires management to make significant estimates and judgments about our and our partners’ rights, obligations and economic interests in such entities. Where we have less than a controlling financial interest in an entity or we are not the primary beneficiary of the entity under FIN 46R, the entity is accounted for on the equity method of accounting. Accordingly, our share of the net earnings or losses of these entities is included in consolidated net income. A description of our investments accounted for using the equity method of accounting is included in Note 9 Investments in Partially-Owned Entities and Other Arrangements in our Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K. All significant intercompany accounts and transactions have been eliminated in consolidation.
We recognize minority interest in our Consolidated Balance Sheets for partially-owned entities that we consolidate. The minority partners’ share of current operations is reflected in minority interest of limited partners in the Consolidated Statements of Income and Comprehensive Income.
Land, Buildings, and Equipment - Land, buildings, and equipment is stated at the lower of cost, less accumulated depreciation, or fair value. We review our long-lived assets and certain intangible assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of the asset to future undiscounted cash flows expected to be generated by the asset. If an asset is considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the asset exceeds the asset’s fair value. Assets classified as held for sale are reported at the lower of their carrying amount or fair value less cost to sell. We determine fair value based on a probability weighted discounted future cash flow analysis.
In accordance with SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, land inventory and related for-sale residential projects under development are reviewed for potential write-downs when impairment indicators are present. SFAS No. 144 requires that in the event the undiscounted cash flows estimated to be generated by those assets are less than their carrying amounts, impairment charges are required to be recorded to the extent that the fair value of such assets is less than their carrying amounts. These estimates of cash flows are significantly impacted by estimates of sales price, selling velocity, sales incentives, construction costs, and other factors. Due to uncertainties in the estimation process, actual results could differ from such estimates. For those assets deemed to be impaired, the impairment to be recognized is to be measured by the amount by which the carrying amount of the assets exceeds the fair value of the assets. Our determination of fair value is primarily based on a probability weighted discounted future cash flow analysis which incorporates available market information as well as other assumptions made by management.
Depreciation is computed using the straight-line method over the estimated useful lives of the assets, as follows:
Repairs and maintenance costs are charged to expense as incurred. Replacements and improvements are capitalized and depreciated over the estimated remaining useful lives of the assets.
Acquisition of Real Estate Assets - We account for our acquisitions of investments in real estate in accordance with Statement of Financial Accounting Standards No. 141, Business Combinations, which requires the fair value of the real estate acquired to be allocated to the acquired tangible assets, consisting of land, building and tenant improvements, and identified intangible assets and liabilities, consisting of the value of above-market and below-market leases, other value of in-place leases and value of other tenant relationships, based in each case on their fair
values. We consider acquisitions of operating real estate assets to be “businesses” as that term is contemplated in Emerging Issues Task Force Issue No. 98-3, Determining Whether a Non-monetary Transaction Involves Receipt of Productive Assets or of a Business.
We allocate purchase price to the fair value of the tangible assets of an acquired property (which includes the land and building) determined by valuing the property as if it were vacant. The “as-if-vacant” value is allocated to land and buildings based on management’s determination of the relative fair values of these assets. We also allocate value to tenant improvements based on the estimated costs of similar tenants with similar terms.
Above-market and below-market in-place lease values for acquired properties are recorded based on the present value (using an interest rate which reflects the risks associated with the leases acquired) of the difference between (i) the contractual amounts to be paid pursuant to the in-place leases and (ii) management’s estimate of fair market lease rates for the corresponding in-place leases, measured over a period equal to the remaining non-cancelable term of the lease. The capitalized above-market lease values are amortized as a reduction of rental income over the remaining non-cancelable terms of the respective leases. The capitalized below-market lease values are amortized as an increase to rental income over the initial term and any fixed-rate renewal periods in the respective leases.
The aggregate value of other intangible assets acquired are measured based on the difference between (i) the property valued with existing in-place leases adjusted to market rental rates and (ii) the property valued as if vacant. Management may engage independent third-party appraisers to perform these valuations and those appraisals use commonly employed valuation techniques, such as discounted cash flow analyses. Factors considered in these analyses include an estimate of carrying costs during hypothetical expected lease-up periods considering current market conditions, and costs to execute similar leases. We also consider information obtained about each property as a result of our pre-acquisition due diligence, marketing and leasing activities in estimating the fair value of the tangible and intangible assets acquired. In estimating carrying costs, management also includes real estate taxes, insurance and other operating expenses and estimates of lost rentals at market rates during the expected lease-up periods depending on specific local market conditions and depending on the type of property acquired. Management also estimates costs to execute similar leases including leasing commissions, legal and other related expenses to the extent that such costs are not already incurred in connection with a new lease origination as part of the transaction.
The total amount of other intangible assets acquired is further allocated to in-place leases, which includes other tenant relationship intangible values based on management’s evaluation of the specific characteristics of each tenant’s lease and our overall relationship with that respective tenant. Characteristics considered by management in allocating these values include the nature and extent of our existing business relationships with the tenant, growth prospects for developing new business with the tenant, the tenant’s credit quality and expectations of lease renewals (including those existing under the terms of the lease agreement or management’s expectation for renewal), among other factors.
We are actively pursuing acquisition opportunities and will not be successful in all cases. Costs incurred related to these acquisition opportunities are expensed when it is no longer probable that we will be successful in the acquisition.
Undeveloped Land and Construction in Progress - Undeveloped land and construction in progress is stated at cost unless such assets are impaired pursuant to the provisions of SFAS No. 144, in which case such assets are recorded at fair value.
Costs incurred during predevelopment are capitalized after we have identified a development site, determined that a project is feasible, and concluded that it is probable that the project will proceed. While we believe we will recover this capital through the successful development of such projects, it is possible that a write-off of unrecoverable amounts could occur. Once it is no longer probable that a development will be successful, the predevelopment costs that have been previously capitalized are expensed.
The capitalization of costs during the development of assets (including interest, property taxes and other direct costs) begins when an active development commences and ends when the asset, or a portion of an asset, is delivered and is ready for its intended use. Cost capitalization during redevelopment of assets (including interest and other direct costs) begins when the asset is taken out of service for redevelopment and ends when the asset redevelopment is completed and the asset is placed in-service.
Valuation of Receivables - We are subject to tenant defaults and bankruptcies at our office and retail properties that could affect the collection of outstanding receivables. In order to mitigate these risks, we perform credit review and analysis on all commercial tenants and significant leases before they are executed. We evaluate the collectibility of outstanding receivables and record allowances as appropriate. Our policy is to record allowances for all outstanding invoices greater than 60 days past due at our office and retail properties. We had $1.4 million and $1.7 million in an allowance for doubtful accounts as of December 31, 2007 and 2006, respectively.
Due to the short-term nature of the leases at our multifamily properties, generally six months to one year, our exposure to tenant defaults and bankruptcies is minimized. Our policy is to record allowances for all outstanding receivables greater than 30 days past due at our multifamily properties.
Notes Receivable - Notes receivable consists primarily of promissory notes issued by third parties. We record our notes receivable at cost. We evaluate the collectibility of both interest and principal for each of its notes to determine whether it is impaired. A note is considered to be impaired when, based on current information and events, it is probable that we will be unable to collect all amounts due according to the existing contractual terms. When a note is considered to be impaired, the amount of the allowance is calculated by comparing the recorded investment to either the value determined by discounting the expected future cash flows at the note’s effective interest rate or to the fair value of the collateral if the note is collateral dependent. We had recorded accrued interest related to its outstanding notes receivable of $0.2 million and $5.2 million as of December 31, 2007 and 2006, respectively. As of December 31, 2007 and 2006, we had recorded a reserve of $0.9 million and $0.6 million, respectively, against our outstanding notes receivable and accrued interest. The weighted average interest rate on the notes receivable outstanding at December 31, 2007 and 2006 was approximately 8.1% and 11.8% respectively. Interest income is recognized on an accrual basis.
Share-Based Compensation - We currently sponsor share option plans and restricted share award plans (Refer to Note 13 - Share - based Compensation in our Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K). In December 2004, the FASB issued SFAS No. 123 (Revised), Share Based Payment, which replaced SFAS No. 123, Accounting for Stock-Based Compensation. SFAS No. 123 (R) requires compensation costs related to share-based payment transactions to be recognized in financial statements. We adopted SFAS No. 123 (R) effective January 1, 2006 using the modified prospective method. We previously adopted SFAS No. 123 on January 1, 2003 using the prospective method. Under this method, the fair value of compensation expense was recorded for all share-based awards granted or modified after January 1, 2003. Accordingly, the adoption of SFAS No. 123 (R) did not have a material impact on our consolidated financial statements.
Revenue Recognition - Sales and the associated gains or losses on real estate assets, condominium conversion projects and for-sale residential projects are recognized in accordance with the provisions of Statement of Financial Accounting Standard (“SFAS”) No. 66, “Accounting for Sales of Real Estate.” For condominium conversion projects, sales and the associated gains for individual condominium units are recognized upon the closing of the sale transactions, as all conditions for full profit recognition have been met (“Completed Contract Method”). Under SFAS No. 66, we use the relative sales value method to allocate costs and recognize profits from condominium conversion sales.
For newly developed for-sale residential projects, we account for each project under either the Completed Contract Method or the Percentage of Completion Method based on a specific evaluation of the factors specified in SFAS No. 66. The factors used to determine the appropriate accounting method are the legal commitment of the purchaser in the real estate contract, whether the construction of the project is beyond a preliminary phase, sufficient units have been contracted to ensure the project will not revert to a rental project, the aggregate project sale proceeds and costs can be reasonably estimated and the buyer has made an adequate initial and continuing cash investment under the contract in accordance with SFAS No. 66. Under the percentage-of-completion method, revenues and the associated gains are recognized over the project construction period generally based on the percentage of total project costs incurred to estimated total project costs for each condominium unit under a binding real estate contract. As of December 31, 2007, no condominium projects are accounted for under the percentage-of-completion method.
Estimated future warranty costs on condominium conversion and for-sale residential sales are charged to cost of sales in the period when the revenues from such sales are recognized. Such estimated warranty costs are
approximately 0.5% of total revenue. As necessary, additional warranty costs are charged to costs of sales based on management’s estimate of the costs to remediate existing claims.
Revenue from construction contracts is recognized on the percentage-of-completion method, measured by the percentage of costs incurred to date to estimated total costs. Provisions for estimated losses on uncompleted contracts are made in the period in which such losses are determined. Adjustments to estimated profits on contracts are recognized in the period in which such adjustments become known.
Other income received from long-term contracts signed in the normal course of business, including property management and development fee income, is recognized when earned for services provided to third parties, including joint ventures in which we own a minority interest.
We, as lessor, retain substantially all the risks and benefits of property ownership and account for our leases as operating leases. Rental income attributable to leases is recognized on a straight-line basis over the terms of the leases. Certain leases contain provisions for additional rent based on a percentage of tenant sales. Percentage rents are recognized in the period in which sales thresholds are met. Recoveries from tenants for taxes, insurance, and other property operating expenses are recognized in the period the applicable costs are incurred in accordance with the terms of the related lease.
Segment Reporting - We have adopted SFAS No. 131, Disclosures about Segments of an Enterprise and Related Information. SFAS No. 131 defines an operating segment as a component of an enterprise that engages in business activities that generate revenues and incur expenses, which operating results are reviewed by the chief operating decision maker in the determination of resource allocation and performance, and for which discrete financial information is available. We manage our business based on the performance of four separate operating portfolios: multifamily, office, retail and for-sale residential.
Investments in Joint Ventures - To the extent that we contribute assets to a joint venture, our investment in the joint venture is recorded at our cost basis in the assets that were contributed to the joint venture. To the extent that our cost basis is different from 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 net income of the joint venture. In accordance with the provisions of SFAS No. 66 and Statement of Position 78-9, Accounting for Investments in Real Estate Ventures, paragraph 30, we recognize gains on the contribution of real estate to joint ventures, relating solely to the outside partner’s interest, to the extent the economic substance of the transaction is a sale. We continually evaluate our investments in joint ventures for other than temporary declines in market value. We record impairment charges based on these evaluations. We recorded an impairment on one for-sale residential investment during 2007 (see Note 9 to our Notes to Consolidated Financial Statements included in Item 8 on this Form 10-K).
Recent Accounting Pronouncements - In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements. SFAS No. 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles and expands disclosures about fair value measurements. SFAS No. 157 is effective for financial assets and liabilities on January 1, 2008. In February 2008, the FASB reached a conclusion to defer the implementation of the SFAS No. 157 provisions relating to non-financial assets and liabilities until January 1, 2009. The FASB also reached a conclusion to amend SFAS No. 157 to exclude SFAS No. 13 Accounting for Leases and its related interpretive accounting pronouncements. SFAS No. 157 is not expected to materially affect how we determine fair value, but may result in certain additional disclosures.
In November 2006, the FASB ratified EITF Issue No. 06-8, Applicability of the Assessment of a Buyer’s Continuing Investment under FASB Statement No. 66 for Sales of Condominiums. EITF No. 06-8 provided additional guidance on whether the seller of a condominium unit is required to evaluate the buyer’s continuing investment under SFAS No. 66 in order to recognize profit from the sale under the percentage of completion method. The EITF concluded that both the buyer’s initial and continuing investment must meet the criteria in SFAS No. 66 in order for condominium sale profits to be recognized under the percentage of completion method. Sales of condominiums not meeting the continuing investment test must be accounted for under the deposit method (a method consistent with the Completed Contract Method). EITF No. 06-8 is effective January 1, 2008. We account for condominium and for-sale residential sales using similar criteria to those stated in EITF No. 06-8. In addition, as of December 31, 2007, no condominium projects were accounted for under the percentage-of-completion method. The adoption of EITF No. 06-8 did not have a material impact on our consolidated financial statements.
In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities - including an amendment of FASB Statement No. 115. SFAS No. 159 permits entities to choose to measure many financial instruments and certain other items at fair value. Unrealized gains and losses on items for which the fair value option has been elected will be recognized in earnings at each subsequent reporting date. The provisions of SFAS No. 159 are effective for fiscal years beginning after November 15, 2007. The adoption of SFAS No. 159 did not have a material impact on our consolidated financial statements.
In December 2007, the FASB issued SFAS No. 160, Noncontrolling Interests in Consolidated Financial Statements - an amendment of ARB No. 51. SFAS No. 160 amends Accounting Research Bulletin 51 to establish accounting and reporting standards for the noncontrolling interest in a subsidiary and for the deconsolidation of a subsidiary. It clarifies that a noncontrolling interest in a subsidiary is an ownership interest in the consolidated entity that should be reported as equity in the consolidated financial statements. SFAS No. 160 requires consolidated net income to be reported at amounts that include the amounts attributable to both the parent and the noncontrolling interest. SFAS No. 160 also requires disclosure, on the face of the consolidated statement of income, of the amounts of consolidated net income attributable to the parent and to the noncontrolling interest. The provisions of SFAS No. 160 are effective for fiscal years beginning after November 15, 2008. We are currently evaluating the impact of SFAS No. 160 on our consolidated financial statements.
In December 2007, the FASB issued SFAS No. 141(R), Business Combinations, which changes how business acquisitions are accounted for and will impact financial statements both on the acquisition date and in subsequent periods. SFAS No. 141(R) requires the acquiring entity in a business combination to recognize all (and only) the assets acquired and liabilities assumed in the transaction and establishes the acquisition-date fair value as the measurement objective for all assets acquired and liabilities assumed in a business combination. Certain provisions of this standard will, among other things, impact the determination of acquisition-date fair value of consideration paid in a business combination (including contingent consideration); exclude transaction costs from acquisition accounting; and change accounting practices for acquired contingencies, acquisition-related restructuring costs, and tax benefits. This Statement applies prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008. We are currently evaluating the impact of SFAS No. 141(R) on our consolidated financial statements.
Liquidity and Capital Resources
Our net cash provided by operating activities decreased from $171.8 million for the year ended December 31, 2006 to $99.0 million for the year ended December 31, 2007. This decrease is due primarily to the disposition of office and retail assets in during 2007.
Net cash flows provided by investing activities increased from $135.4 million for the year ended December 31, 2006 to $657.5 million for the year ended December 31, 2007. This increase is primarily due to a decrease in property acquisitions and the increase in property dispositions during 2007. These increases were partially offset by an increase in development expenditures during 2007.
Net cash flows used in financing activities increased from $250.2 million for the year ended December 31, 2006 to $751.1 million for the year ended December 31, 2007. The increase was primarily due to the special distribution during the year ended December 31, 2007 associated with the office and retail joint venture transactions, and the redemption of the remaining outstanding preferred series E shares in 2007.
Strategic Change
Our strategy to change our asset mix to generate approximately 75% to 80% of our net operating income from multifamily properties involved the contribution of a majority of our wholly-owned office assets and retail assets into a series of joint ventures (see Note 2 to our Notes to Consolidated Financial Statements included in this Annual Report on Form 10-K), as well as the outright sale of other retail assets. Capital proceeds from these transactions were used to reduce mortgage debt and make a special distribution to our shareholders. These transactions did not have a material impact on our debt to equity ratios. We also anticipate maintaining our investment grade rating, and as such, do not expect capital availability to be materially impacted as a result of these transactions.
Short-Term Liquidity Needs
Our short-term liquidity requirements consist primarily of funds necessary to pay for operating expenses directly associated with our portfolio of properties (including regular maintenance items), capital expenditures incurred to lease our space (e.g., tenant improvements and leasing commissions), interest expense and scheduled principal payments on our outstanding debt, and quarterly distributions that we pay to our common and preferred shareholders and holders of partnership units in CRLP. In the past, we have primarily satisfied these requirements through cash generated from operations and borrowings under our unsecured credit facility. We believe that cash generated from operations and dispositions of assets and borrowings under our unsecured credit facility will be sufficient to meet our short-term liquidity requirements in 2008. However, factors described below and elsewhere herein may have a material adverse effect on our future cash flow.
The majority of our revenue is derived from residents and tenants under existing leases primarily at our multifamily properties. Therefore, our operating cash flow is dependent upon the rents that we are able to charge to our tenants and residents, and the ability of these tenants and residents to make their rental payments. Additionally, our reliance on third-party management fees has increased significantly as a result of an increase in joint venture activities and the related third-party management agreements.
We have made an election to be taxed as a REIT under Sections 856 through 860 of the Internal Revenue Code of 1986, as amended (the “Code”), commencing with our taxable year ending December 31, 1993. If we qualify for taxation as a REIT, we generally will not be subject to Federal income tax to the extent we distribute at least 90% of our REIT taxable income to our shareholders. Even if we qualify for taxation as a REIT, we may be subject to certain state and local taxes on our income and property and to federal income and excise taxes on our undistributed income.
On or after April 30, 2008, we have the option to redeem our outstanding $125 million 1/8 percent Series D perpetual preferred shares. If we were to redeem all of the outstanding Series D preferred shares in 2008, we would expect to record a non-cash charge of approximately $4.4 million related to the write-off of Series D preferred share issuance costs. If we were to exercise this option during 2008, the redemption will be funded through asset sales and our unsecured credit facility.
Long-Term Liquidity Needs
Our long-term liquidity requirements consist primarily of funds necessary to pay the principal amount of our long-term debt as it matures, significant non-recurring capital expenditures that need to be made periodically at our properties, development projects that we undertake and costs associated with acquisitions of properties that we pursue. Historically, we have satisfied these requirements principally through the most advantageous source of capital at that time, which has included the incurrence of new debt through borrowings (through public offerings of unsecured debt and private incurrence of collateralized and unsecured debt), sales of common and preferred shares, capital raised through the disposition of assets, and joint venture capital transactions. We have filed registration statements to facilitate issuance of debt and equity securities on an as-needed basis subject to our ability to affect offerings on satisfactory terms based on prevailing conditions. While the current market conditions for public offerings of unsecured debt and equity are unfavorable, we believe these sources of capital will continue to be available in the future to fund our long-term capital needs. Given our current cash position, availability of our unsecured line of credit and projected asset sales, we do not anticipate accessing the public capital markets in 2008. However, factors described below and elsewhere herein may have a material adverse effect on our continued access to these capital sources.
Our ability to incur additional debt is dependent upon a number of factors, including our credit ratings, the value of our unencumbered assets, our degree of leverage and borrowing restrictions imposed by our current lenders. We currently have investment grade ratings for prospective unsecured debt offerings from three major rating agencies. If we experienced a credit downgrade, we may be limited in our access to capital in the unsecured debt market, which we have historically utilized to fund investment activities, and the interest rate we are paying under our existing credit facility would increase.
Our ability to raise funds through sales of common shares and preferred shares is dependent on, among other things, general market conditions for REITs, market perceptions about our company and the current trading price of
our shares. We will continue to analyze which source of capital is most advantageous to us at any particular point in time, but the equity markets may not be consistently available on terms that are attractive.
Over the last few years, we have maintained our asset recycling program, which allows us to maximize our investment returns through the sale of assets that have reached their maximum investment potential and reinvest the proceeds into opportunities with more growth potential. During 2007, we sold 12 multifamily apartment communities consisting of approximately 3,140 units and our 25% ownership interest in two multifamily apartment communities consisting of 740 units. In addition to the sale of these multifamily properties, during 2007, we sold our 15% ownership interest in two office assets consisting of 1.1 million square feet. We also sold 15 retail assets outright representing approximately 2.8 million square feet (excluding anchor-owned square footage), our 90% interest in a retail asset representing 0.4 million square feet, 85% of our interest in a retail asset representing 0.3 million square feet, and 95% of our interest in two retail assets representing 0.2 million square feet. The aggregate sales price of $608.5 million, including our pro-rata share of proceeds from partially-owned dispositions, was used to repay a portion of the borrowings under our unsecured credit facility, to repay mortgages associated with the properties, to fund general corporate purposes and to fund other investment opportunities. Our ability to generate cash from asset sales is limited by market conditions and certain rules applicable to REITs. Our ability to sell properties in the future to raise cash will be limited if market conditions make such sales unattractive. For-sale residential properties under development or acquired for development usually generate little or no cash flow until completion of development and sale of a significant number of homes or condominium units and may experience operating deficits after the date of completion and until such homes or condominium units are sold. As we enter 2008, we do not currently have visibility as to when these deteriorating market conditions will subside.
As of December 31, 2007, we have an unsecured credit facility providing for total borrowings of up to $500.0 million (which borrowing capacity was increased to $675.0 million in January 2008) and a cash management line that provides for borrowings up to $40.0 million (collectively, the “unsecured credit facilities”). The unsecured credit facility bears interest at LIBOR plus a spread calculated based on our unsecured debt ratings from time to time. Based on our December 31, 2007 debt ratings, the spread is 75 basis points over LIBOR.
On June 21, 2007, through CRLP, we repaid our then-outstanding $100 million unsecured term loan under the unsecured credit facility and amended the unsecured credit facility, to among other things,
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extend the maturity date from March 22, 2008 to June 21, 2012;
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amend certain financial covenants, including, the secured debt to total asset value ratio, the fixed charge coverage ratio, unencumbered leverage ratio and, in certain circumstances, the debt to total asset value ratio;
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increase the “applicable margin” at each pricing level with respect to revolving loans that are LIBOR loans;
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increase the capitalization rate from 6.75% to 7.50% for multifamily properties, from 8.00% to 8.25% for retail properties and from 8.25% to 8.75% for office properties;
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include certain income, gain or loss in up to 15% of EBITDA used to calculate the fixed charge coverage ratio;
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increase the “L/C commitment amount” from $25 million to $30 million;
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increase the “swingline commitment” from to $40 million to $50 million;
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increase the additional amount of “revolving loan commitments” that CRLP may request from $150 million to $200 million; and
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eliminate CRLP’s one-time right to extend the “revolving loan termination date” and the “term loan termination date” to March 22, 2009 upon satisfaction of certain conditions.
The unsecured credit facility includes a competitive bid feature that allows us to convert up to $250 million under the Credit Facility to a fixed rate, for a fixed term not to exceed 90 days.
The unsecured credit facility, which is primarily used to finance property acquisitions and developments, had an outstanding balance at December 31, 2007 of $39.3 million. There was an additional $12.3 million outstanding on the cash management line at December 31, 2007. The interest rate of this short-term borrowing facility, including the competitive bid balance, is 5.47% and 5.64% at December 31, 2007 and 2006, respectively.
At December 31, 2007, our total outstanding debt balance was $1.6 billion. The outstanding balance includes fixed-rate debt of $1.6 billion, or 95.0% of the total debt balance, and floating-rate debt of $82.9 million, or 5.0% of the total debt balance. Our total market capitalization as of December 31, 2007 was $3.2 billion and our ratio of total outstanding indebtedness to market capitalization was 51.9%. The unsecured credit facility contains various covenants and events of default which could trigger early repayment obligations, including, but not limited to the following: nonpayment; violation or breach of certain covenants; failure to perform certain covenants beyond a cure period; certain financial ratios; and generally not paying the Company’s debts as they become due. In addition, we have certain other loan agreements that contain restrictive covenants, which among other things require maintenance of various financial ratios. At December 31, 2007, we were in compliance with all of these covenants.
Investing Activities
During 2007, we acquired four multifamily apartment communities containing 1,084 units for an aggregate cost of $138.2 million, which consisted of $12.3 million of newly issued mortgage debt and $125.9 million of cash. We also acquired a 15% - 20% partnership interest in each of three multifamily apartment communities containing 775 units for an aggregate cost of $12.3 million, which consisted of $9.4 million of newly issued mortgage debt and $2.8 million of cash. We completed the development of one wholly-owned multifamily apartment community and one partially-owned multifamily apartment community for $42.9 million, which represents our portion of the cost for the two developments. Also, we completed the development of six commercial assets, consisting of three office assets, one wholly-owned and two partially-owned, totaling 0.4 million square feet and three retail assets, all wholly-owned, totaling 0.8 million square feet, including anchor-owned square feet, for an aggregate cost of $81.4 million. In addition, we completed the development of two for-sale residential assets containing 259 units for an aggregate cost of $42.1 million.
We regularly incur significant expenditures in connection with the re-leasing of our office and retail space, principally in the form of tenant improvements and leasing commissions. The amounts of these expenditures can vary significantly, depending on the particular market and the negotiations with tenants. We also incur expenditures for certain recurring capital expenses. During 2007, we incurred approximately $8.4 million related to tenant improvements and leasing commissions, and approximately $34.2 million of recurring capital expenditures. We expect to pay for future re-leasing and recurring capital expenditures out of cash from operations.
Distributions
The dividend on our common share was $0.68 per share per quarter for the first three quarters of 2007 and $0.50 per quarter for the fourth quarter of 2007 or $2.54 per share during 2007. Additionally in 2007, we paid a special distribution of $10.75 per share related to the joint venture transactions and July asset sales. We also pay regular quarterly dividends on our preferred shares and units. The maintenance of these dividends is subject to various factors, including the discretion of our Board of Trustees, our ability to pay dividends under Alabama law, the availability of cash to make the necessary dividend payments and the effect of REIT distribution requirements, which require at least 90% of our taxable income to be distributed to shareholders. We also make regular quarterly distributions on units in our operating partnership.
Financing Transactions
During July 2007, we repaid our outstanding $175 million 7.0% unsecured senior notes from proceeds received from asset sales.
During July 2007, the DRA/CLP JV increased mortgage indebtedness on the properties it owns from $588.2 million to approximately $742.0 million. The additional proceeds, of approximately $153.8 million, were utilized to payoff partner loans and establish a capital reserve, with the remainder being distributed to the partners on a pro-rata basis. Our pro-rata share of the additional proceeds was approximately $18.6 million (see Note 2 to our Notes to Consolidated Financial Statements included in Item 8 on this Form 10-K).
During July 2007, the OZRE JV increased mortgage indebtedness on the properties it owns from $187.2 million to approximately $284.0 million. The additional proceeds, of approximately $96.8 million, were utilized to payoff partner loans and establish a capital reserve, with the remainder being distributed to the partners on a pro-rata basis. Our pro-rata share of the additional proceeds was approximately $13.8 million (see Note 2 to our Notes to Consolidated Financial Statements included in Item 8 on this Form 10-K).
During June 2007, we repaid $409.0 million of collateralized mortgages associated with 37 multifamily communities with proceeds from the joint venture transactions (see Note 2 and Note 9 to our Notes to Consolidated Financial Statements included in Item 8 on this Form 10-K). In conjunction with the repayment, we incurred $29.2 million of prepayment penalties. These penalties were offset by $16.7 million of write-offs related to the mark-to-market intangibles on the associated mortgage debt repaid. The weighted average interest rate of the mortgages repaid was 7.0%.
Credit Ratings
Our current credit ratings are as follows:
(1)
Ratings outlook is “stable”.
(2)
Ratings outlook is “negative”.
In September 2007, Moody’s announced that it changed its outlook from stable to negative on our credit rating. Their negative outlook was predicated on the size of our development pipeline as a percentage of our asset base and our higher leverage level for out credit rating.
Our credit ratings are investment grade. If we experience a credit downgrade, we may be limited in our access to capital in the unsecured debt market, which we have historically utilized to fund our investment activities. In addition, as previously discussed, our spread on our unsecured credit facility would increase.
Market Risk
In the normal course of business, we are exposed to the effect of interest rate changes that could affect our results of operations and financial condition or cash flow. We limit these risks by following established risk management policies and procedures, including the use of derivative instruments to manage or hedge interest rate risk. The table below presents the principal amounts, weighted average interest rates, fair values and other terms required by year of expected maturity to evaluate the expected cash flows and sensitivity to interest rate changes at December 31, 2007.
The table incorporates only those exposures that exist as of December 31, 2007. It does not consider those exposures or positions, which could arise after that date. Moreover, because firm commitments are not presented in the table above, the information presented therein has limited predictive value. As a result, our ultimate realized gain or loss with respect to interest rate fluctuations will depend on the exposures that arise during the period, our hedging strategies at that time, and interest rates.
As of December 31, 2007, we had approximately $82.9 million of outstanding floating rate debt. We do not believe that the interest rate risk represented by our floating rate debt is material in relation to our $1.6 billion of outstanding total debt, our $3.2 billion of total assets and $3.2 billion total market capitalization as of December 31, 2007.
If market rates of interest on our variable rate debt increase by 1%, the increase in annual interest expense on our variable rate debt would decrease annual future earnings and cash flows by approximately $0.8 million. If market rates of interest on our variable rate debt decrease by 1%, the decrease in interest expense on our variable rate debt would increase future earnings and cash flows by approximately $0.8 million. This assumes that the amount outstanding under our variable rate debt remains approximately $82.9 million, the balance as of December 31, 2007.
Our objective in using derivatives is to add stability to interest expense and to manage our exposure to interest rate movements or other identified risks. To accomplish this objective, we primarily use interest rate swaps (including forward starting interest rate swaps) and caps as part of our cash flow hedging strategy. Interest rate swaps designated as cash flow hedges involve the receipt of variable-rate amounts in exchange for fixed-rate payments over the life of the agreements without exchange of the underlying principal amount. During 2007, such derivatives were used to hedge the variable cash flows associated with existing variable-rate debt and forecasted issuances of debt. As of December 31, 2007, we had no outstanding interest rate swap agreements.
At December 31, 2007, there were no derivatives included in other assets. At December 31, 2006, derivatives with a fair value of $0.7 million were included in other assets. The change in net unrealized gains/(losses) of ($0.5) million in 2007, $3.0 million in 2006 and $1.6 million in 2005 for derivatives designated as cash flow hedges is separately disclosed in the statements of changes in shareholders’ equity and comprehensive income. There were no derivatives that were not designated as hedges during 2007. The change in fair value of derivatives not designated as hedges of $2.7 million and ($0.1) million is included in other income (expense) in 2006 and 2005, respectively. There was no hedge ineffectiveness during 2007. Hedge ineffectiveness of ($0.1) million and $1.1 million on cash flow hedges due to index mismatches was recognized in other income during 2006 and 2005, respectively. As of December 31, 2007, all of our hedges are designated as cash flow hedges under SFAS No. 133.
Amounts reported in accumulated other comprehensive income related to derivatives will be reclassified to interest expense as interest payments are made on our hedged debt. The changes in accumulated other comprehensive income for such reclassifications to interest expense was $0.6 million, $0.5 million and $0.5 million during 2007, 2006 and 2005, respectively. We estimate a net impact to interest expense of approximately $0.6 million for amounts that will be reclassified from accumulated other comprehensive income in 2008.
During May 2007, we settled a $100.0 million interest rate swap and received a payment of approximately $0.6 million. This interest rate swap was in place to convert a portion of the floating rate payments on our unsecured credit facility to a fixed rate. This derivative originally qualified for hedge accounting under SFAS No. 133. However, in May of 2007, due to our then-pending joint venture transactions (see Note 2 to our Notes to Consolidated Financial Statements included in Item 8 on this Form 10-K) and the expected resulting pay down of our term loan and unsecured credit facility, this derivative no longer qualified for hedge accounting.
During February 2006, we settled a $200.0 million forward starting interest rate swap and received a payment of approximately $4.3 million. This forward starting interest rate swap was in place to convert the floating rate payments on certain expected future debt obligations to a fixed rate. This derivative originally qualified for hedge accounting under SFAS No. 133. However, in December of 2005 as a result of a modification to the forecasted transaction, this derivative no longer qualified for hedge accounting. As a result, we began treating this derivative as an economic hedge during 2005. Changes in the fair value of this derivative were recognized in earnings in other income (expense) and totaled approximately $2.7 million for the period of time the derivative was active during 2006. The fair value of this derivative at the time it no longer qualified for hedge accounting was approximately $1.5 million, which will remain in accumulated other comprehensive income and be reclassified to interest expense over the applicable period of the associated debt, which is approximately 9 years at December 31, 2007.
During June 2006, we entered into a forward starting interest rate swap agreement to hedge the interest rate risk associated with a forecasted debt issuance that occurred on August 28, 2006. This interest rate swap agreement had a notional amount of $200 million, a fixed interest rate of 5.689%, and a maturity date of November 15, 2016. This interest rate swap agreement was settled concurrent with our issuance of $275 million of debt in the senior notes offering completed August 28, 2006 (see Note 11 - Notes and Mortgages Payable in our Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K). The settlement resulted in a settlement payment of approximately $5.2 million by us. This amount will remain in other comprehensive income and be reclassified to interest expense over the remaining term of the associated debt, which is approximately 9 years at December 31, 2007. On August 15, 2006, we also entered into a $75 million treasury lock agreement to hedge the interest rate risk associated with the remaining $75 million of senior notes issued on August 28, 2006. This treasury lock agreement was settled on August 28, 2006 for a settlement payment of approximately $0.1 million which will also remain in other comprehensive income and be reclassified to interest expense over the remaining life of the associated debt.
During November 2006, we settled a $175.0 million forward starting interest rate swap that was entered into in July of 2005 and received a payment of approximately $2.9 million. This forward starting interest rate swap was in place to convert the floating rate payments on certain expected future debt obligations to a fixed rate. In November 2006, we settled this forward starting swap agreement as a result of our determination that the forecasted debt issuance was no longer probable due to our strategic initiative efforts (see Note 2 - Strategic Initiative in our Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K). In December 2006, we made the determination that it was probable that the forecasted debt issuance would not occur. As a result, we reversed the $2.9 million in other comprehensive income to other income during December of 2006.
Further, we have a policy of only entering into contracts with major financial institutions based upon their credit ratings and other factors. When viewed in conjunction with the underlying and offsetting exposure that the derivatives are designed to hedge, we have not sustained a material loss from those instruments nor do we anticipate any material adverse effect on our net income or financial position in the future from the use of derivatives.
Contractual Obligations and Other Commercial Commitments
The following tables summarize the material aspects of our future contractual obligations and commercial commitments as of December 31, 2007:
Contractual Obligations
(1)
Represents our pro rata share of principal maturities (excluding net premiums and discounts) and interest.
Other Commercial Commitments
Commitments and Contingencies
We are involved in a contract dispute with a general contractor in connection with construction costs and cost overruns with respect to certain of our for-sale projects, which are being developed in a joint venture in which we are a majority owner. The contractor is affiliated with our joint venture partner. In connection with the dispute, in January 2008, the contractor filed a lawsuit against the Company alleging, among other things, breach of contract, enforcement of a lien against real property, misrepresentation, conversion, declaratory judgment and an accounting of costs, and is seeking $10.3 million in damages, plus consequential and punitive damages. Certain of the subcontractors, vendors and other parties involved in the projects, including purchasers of units, have also made claims for payment in the form of lien claims, general claims or lawsuits. We are continuing to evaluate our options, including possible claims against the contractor, and intend to vigorously defend ourselves against these claims.
However, no prediction of the likelihood, or amount, of any resulting loss or recovery can be made at this time and no assurance can be given that the matter will be resolved favorably.
In connection with certain retail developments, we have received funding from municipalities for infrastructure costs. In most cases, the municipalities issue bonds that are repaid primarily from sales tax revenues generated from the tenants at each respective development. We have guaranteed the shortfall, if any, of tax revenues to the debt service requirements on the bonds. The total amount outstanding on these bonds was approximately $11.3 million and $5.0 million at December 30, 2007 and December 31, 2006, respectively. At December 31, 2007 and December 31, 2006, no liability was recorded for these guarantees.
In connection with the office and retail joint venture transactions, (see Note 2 - Strategic Initiative in our Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K), we assumed certain contingent obligations for a total of $15.7 million, of which $7.2 million remains outstanding as of December 31, 2007.
Guarantees and Other Arrangements
During November 2006, we committed with our joint venture partner to guarantee up to $17.3 million of a $34.6 million construction loan obtained by the Colonial Promenade Smyrna Joint Venture (see Note 9 in our Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K). We and our joint venture partner each committed to provide 50% of the $17.3 million guarantee, as each partner has a 50% ownership interest in the joint venture. As of December 31, 2007, the Colonial Promenade Smyrna Joint Venture had drawn $27.7 million on the construction loan. At December 31, 2007, no liability was recorded for the guarantee.
During February 2006, we committed to guarantee up to $4.0 million of a $27.4 million construction loan obtained by the Colonial Grand at Canyon Creek Joint Venture (see Note 9 in our Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K). As of December 31, 2007, the joint venture had drawn $25.1 million on the construction loan. At December 31, 2007, no liability was recorded for the guarantee.
During September 2005, in connection with the acquisition of CRT with DRA, CRLP guaranteed approximately $50.0 million of third-party financing obtained by the DRA/CRT JV with respect to 10 of the CRT properties. During 2006, seven of the ten properties were sold. The DRA/CRT JV (see Note 9 in our Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K) is obligated to reimburse CRLP for any payments made under the guaranty before making distributions of cash flows or capital proceeds to the DRA/CRT JV partners. At December 31, 2007, no liability was recorded for the guarantee. As of December 2007, this guarantee had been reduced to $17.4 million as a result of the pay down of the associated secured debt from the sales of assets.
During July 2005, in connection with our investment the Carter Regents Park joint venture (see Note 9 in our Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K) with Carter and Associates, we committed to provide a construction loan to the joint venture of up to approximately $40 million at a rate of 8.25% per annum. As of December 31, 2007, $25.6 million had been drawn on the construction loan by the joint venture, and $14.4 million was available to be drawn. This amount is included in Notes Receivable on our Consolidated Balance Sheet.
In connection with the formation of Highway 150 LLC (see Note 9 in our Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K) in 2002, we executed a guarantee, pursuant to which we would serve as a guarantor of $1.0 million of the debt related to the joint venture, which is collateralized by the Colonial Promenade Hoover retail property. Our maximum guarantee of $1.0 million may be requested by the lender, only after all of the rights and remedies available under the associated note and security agreements have been exercised and exhausted. At December 31, 2007, the total amount of debt of the joint venture was approximately $16.7 million and matures in December 2012. At December 31, 2007, no liability was recorded for the guarantee.
In connection with the contribution of certain assets to CRLP, certain partners of CRLP have guaranteed indebtedness of the Company totaling $26.5 million at December 31, 2007. The guarantees are held in order for the contributing partners to maintain their tax deferred status on the contributed assets. These individuals have not been indemnified by the Company.
During December 2007, in connection with our investment into the Colonial Promenade Alabaster II/Tutwiler II joint venture (see Note 9 in our Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K),
we guaranteed the payment of interest by the joint venture on its $40 million mortgage. At December 31, 2007, no liability was recorded for the guarantee.
Off-Balance Sheet Arrangements
At December 31, 2007, our pro-rata share of mortgage debt of unconsolidated joint ventures is $544.2 million. Under these unconsolidated joint venture non-recourse mortgage loans, we could, under certain circumstances, be responsible for portions of the mortgage indebtedness in connection with certain customary non-recourse carve-out provisions, such as environmental conditions, misuse of funds, and material misrepresentations. In addition, we have made certain guarantees in connection with our investment in unconsolidated joint ventures (see discussion above). We do not have any other off-balance sheet arrangements with any unconsolidated investments or joint ventures that we believe have or are reasonably likely to have a material effect on our financial condition, results of operations, liquidity or capital resources.
Outlook
Management intends to continue pursuing developments and multifamily acquisitions that meet our criteria for property quality, market strength, and investment return. Management will continue to use our unsecured credit facility to provide short-term financing for acquisition, development, and re-development activities and plans to continue to replace significant borrowings under the unsecured credit facility with funds generated from the sale of properties and the sale of additional debt and equity securities and permanent financing, as market conditions permit. Management believes that these potential sources of funds, along with the possibility of issuing limited partnership units of CRLP in exchange for properties, will provide us with the means to finance additional acquisitions, developments, and expansions.
In addition to the issuance of equity and debt, management is investigating alternate financing methods and sources to raise future capital. Private placements, joint ventures, and non-traditional equity and debt offerings are some of the alternatives we are contemplating.
Management anticipates that our net cash provided by operations and our existing cash balances will provide the necessary funds on a short- and long-term basis to cover our operating expenses, interest expense on outstanding indebtedness, recurring capital expenditures, and dividends to shareholders in accordance with Internal Revenue Code requirements applicable to REITs.
Inflation
Leases at the multifamily properties generally provide for an initial term of six months to one year and allow for rent adjustments at the time of renewal. Leases at the office properties typically provide for rent adjustments and the pass-through of certain operating expenses during the term of the lease. Substantially all of the leases at the retail properties provide for the pass-through to tenants of certain operating costs, including real estate taxes, common area maintenance expenses, and insurance. All of these provisions permit us to increase rental rates or other charges to tenants in response to rising prices and, therefore, serve to minimize our exposure to the adverse effects of inflation.
An increase in general price levels may immediately precede, or accompany, an increase in interest rates. At December 31, 2007, our exposure to rising interest rates was mitigated by the existing consolidated debt level of 51.9% of our total market capitalization and the high percentage of consolidated fixed rate debt (95.0%). As it relates to the short-term, an increase in interest expense resulting from increasing inflation is anticipated to be less than future increases in income before interest.
Funds from Operations
Funds From Operations (“FFO”) is useful to investors as a measure of performance for an equity REIT that provides a relevant basis for comparison among REITs. FFO, as defined by NAREIT, means net income (loss) before minority interest (determined in accordance with GAAP), excluding gains (losses) from debt restructuring and sales of depreciated property, plus real estate depreciation and after adjustments for unconsolidated partnerships and joint ventures. FFO is presented to assist investors in analyzing our performance. We believe that FFO is useful to investors because it provides an additional indicator of our financial and operating performance. This is because, by excluding the effect of real estate depreciation and gains (or losses) from sales of depreciated properties (all of
which are based on historical costs which may be of limited relevance in evaluating current performance), FFO can facilitate comparison of operating performance among equity REITs. Our method of calculating FFO may be different from methods used by other REITs and, accordingly, may not be comparable to such other REITs. FFO (i) does not represent cash flows from operations as defined by GAAP, (ii) is not indicative of cash available to fund all cash flow needs and liquidity, including our ability to make distributions, and (iii) should not be considered as an alternative to net income (as determined in accordance with GAAP) for purposes of evaluating our operating performance.
The following information is provided to reconcile net income available to common shareholders, the most comparable GAAP financial measure, to FFO, and to show the items included in our FFO for the years ended December 31, 2007, 2006, 2005, 2004 and 2003.
(1)
Represents the weighted average of outstanding units of minority interest in CRLP.
Item 7A.
Item 7A.
Quantitative and Qualitative Disclosures about Market Risk
The information required by this item is incorporated by reference from “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Market Risk”.
Item 8.
Item 8.
Financial Statements and Supplementary Data
The following are filed as a part of this report:
Financial Statements:
Consolidated Balance Sheets as of December 31, 2007 and 2006
Consolidated Statements of Income and Comprehensive Income for the years ended December 31, 2007, 2006 and 2005
Consolidated Statements of Shareholders’ Equity for the years ended December 31, 2007, 2006 and 2005
Consolidated Statements of Cash Flows for the years ended December 31, 2007, 2006 and 2005
Notes to Consolidated Financial Statements
Report of Independent Registered Public Accounting Firm
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CONSOLIDATED BALANCE SHEETS
The accompanying notes are an integral part of these consolidated financial statements.
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CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME
The accompanying notes are an integral part of these consolidated financial statements.
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CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY
(in thousands, except per share data)
The accompanying notes are an integral part of these consolidated financial statements.
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CONSOLIDATED STATEMENTS OF CASH FLOWS
The accompanying notes are an integral part of these consolidated financial statements.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2007, 2006 AND 2005
1.
Organization and Basis of Presentation
As used herein, “the Company” or “Colonial” means Colonial Properties Trust, an Alabama real estate investment trust (“REIT”), together with its subsidiaries, including Colonial Realty Limited Partnership, a Delaware limited partnership (“CRLP”), Colonial Properties Services, Inc. (“CPSI”), Colonial Properties Services Limited Partnership (“CPSLP”) and CLNL Acquisition Sub, LLC (“CLNL”). The Company was originally formed as a Maryland REIT on July 9, 1993 and reorganized as an Alabama REIT under a new Alabama REIT statute on August 21, 1995. The Company is a fully integrated, self-administered and self-managed REIT, which means that it is engaged in the acquisition, development, ownership, management and leasing of commercial real estate property. The Company’s activities include ownership or partial ownership and operation of a portfolio of 200 properties as of December 31, 2007 (including 108 consolidated properties and 92 properties held through unconsolidated joint ventures), consisting of multifamily, office and retail properties located in Alabama, Arizona, California, Florida, Georgia, Maryland, North Carolina, South Carolina, Tennessee, Texas and Virginia. As of December 31, 2007, including properties in lease-up, the Company owns interests in 122 multifamily apartment communities (including 102 wholly-owned consolidated properties and 20 properties partially-owned through unconsolidated joint ventures), 48 office properties (including two wholly-owned consolidated properties and 46 properties partially-owned through unconsolidated joint ventures) and 30 retail properties (including four consolidated properties and 26 properties partially-owned through unconsolidated joint ventures).
2.
Strategic Initiative
In November 2006, the Company announced that it was accelerating its plan to become a multi-family focused REIT by reducing its ownership interests in its office and retail portfolios. To facilitate this plan, in June 2007, the Company completed two joint venture transactions, one involving 26 properties and the other involving 11 properties. In addition, in July 2007, the Company completed the outright sale of an additional 12 retail properties. Each of these transactions is discussed in more detail below.
On June 15, 2007, the Company completed its office joint venture transaction with DRA G&I Fund VI Real Estate Investment Trust, an entity advised by DRA Advisors LLC (“DRA”). The Company sold to DRA its 69.8% interest in the newly formed joint venture (the “DRA/CLP JV”) that became the owner of 24 office properties and two retail properties that were previously wholly-owned by CRLP. Total sales proceeds from the sale of this 69.8% interest were approximately $379.0 million. The Company, through CRLP, retained a 15% minority interest in the DRA/CLP JV (see Note 9), as well as management and leasing responsibilities for the 26 properties. In addition to the approximate 69.8% interest purchased from the Company, DRA purchased an aggregate of 2.6% of the interests in the DRA/CLP JV from limited partners of CRLP. As of December 31, 2007, DRA owned an approximate 72.4% interest in the DRA/CLP JV, a subsidiary of CRLP owned a 15% interest and certain limited partners of CRLP that did not elect to sell their interests in the DRA/CLP JV owned the remaining approximate 12.6% interest. The purchase price paid by DRA for each limited liability company interest it acquired in the DRA/CLP JV was based on a portfolio value of approximately $1.13 billion, of which approximately $588.2 million was funded with mortgage indebtedness. The Company recorded a net gain of approximately $211.8 million on the sale of its 69.8% interest to DRA. The Company also deferred a gain of approximately $7.2 million as a result of certain obligations it assumed in the transaction. The Company recognized approximately $3.0 million of this deferred gain as a result of a reduction of the related obligation during 2007. In connection with the office joint venture transaction, 85% of the DRA/CLP JV membership units were distributed to the Company and all limited partners of CRLP on a pro rata basis. The Company recorded this distribution at book value.
On June 20, 2007, the Company completed its retail joint venture transaction with OZRE Retail, LLC (“OZRE”). The Company sold to OZRE its 69.8% interest in the newly formed joint venture (the “OZRE JV”) that became the owner of 11 retail properties that were previously wholly-owned by CRLP. Total sales proceeds from the sale of this 69.8% interest were approximately $115.0 million. The Company, through CRLP, retained a 15% minority interest in the OZRE JV (see Note 9), as well as management and leasing responsibilities for the 11 properties. In addition to the approximate 69.8% interest purchased from the Company, OZRE purchased an
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
aggregate of 2.7% of the interests in the OZRE JV from limited partners of CRLP. As of December 31, 2007, OZRE owned an approximate 72.5% interest in the OZRE JV, a subsidiary of CRLP owned a 15% interest and certain limited partners of CRLP that did not elect to sell their interests in the OZRE JV to OZRE owned the remaining approximate 12.5% interest. The purchase price paid by OZRE for each limited liability company interest it acquired in the OZRE JV was based on a portfolio value of approximately $360.0 million, of which approximately $187.2 million was funded with mortgage indebtedness. The Company recorded a net gain of approximately $64.7 million on the sale of its 69.8% interest to OZRE. The Company also deferred a gain of approximately $8.5 million as a result of certain obligations it assumed in the transaction. The Company recognized approximately $5.5 million of this deferred gain as a result of a reduction of the related obligation during 2007. In connection with the retail joint venture transaction, 85% of the OZRE JV membership units were distributed to the Company and all limited partners of CRLP on a pro rata basis. The Company recorded this distribution at book value.
Additionally, in July 2007, the Company completed its strategic initiative to become a multifamily REIT with the outright sale of an additional 11 retail assets for an aggregate sales price of $129.0 million (the asset sales, together with the joint venture transactions completed in June 2007 are collectively referred to herein as the “Strategic Transactions”) (see Note 5). As a result of the sale of one of these assets for less than its carrying value, the Company recorded an impairment charge of approximately $2.5 million during 2007, which is included in Income from discontinued operations in the Consolidated Statements of Income and Comprehensive Income for the year ended December 31, 2007. In addition, the Company sold a retail property, of which it owned 90%, for a sales price of $74.4 million (see Note 5).
As a result of the joint venture transactions discussed above, the Company paid a special dividend of $10.75 per share on June 27, 2007. The remaining proceeds from these transactions were used to pay down a portion of the Company’s outstanding indebtedness (see Note 11). During 2007, the Company incurred approximately $29.2 million in prepayment penalties, which was partially offset by the write-off of approximately $16.7 million in debt intangibles. These amounts are included in Losses on retirement of debt in the Consolidated Statements of Income and Comprehensive Income for the year ended December 31, 2007.
During 2007, the Company incurred transaction costs of approximately $11.8 million (excluding minority interest of approximately $2.0 million) in connection with the office and retail joint venture transactions, including employee incentives of approximately $0.5 million. These transaction costs were recorded as a part of the net gain recorded for the two joint venture transactions. During 2007, the Company also incurred approximately $3.0 million termination benefits and severance costs associated with its strategic initiative, which are classified as Restructuring charges in the Consolidated Statements of Income and Comprehensive Income for the year ended December 31, 2007, pursuant to Financial Accounting Standards Board (“FASB”) No. 146. Of the $3.0 million of restructuring charges, approximately $0.2 million was associated with our multifamily portfolio, $0.7 million with our office portfolio, $0.3 million with our retail portfolio and $0.3 million with our for-sale residential portfolio. The remainder of these costs was non-divisional charges. As of December 31, 2007, $1.2 million of these costs were accrued.
3.
Summary of Significant Accounting Policies
Basis of Presentation - The Company owns substantially all of its assets and conducts all of its operations through CRLP. The Company is the sole general partner of CRLP and owned an approximate 82.5% and 81.4% interest in CRLP at December 31, 2007 and 2006, respectively. Due to the Company’s ability as general partner to control CRLP and various other subsidiaries, each such entity has been consolidated for financial reporting purposes. CRLP, an SEC registrant, files separate financial statements under the Securities and Exchange Act of 1934, as amended. The Company allocates income to the minority interest in CRLP based on the weighted average minority ownership percentage for the periods presented in the Consolidated Statements of Income and Comprehensive Income. At the end of each period, the Company adjusts the Consolidated Balance Sheet for CRLP’s minority interest balance based on the minority ownership percentage at the end of the period.
The Company also consolidates other entities in which it has a controlling interest or entities where it is determined to be the primary beneficiary under FASB Interpretation No. 46R (“FIN 46R”), “Consolidation of
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Variable Interest Entities.” Under FIN 46R, variable interest entities (“VIEs”) are generally entities that lack sufficient equity to finance their activities without additional financial support from other parties or whose equity holders lack adequate decision-making ability. The primary beneficiary is required to consolidate the VIE for financial reporting purposes. Additionally, Emerging Issues Task Force (“EITF”) Issue No. 04-5, Determining Whether a General Partner, or the General Partner as a Group, Controls a Limited Partnership or Similar Entity When the Limited Partners Have Certain Rights provides guidance in determining whether a general partner controls and, therefore, should consolidate a limited partnership. The application of FIN 46R and EITF No. 04-5 requires management to make significant estimates and judgments about the Company’s and its other partners’ rights, obligations and economic interests in such entities. Where the Company has less than a controlling financial interest in an entity or the Company is not the primary beneficiary of the entity under FIN 46R, the entity is accounted for on the equity method of accounting. Accordingly, the Company’s share of the net earnings or losses of these entities is included in consolidated net income. A description of the Company’s investments accounted for using the equity method of accounting is included in Note 9. All significant intercompany accounts and transactions have been eliminated in consolidation.
The Company recognizes minority interest in its Consolidated Balance Sheets for partially-owned entities that the Company consolidates. The minority partners’ share of current operations is reflected in minority interest of limited partners in the Consolidated Statements of Income and Comprehensive Income.
Federal Income Tax Status - The Company, which is considered a corporation for federal income tax purposes, qualifies as a REIT and generally will not be subject to federal income tax to the extent it distributes its REIT taxable income to its shareholders. REITs are subject to a number of organizational and operational requirements. If the Company fails to qualify as a REIT in any taxable year, the Company will be subject to federal income tax on its taxable income at regular corporate rates. The Company may also be subject to certain federal, state and local taxes on its income and property and to federal income and excise taxes on its undistributed income even if it does qualify as a REIT. For example, the Company will be subject to income tax to the extent it distributes less than 100% of its REIT taxable income (including capital gains), and the Company has certain gains that, if recognized, will be subject to corporate tax because it acquired the assets in tax-free acquisitions of non-REIT corporations.
The Company’s consolidated financial statements include the operations of a taxable REIT subsidiary, CPSI, which is not entitled to a dividends paid deduction and is subject to federal, state and local income taxes. CPSI uses the liability method of accounting for income taxes. Deferred income tax assets and liabilities result from temporary differences. Temporary differences are differences between tax bases of assets and liabilities and their reported amounts in the financial statements that will result in taxable or deductible amounts in future periods. CPSI provides property development, construction services, leasing and management services for joint-venture and third-party owned properties and administrative services to the Company and engages in for-sale development and conversion activity. The Company generally reimburses CPSI for payroll and other costs incurred in providing services to the Company. All inter-company transactions are eliminated in the accompanying Consolidated Financial Statements. CPSI’s consolidated provision (benefit) for income taxes was ($7.4) million, $12.2 million and $6.5 million for the year ended December 31, 2007, 2006 and 2005, respectively. CPSI’s effective income tax rate was 41.87%, 38.31% and 36.10% for the year ended December 31, 2007, 2006 and 2005, respectively. As of December 31, 2007, the Company has a net deferred tax asset of approximately $19.9 million, which resulted primarily from the impairment charge related to the Company’s for-sale residential properties. The Company has assessed the recoverability of this asset and believes that, as of December 31, 2007, recovery is more likely than not based upon future taxable income and the ability to carry back taxable losses to 2006 and 2007.
In July 2006, the FASB released FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109” (“FIN 48”). FIN 48 clarifies the accounting and reporting for uncertainties in income tax law. This interpretation prescribes a comprehensive model for the financial statement recognition, measurement, presentation and disclosure of uncertain tax positions taken or expected to be taken in income tax returns. FIN 48 was effective for the Company on January 1, 2007. The adoption did not have a material
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
impact on the Company’s consolidated financial statements. The Company has concluded that there are no significant uncertain tax positions requiring disclosure, and there are no material amounts of unrecognized tax benefits.
Tax years 2004 through 2006 are subject to examination by the federal and state taxing authorities. There are no significant income tax examinations currently in process.
The Company may from time to time be assessed interest or penalties by major tax jurisdictions, although any such assessments historically have been minimal and immaterial to our financial results. When the Company has received an assessment for interest and/or penalties, it has been classified in the financial statements as income tax expense.
Land, Buildings, and Equipment - Land, buildings, and equipment is stated at the lower of cost, less accumulated depreciation, or fair value. The Company reviews its long-lived assets and certain intangible assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of the asset to future undiscounted cash flows expected to be generated by the asset. If an asset is considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the asset exceeds the asset’s fair value. Assets classified as held for sale are reported at the lower of their carrying amount or fair value less cost to sell. The Company determines fair value based on a probability weighted discounted future cash flow analysis.
In accordance with SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, land inventory and related for-sale residential projects under development are reviewed for potential write-downs when impairment indicators are present. SFAS No. 144 requires that in the event the undiscounted cash flows estimated to be generated by those assets are less than their carrying amounts, impairment charges are required to be recorded to the extent that the fair value of such assets is less than their carrying amounts. These estimates of cash flows are significantly impacted by estimates of sales price, selling velocity, sales incentives, construction costs, and other factors. Due to uncertainties in the estimation process, actual results could differ from such estimates. For those assets deemed to be impaired, the impairment to be recognized is to be measured by the amount by which the carrying amount of the assets exceeds the fair value of the assets. The Company’s determination of fair value is primarily based on a probability weighted discounted future cash flow analysis which incorporates available market information as well as other assumptions made by management.
During June 2007, the Company recorded a $2.5 million impairment charge related to a retail asset that was sold in July 2007. As a result of the sale, this $2.5 million impairment charge is included in Discontinued Operations in the Company’s Consolidated Statements of Income and Comprehensive Income. During September 2007, the Company recorded an impairment charge of $43.3 million related to its for-sale residential business (see Note 6) and $0.8 million as a result of fire damage at two multifamily apartment communities. The fires resulted in the loss of a total of 20 units at the two properties.
Depreciation is computed using the straight-line method over the estimated useful lives of the assets, as follows:
Repairs and maintenance are charged to expense as incurred. Replacements and improvements are capitalized and depreciated over the estimated remaining useful lives of the assets.
Acquisition of Real Estate Assets - The Company accounts for its acquisitions of investments in real estate in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 141, Business Combinations, which
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
requires the fair value of the real estate acquired to be allocated to the acquired tangible assets, consisting of land, building and tenant improvements, and identified intangible assets and liabilities, consisting of the value of above-market and below-market leases, other value of in-place leases and value of other tenant relationships, based in each case on their fair values. The Company considers acquisitions of operating real estate assets to be “businesses” as that term is contemplated in EITF Issue No. 98-3, Determining Whether a Non-monetary Transaction Involves Receipt of Productive Assets or of a Business.
The Company allocates purchase price to the fair value of the tangible assets of an acquired property (which includes the land and building) determined by valuing the property as if it were vacant. The “as-if-vacant” value is allocated to land and buildings based on management’s determination of the relative fair values of these assets. The Company also allocates value to tenant improvements based on the estimated costs of similar tenants with similar terms.
Above-market and below-market in-place lease values for acquired properties are recorded based on the present value (using an interest rate which reflects the risks associated with the leases acquired) of the difference between (i) the contractual amounts to be paid pursuant to the in-place leases and (ii) management’s estimate of fair market lease rates for the corresponding in-place leases, measured over a period equal to the remaining non-cancelable term of the lease. The capitalized above-market lease values are amortized as a reduction of rental income over the remaining non-cancelable terms of the respective leases. The capitalized below-market lease values are amortized as an increase to rental income over the initial term and any fixed-rate renewal periods in the respective leases.
The aggregate value of other intangible assets acquired are measured based on the difference between (i) the property valued with existing in-place leases adjusted to market rental rates and (ii) the property valued as if vacant. Management may engage independent third-party appraisers to perform these valuations and those appraisals use commonly employed valuation techniques, such as discounted cash flow analyses. Factors considered in these analyses include an estimate of carrying costs during hypothetical expected lease-up periods considering current market conditions, and costs to execute similar leases. The Company also considers information obtained about each property as a result of its pre-acquisition due diligence, marketing and leasing activities in estimating the fair value of the tangible and intangible assets acquired. In estimating carrying costs, management also includes real estate taxes, insurance and other operating expenses and estimates of lost rentals at market rates during the expected lease-up periods depending on specific local market conditions and depending on the type of property acquired. Management also estimates costs to execute similar leases including leasing commissions, legal and other related expenses to the extent that such costs are not already incurred in connection with a new lease origination as part of the transaction.
The total amount of other intangible assets acquired is further allocated to in-place leases, which includes other tenant relationship intangible values based on management’s evaluation of the specific characteristics of each tenant’s lease and the Company’s overall relationship with that respective tenant. Characteristics considered by management in allocating these values include the nature and extent of the Company’s existing business relationships with the tenant, growth prospects for developing new business with the tenant, the tenant’s credit quality and expectations of lease renewals (including those existing under the terms of the lease agreement or management’s expectation for renewal), among other factors.
The value of in-place leases and tenant relationships are amortized as a leasing cost expense over the initial term of the respective leases and any renewal periods. These intangible assets generally have a composite life of three to nine months for the Company’s multifamily properties. In no event does the amortization period for intangible assets exceed the remaining depreciable life of the building. Should a tenant terminate its lease, the unamortized portion of the in-place lease value and customer relationship intangibles would be charged to expense.
As of December 31, 2006, the Company had $98.4 million of gross in-place lease intangible assets related to its office and retail properties and accumulated amortization for these in-place lease intangible assets was $66.2 million related these properties. The aggregate amortization expense for these in-place lease intangible assets was $6.5 million, $14.6 million and $50.5 million for 2007, 2006 and 2005, respectively. The unamortized portion
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of these in-place lease intangible assets was disposed of in the office and retail joint venture transactions that occurred during 2007.
Additionally, as of December 31, 2006, the Company had $4.7 million of net above (below) market lease intangibles related to its office and retail property properties. The above (below) market lease intangibles are amortized as a decrease or increase of rental revenue over the terms of the related leases. The aggregate amortization of these intangibles was $0.8 million, $1.6 million and $0.2 million for 2007, 2006 and 2005, respectively. The unamortized portion of these above (below) market lease intangibles was disposed of in the office and retail joint venture transactions that occurred during 2007.
The Company is actively pursuing acquisition opportunities and will not be successful in all cases. Costs incurred related to these acquisition opportunities are expensed when it is no longer probable that the Company will be successful in the acquisition.
Undeveloped Land and Construction in Progress - Undeveloped land and construction in progress is stated at cost unless such assets are impaired pursuant to the provisions of SFAS No. 144, in which case such assets are recorded at fair value.
Costs incurred during predevelopment are capitalized after the Company has identified a development site, determined that a project is feasible, and concluded that it is probable that the project will proceed. While the Company believes it will recover this capital through the successful development of such projects, it is possible that a write-off of unrecoverable amounts could occur. Once it is no longer probable that a development will be successful, the predevelopment costs that have been previously capitalized are expensed.
The capitalization of costs during the development of assets (including interest, property taxes and other direct costs) begins when an active development commences and ends when the asset, or a portion of an asset, is delivered and is ready for its intended use. Cost capitalization during redevelopment of assets (including interest and other direct costs) begins when the asset is taken out-of-service for redevelopment and ends when the asset redevelopment is completed and the asset is transferred back into service.
Cash and Equivalents - The Company includes highly liquid marketable securities and debt instruments purchased with a maturity of three months or less in cash equivalents. The majority of the Company’s cash and equivalents are held at major commercial banks.
The Company has included in accounts payable book overdrafts representing outstanding checks in excess of funds on deposit of $22.3 million and $24.8 million as of December 31, 2007 and 2006, respectively.
Restricted Cash - Restricted cash is comprised of cash balances which are legally restricted as to use and consists primarily of tenant deposits, deposits on for-sale residential lots and units, and cash in escrow for self insurance retention.
Valuation of Receivables - The Company is subject to tenant defaults and bankruptcies at its office and retail properties that could affect the collection of outstanding receivables. In order to mitigate these risks, the Company performs credit review and analysis on all commercial tenants and significant leases before they are executed. The Company evaluates the collectibility of outstanding receivables and records allowances as appropriate. The Company’s policy is to record allowances for all outstanding invoices greater than 60 days past due at its office and retail properties. The Company had an allowance for doubtful accounts of $1.4 million and $1.7 million as of December 31, 2007 and 2006, respectively.
Due to the short-term nature of the leases at the Company’s multifamily properties, generally six months to one year, the Company’s exposure to tenant defaults and bankruptcies is minimized. The Company’s policy is to record allowances for all outstanding receivables greater than 30 days past due at its multifamily properties.
Notes Receivable - Notes receivable consists primarily of promissory notes issued by third parties. The Company records notes receivable at cost. The Company evaluates the collectibility of both interest and principal for each of its notes to determine whether it is impaired. A note is considered to be impaired when, based on current information and events, it is probable that the Company will be unable to collect all amounts due according to the
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existing contractual terms. When a note is considered to be impaired, the amount of the allowance is calculated by comparing the recorded investment to either the value determined by discounting the expected future cash flows at the note’s effective interest rate or to the fair value of the collateral if the note is collateral dependent. The Company had recorded accrued interest related to its outstanding notes receivable of $0.2 million and $5.2 million as of December 31, 2007 and 2006, respectively. As of December 31, 2007 and 2006, the Company had recorded a reserve of $0.9 million and $0.6 million, respectively, against its outstanding notes receivable and accrued interest. The weighted average interest rate on the notes receivable outstanding at December 31, 2007 and 2006 was approximately 8.1% and 11.8%, respectively. Interest income is recognized on an accrual basis.
The Company provided first mortgage financing to third parties totaling $17.5 million and $9.9 million in 2007 and 2006, respectively, and received principal payments of $7.3 million on these loans during 2007. The Company provided subordinated financing to third parties of $8.6 million and $3.9 million in 2007 and 2006, respectively. The Company provided subordinated financing to third parties for the acquisition and conversion of multi-family properties to condominium communities totaling $11.0 million in 2006. The Company received principal payments of $49.5 million on these and other outstanding subordinated loans during 2007. As of December 31, 2007 and 2006, the Company had outstanding notes receivable balances of $30.7 million and $61.2 million, respectively.
Deferred Debt and Lease Costs - Deferred debt costs consist of loan fees and related expenses which are amortized on a straight-line basis, which approximates the effective interest method, over the terms of the related debt. Deferred lease costs include leasing charges, direct salaries and other costs incurred by the Company to originate a lease, which are amortized on a straight-line basis over the terms of the related leases.
Derivative Instruments - All derivative instruments are recognized on the balance sheet and measured at fair value. Derivatives that do not qualify for hedge treatment under SFAS No. 133 (subsequently amended by SFAS Nos. 137 and 138), Accounting for Derivative Instruments and Hedging Activities, must be recorded at fair value with gains or losses recognized in earnings in the period of change. The Company enters into derivative financial instruments from time to time, but does not use them for trading or speculative purposes. Interest rate cap agreements and interest rate swap agreements are used to reduce the potential impact of increases in interest rates on variable-rate debt.
The Company formally documents all relationships between hedging instruments and hedged items, as well as its risk management objective and strategy for undertaking the hedge (see Note 12). This process includes specific identification of the hedging instrument and the hedge transaction, the nature of the risk being hedged and how the hedging instrument’s effectiveness in hedging the exposure to the hedged transaction’s variability in cash flows attributable to the hedged risk will be assessed. Both at the inception of the hedge and on an ongoing basis, the Company assesses whether the derivatives that are used in hedging transactions are highly effective in offsetting changes in cash flows or fair values of hedged items. The Company discontinues hedge accounting if a derivative is not determined to be highly effective as a hedge or has ceased to be a highly effective hedge.
Share-Based Compensation - The Company currently sponsors share option plans and restricted share award plans (Refer to Note 13). In December 2004, the FASB issued SFAS No. 123 (Revised), Share Based Payment, which replaced SFAS No. 123, Accounting for Stock-Based Compensation. SFAS No. 123(R) requires compensation costs related to share-based payment transactions to be recognized in financial statements. The Company adopted SFAS No. 123(R) effective January 1, 2006 using the modified prospective method. The Company had previously adopted SFAS No. 123 on January 1, 2003 using the prospective method. Under this method, the fair value of compensation expense was recorded for all share-based awards granted or modified after January 1, 2003.
Revenue Recognition - Sales and the associated gains or losses on real estate assets, condominium conversion projects and for-sale residential projects are recognized in accordance with the provisions of SFAS No. 66, “Accounting for Sales of Real Estate.” For condominium conversion projects, sales and the associated gains for individual condominium units are recognized upon the closing of the sale transactions, as all conditions for full profit recognition have been met (“Completed Contract Method”). Under SFAS No. 66, the Company uses the relative sales value method to allocate costs and recognize profits from condominium conversion sales.
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For newly developed for-sale residential projects, the Company accounts for each project under either the Completed Contract Method or the Percentage of Completion Method based on a specific evaluation of the factors specified in SFAS No. 66. The factors used to determine the appropriate accounting method are the legal commitment of the purchaser in the real estate contract, whether the construction of the project is beyond a preliminary phase, sufficient units have been contracted to ensure the project will not revert to a rental project, the aggregate project sale proceeds and costs can be reasonably estimated and the buyer has made an adequate initial and continuing cash investment under the contract in accordance with SFAS No. 66. Under the percentage-of-completion method, revenues and the associated gains are recognized over the project construction period generally based on the percentage of total project costs incurred to estimated total project costs for each unit under a binding real estate contract. As of December 31, 2007, no for-sale residential projects are accounted for under the percentage-of-completion method.
Estimated future warranty costs on condominium conversion and for-sale residential sales are charged to cost of sales in the period when the revenues from such sales are recognized. Such estimated warranty costs are approximately 0.5% of total revenue. As necessary, additional warranty costs are charged to costs of sales based on management’s estimate of the costs to remediate existing claims.
Revenue from construction contracts is recognized on the percentage-of-completion method, measured by the percentage of costs incurred to date to estimated total costs. Provisions for estimated losses on uncompleted contracts are made in the period in which such losses are determined. Adjustments to estimated profits on contracts are recognized in the period in which such adjustments become known.
Other income received from long-term contracts signed in the normal course of business, including property management and development fee income, is recognized when earned for services provided to third parties.
Net Income Per Share - Basic net income per common share is computed by dividing the net income available to common shareholders by the weighted average number of common shares outstanding during the period. Diluted net income per common share is computed by dividing the net income available to common shareholders by the weighted average number of common shares outstanding during the period, the dilutive effect of restricted shares issued, and the assumed conversion of all potentially dilutive outstanding share options.
Self Insurance Accruals - The Company is self insured up to certain limits for general liability claims, workers’ compensation claims, property claims and health insurance claims. Amounts are accrued currently for the estimated cost of claims incurred, both reported and unreported.
Use of Estimates - The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates.
Segment Reporting - The Company has adopted SFAS No. 131, Disclosures about Segments of an Enterprise and Related Information. SFAS No. 131 defines an operating segment as a component of an enterprise that engages in business activities that generate revenues and incur expenses, which operating results are reviewed by the chief operating decision maker in the determination of resource allocation and performance, and for which discrete financial information is available. The Company manages its business based on the performance of four separate operating portfolios: multifamily, office, retail and for-sale residential.
Investments in Joint Ventures - To the extent that the Company contributes assets to a joint venture, the Company’s investment in the joint venture is recorded at the Company’s cost basis in the assets that were contributed to the joint venture. To the extent that the Company’s cost basis is different from the basis reflected at the joint venture level, the basis difference is amortized over the life of the related assets and included in the Company’s share of equity in net income of the joint venture. In accordance with the previsions of SFAS No. 66 and Statement of Position 78-9, Accounting for Investments in Real Estate Ventures, paragraph 30, the Company recognizes gains on the contribution of real estate to joint ventures, relating solely to the outside partner’s interest, to the extent the economic substance of the transaction is a sale. The Company continually evaluates its investments
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in joint ventures for other than temporary declines in market value. The Company recorded an impairment on one for-sale residential investment during 2007 (see Note 9).
Recent Accounting Pronouncements - In September 2006, the FASB issued SFAS No. 157, Fair Value Measurement. SFAS No. 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles and expands disclosures about fair value measurements. SFAS No. 157 is effective for the Company’s financial assets and liabilities on January 1, 2008. In February 2008, the FASB reached a conclusion to defer the implementation of the SFAS No. 157 provisions relating to non-financial assets and liabilities until January 1, 2009. The FASB also reached a conclusion to amend SFAS No. 157 to exclude SFAS No. 13 Accounting for Leases and its related interpretive accounting pronouncements. SFAS No. 157 is not expected to materially affect how the Company determines fair value, but may result in certain additional disclosures.
In November 2006, the FASB ratified EITF Issue No. 06-8 Applicability of the Assessment of a Buyer’s Continuing Investment under FASB Statement No. 66 for Sales of Condominiums. EITF No. 06-8 provided additional guidance on whether the seller of a condominium unit is required to evaluate the buyer’s continuing investment under SFAS No. 66 in order to recognize profit from the sale under the percentage of completion method. The EITF concluded that both the buyer’s initial and continuing investment must meet the criteria in SFAS No. 66 in order for condominium sale profits to be recognized under the percentage of completion method. Sales of condominiums not meeting the continuing investment test must be accounted for under the deposit method (a method consistent with the Completed Contract Method). EITF No. 06-8 is effective January 1, 2008. As discussed above, the Company accounts for condominium and for-sale residential sales using similar criteria to those stated in EITF No. 06-8. In addition, as of December 31, 2007, no condominium projects were accounted for under the percentage-of-completion method. The adoption of EITF No. 06-8 did not have a material impact on the Company’s consolidated financial statements.
In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities - including an amendment of FASB Statement No. 115. SFAS No. 159 permits entities to choose to measure many financial instruments and certain other items at fair value. Unrealized gains and losses on items for which the fair value option has been elected will be recognized in earnings at each subsequent reporting date. The provisions of SFAS No. 159 are effective for fiscal years beginning after November 15, 2007. The adoption of SFAS No. 159 did not have a material impact on the Company’s consolidated financial statements.
In December 2007, the FASB issued SFAS No. 160, Noncontrolling Interests in Consolidated Financial Statements - an amendment of ARB No. 51. SFAS No. 160 amends Accounting Research Bulletin 51 to establish accounting and reporting standards for the noncontrolling interest in a subsidiary and for the deconsolidation of a subsidiary. It clarifies that a noncontrolling interest in a subsidiary is an ownership interest in the consolidated entity that should be reported as equity in the consolidated financial statements. SFAS No. 160 requires consolidated net income to be reported at amounts that include the amounts attributable to both the parent and the noncontrolling interest. SFAS No. 160 also requires disclosure, on the face of the consolidated statement of income, of the amounts of consolidated net income attributable to the parent and to the noncontrolling interest. The provisions of SFAS No. 160 are effective for fiscal years beginning after November 15, 2008. The Company is currently evaluating the impact of SFAS No. 160 on its consolidated financial statements.
In December 2007, the FASB issued SFAS No. 141(R), Business Combinations, which changes how business acquisitions are accounted for and will impact financial statements both on the acquisition date and in subsequent periods. SFAS No. 141(R) requires the acquiring entity in a business combination to recognize all (and only) the assets acquired and liabilities assumed in the transaction and establishes the acquisition-date fair value as the measurement objective for all assets acquired and liabilities assumed in a business combination. Certain provisions of this standard will, among other things, impact the determination of acquisition-date fair value of consideration paid in a business combination (including contingent consideration); exclude transaction costs from acquisition accounting; and change accounting practices for acquired contingencies, acquisition-related restructuring costs, and tax benefits. This Statement applies prospectively to business combinations for which the acquisition date is on or
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after the beginning of the first annual reporting period beginning on or after December 15, 2008. The Company is currently evaluating the impact of SFAS No. 141(R) on its consolidated financial statements.
4. Merger with Cornerstone Realty Income Trust
On April 1, 2005, the Company completed the merger with Cornerstone Realty Income Trust, Inc. (“Cornerstone”), a Virginia corporation, pursuant to an Agreement and Plan of Merger, dated as of October 25, 2004, as amended by Amendment No. 1 to the Agreement and Plan of Merger, dated January 24, 2005 (the “Merger Agreement”). As a result of the merger, the Company succeeded by operation of law to all of the assets and liabilities of Cornerstone prior to the merger, which consisted of 86 apartment communities with 22,981 apartment homes, a third party property management business, apartment land under development and ownership in four real estate joint ventures.
Under the terms of the Merger Agreement, Cornerstone shareholders had the right to elect to receive either:
•
a number of Colonial common shares equal to the common share conversion rate, which was calculated as 0.2581; or
•
a number of Colonial 75/8% Series E preferred depositary shares, $25.00 liquidation preference per depositary share, equal to the preferred depositary share conversion rate, which was calculated as 0.4194;
for each outstanding common share of Cornerstone, subject to the restriction that the Colonial Series E preferred depositary shares issued would not exceed approximately 25% of the total merger consideration. The final conversion ratios of the common and preferred depositary shares were determined based on the average market price of the Company’s common shares over a five day trading period preceding the effective time of the merger and fractional shares were paid in cash. Cornerstone shareholders who made no effective election received Colonial common shares. In connection with the merger, Colonial issued 11,277,358 Colonial common shares, 5,326,349 Colonial Series E preferred depositary shares and 578,358 CRLP common units to former shareholders of Cornerstone. The shares of Colonial issued to the Cornerstone shareholders were registered with the Securities and Exchange Commission on a Registration Statement on Form S-4 (File No. 333-121675).
The aggregate consideration paid for the merger was as follows:
(1)
The fair value adjustment of $50.9 million to account for the difference between the fixed rates and market rates for the Cornerstone borrowings include $26.8 million for prepayment penalties on debt retired during 2005.
The Company allocated the purchase price between net tangible and intangible assets utilizing the assistance of a third party valuation firm. When allocating the purchase price to acquired properties, the costs were allocated to the estimated intangible value of in place leases, customer relationships and above or below market leases, and to the estimated fair value of furniture and fixtures, land and buildings on a value determined by assuming the property is vacant by applying methods similar to those used by independent appraisers of income-producing property. Depreciation and amortization is computed on a straight-line basis over the remaining useful lives of the related assets. Buildings and furniture and fixtures have an average estimated useful life of 33 years and 3 years, respectively. The value of in place leases and above or below market leases was amortized over the estimated
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average remaining life of leases in place at the time of the merger. In place lease terms generally range from 3 to 7 months. The value of customer relationships was amortized over 9 months. The Company used an estimated remaining average lease life of 5 months to amortize the value of in place leases recorded in conjunction with the merger. In connection with the merger, the Company incurred $16.1 million of termination, severance and settlement of share-based compensation costs.
The following table summarizes the estimated fair value of the assets acquired and liabilities assumed on April 1, 2005:
The merger resulted in the following non-cash changes to the Company’s Consolidated Balance Sheet during the year ended December 31, 2005:
The following unaudited pro forma financial information for the year ended December 31, 2005, gives affect to the merger with Cornerstone as if it had occurred at the beginning of the periods presented. The pro forma information for the year ended December 31, 2005 includes three months of pro forma results and nine months of actual results. The pro forma results are based on historical data and are not intended to be indicative of the results of future operations.
(1)
One time merger costs of $9.1 million expensed by Cornerstone have been excluded from the pro forma net income to common shareholders for the year ended December 31, 2005.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
5.
Property Acquisitions and Dispositions
Property Acquisitions
During 2007, the Company acquired four multifamily apartment communities containing 1,084 units for an aggregate cost of approximately $138.2 million, which consisted of $12.3 million of newly issued mortgage debt and $125.9 million of cash. Also, during 2007, the Company acquired a partnership interest in three multifamily apartment communities containing 775 units for an aggregate cost of approximately $12.3 million, which consisted of $9.5 million of newly issued mortgage debt and $2.8 million of cash. During 2006, the Company acquired ten multifamily apartment communities containing 3,676 units and an additional 50,000 square feet of condominium interest in an office asset for an aggregate cost of approximately $350.3 million in 2006. Also during 2006, the Company also acquired a partnership interest in four multifamily apartment communities containing 1,216 units for an aggregate cost of approximately $19.0 million. In 2005, in addition to the Cornerstone acquisition, the Company acquired six multifamily apartment communities, eight office assets and one retail asset for an aggregate cost of $537.7 million. During 2005, the Company also acquired a partnership interest in four multifamily apartment communities containing 1,374 units, and a partnership interest in 26 office asset containing 11.7 million square feet for an aggregate cost of approximately $400 million. The Company funded these acquisitions with cash proceeds from its dispositions of assets, public offerings of debt and equity (see Notes 11 and 14), advances on bank lines of credit, and cash from operations.
The consolidated operating properties acquired during 2007, 2006 and 2005 are listed below:
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1)
In January 2006, the Company acquired an additional 50,000 square feet of condominium interests in The Peachtree.
Results of operations of these properties, subsequent to their respective acquisition dates, are included in the consolidated financial statements of the Company. The cash paid to acquire these properties is included in the consolidated statements of cash flows. The Company has accounted for its acquisitions in 2007, 2006 and 2005 accordance with SFAS 141. The value of the acquired tenant improvements and leasing commissions for the office and retail assets acquired are amortized over the remaining terms of the in-place leases (see Note 3). The property acquisitions during 2007, 2006 and 2005 are comprised of the following:
In addition to the acquisition of the operating properties mentioned above, the Company acquired certain parcels of land to be utilized for future development opportunities.
The following unaudited pro forma financial information for the years ended December 31, 2007, 2006 and 2005, give effect to the above operating property acquisitions as if they had occurred at the beginning of the periods presented. The information for the year ended December 31, 2007 includes pro forma results for the months during the year prior to the acquisition date and actual results from the date of acquisition through the end of the year. The pro forma results are not intended to be indicative of the results of future operations.
Property Dispositions - Continuing Operations
During 2007, 2006 and 2005, the Company sold various consolidated parcels of land located adjacent to its existing properties for an aggregate sales price of $15.2 million, $25.9 million and $25.1 million, respectively, which were used to repay a portion of the borrowings under the Company’s unsecured credit facility and to support its investment activities.
During 2007, in addition to the joint venture transactions discussed in Note 9, the Company sold a majority interest in three development properties representing a total of 786,500 square feet, including anchor-owned square footage. The aggregate gain on the sale of the Company’s interests was approximately $12.5 million, net of income tax and minority interest, and is included in Gains from Sales of Property in the Company’s Consolidated Statements
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of Income and Comprehensive Income (see Note 6 - Commercial Developments). Also during 2007, the Company sold a wholly-owned retail asset containing 131,300 square feet. Because the Company retained management and leasing responsibilities for this property, the gain on the sale of approximately $11.1 million is included in continuing operations.
During 2006, the Company sold an 85% interest in an office complex representing approximately 0.9 million square feet to a joint venture formed by the Company and unrelated parties for approximately $140.6 million. The Company continues to manage the properties and accounts for its 15% interest in this joint venture as an equity investment. The gain on the sale of the Company’s 85% interest is included in Gains from Sales of Property in the Company’s Consolidated Statements of Income and Comprehensive Income. The Company also sold a wholly-owned office property containing 76,000 square feet for a total sales price of $13.7 million and two wholly-owned retail properties representing approximately 1.0 million square feet for a total sales price of approximately $90.0 million. Because the Company retained management and leasing responsibilities for these three properties, the gains on the sales are included in continuing operations.
Also during 2006, the Company sold its interests in 20 multifamily apartment communities representing approximately 4,985 units, including 16 that were part of the DRA Southwest Partnership, and its interests in six office assets representing 2.1 million square feet, all of which were part of the DRA/CRT joint venture. The Company’s interests in these properties were sold for approximately $155.1 million. The gains from the sales of these interests are included in Income (Loss) from Partially-Owned Entities in the Company’s Consolidated Statements of Income and Comprehensive Income (see Note 9).
Also during 2006, the Company sold 90% of its interest in four retail properties representing approximately 0.7 million square feet to a joint venture formed by the Company and unrelated parties for approximately $114.6 million. The Company continues to manage the properties and accounted for its 10% interest in this joint venture as an equity investment. The remaining 10% interest was sold in December 2006 for approximately $7.3 million. The gain on the sale of the Company’s 90% interest is included in Gains from Sales of Property in the Company’s Consolidated Statements of Income and Comprehensive Income and the gain from the sale of the remaining 10% interest is included in Income (Loss) from Partially-Owned Entities in the Company’s Consolidated Statements of Income and Comprehensive Income (see Note 9).
During 2005, the Company sold 90% of its interest in six retail properties representing approximately 3.7 million square feet to a joint venture formed by the Company and unrelated parties for approximately $325.8 million. The Company continues to manage the properties and accounts for its 10% interest in this joint venture as an equity investment. The gain on the sale of the Company’s 90% interest is included in Gains from Sales of Property in the Company’s Consolidated Statements of Income and Comprehensive Income (see Note 9).
Also during 2005, the Company disposed of its 15% interests in two multifamily apartment communities representing 901 units and its 10% interest in a third multifamily apartment community representing 326 units for a total sales price of $12.1 million. The gains from the sales of these interests are included in Income (Loss) from Partially-Owned Entities in the Company’s Consolidated Statements of Income and Comprehensive Income (see Note 9).
Property Dispositions - Discontinued Operations
During 2007, the Company disposed of 12 consolidated multifamily apartment communities representing 3,140 units and 15 consolidated retail assets representing 3.3 million square feet, including anchor-owned square footage. The multifamily and retail assets were sold for a total sales price of $479.2 million, which was used to repay a portion of the borrowings under the Company’s unsecured credit facility and fund future investments.
During 2006, the Company disposed of 16 consolidated multifamily apartment communities representing 5,608 units and two consolidated office assets representing 0.5 million square feet. The multifamily and office properties were sold for a total sales price of $445.4 million, which was used to repay a portion of the borrowings under the Company’s unsecured credit facility and fund future investments.
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During 2005, the Company disposed of 23 consolidated multifamily apartment communities representing 6,865 units and four consolidated retail properties representing 2.9 million square feet. The multifamily and retail properties were sold for a total sales price of $636.7 million, which was used to repay a portion of the borrowings under the Company’s unsecured credit facility and fund future investments.
In accordance with SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, net income (loss) and gain (loss) on disposition of operating properties sold through December 31, 2007, in which the Company does not maintain continuing involvement, are reflected in its consolidated statements of income on a comparative basis as discontinued operations for the years ended December 31, 2007, 2006 and 2005. Following is a listing of the properties the Company disposed of in 2007, 2006 and 2005 that are classified as discontinued operations:
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(1)
Square footage includes anchor-owned square footage.
Additionally, the Company classifies real estate assets as held for sale, only after the Company has received approval by its internal investment committee, has commenced an active program to sell the assets, and in the opinion of the Company’s management it is probable the asset will sell within the next 12 months. At December 31, 2007, the Company had classified 16 multifamily assets containing 4,284 units and one office asset containing 37,000 square feet as held for sale. At December 31, 2006, the Company had classified nine multifamily assets containing 2,203 units and 15 retail assets, containing 3.4 million square feet, as held for sale. These real estate assets are reflected in the accompanying consolidated balance sheets at $228.5 million and $286.0 million at December 31, 2007 and 2006, respectively, which represents the lower of depreciated cost or fair value less costs to sell. Depreciation expense not recorded for the year ended December 31, 2007 related to assets classified as held for sale at December 31, 2007 was $1.1 million. There was no amortization expense suspended for the year ended December 31, 2007. There was no depreciation or amortization expense suspended for the years ended December 31, 2006 or 2005 related to assets classified as held for sale at December 31, 2007.
In some cases, the Company uses disposition proceeds to fund investment activities through tax-deferred exchanges under Section 1031 of the Internal Revenue Code. Certain of the proceeds described above were received into temporary cash accounts pending the fulfillment of Section 1031 exchange requirements. Subsequently, the
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funds were utilized to repay a portion of the borrowings under the Company’s unsecured credit facility or for financing of other investment activities.
In accordance with SFAS No. 144, the operating results of properties (excluding condominium conversion properties not previously operated) designated as held for sale, are included in discontinued operations in the Consolidated Statements of Income and Comprehensive Income for all periods presented. Also under the provisions of SFAS No. 144, the reserves, if any, to write down the carrying value of the real estate assets designated and classified as held for sale are also included in discontinued operations (excluding condominium conversion properties not previously operated). Additionally, under SFAS No. 144, any impairment losses on assets held for continuing use are included in continuing operations.
Below is a summary of the operations of the properties sold during 2007, 2006 and 2005 and properties classified as held for sale as of December 31, 2007, that are classified as discontinued operations:
6.
For-Sale Activities and Impairment
During 2007, 2006 and 2005, the Company, through CPSI, sold 262, 607 and 328 condominium units, respectively, at its condominium conversion properties. During 2007, the Company, through CPSI, also sold 14 residential lots and 101 condominium units at its for-sale residential development properties. During 2006, the Company, through CPSI, sold five residential lots and 49 condominium units at its for-sale residential development properties. During 2005, the Company did not have for-sale residential development properties. During 2007, 2006 and 2005, gains from sales of property on the Consolidated Statements of Income and Comprehensive Income included $13.2 million ($10.6 million net of income taxes), $33.9 million ($24.1 million net of income taxes) and $13.3 million ($9.7 million net of income taxes), respectively, from these condominium conversion and for-sale
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residential sales. A summary of revenues and costs of condominium conversion and for-sale residential sales for 2007, 2006 and 2005 are as follows:
The net gains on condominium unit sales are classified in discontinued operations if the related condominium property was previously operated by the Company as an apartment community. For 2007 and 2006, gains on condominium unit sales, net of income taxes, of $9.3 million and $21.9 million, respectively, are included in discontinued operations. There were no condominium unit sales included in discontinued operations in 2005. Condominium conversion properties are reflected in the accompanying Consolidated Balance Sheets as part of real estate assets held for sale, and totaled $2.9 million and $76.2 million as of December 31, 2007 and 2006, respectively. For-sale residential projects actively under development of $96.0 million (net of a $42.1 million non-cash impairment charge related to wholly-owned for-sale properties) and $98.3 million as of December 31, 2007 and 2006, respectively, are reflected as construction in progress in the accompanying Consolidated Balance Sheets. Completed for-sale residential projects of approximately $22.2 million and $19.2 million are reflected in real estate assets held for sale as of December 31, 2007 and 2006, respectively.
During December 2006, the Company, through CPSI, sold an option to purchase land for a total sales price of $3.2 million. The Company recognized a gain, net of income taxes, of $1.5 million on the sale, which is included in Gains from sales of property in the Company’s Consolidated Statements of Income and Comprehensive Income.
For cash flow statement purposes, the Company classifies capital expenditures for newly developed for-sale residential communities and for other condominium conversion communities in investing activities. Likewise, the proceeds from the sales of condominium units and other residential sales are also included in investing activities.
Impairment
During 2007, there was a softening in the condominium and single family housing markets due to increasing mortgage financing rates, the decline in the availability of sub-prime lending and other types of mortgages, increasing supplies of such assets, an increase in construction costs, and higher insurance costs, resulting in lower sales prices and reduced sales velocity. In addition, pricing in the single family housing market declined, primarily due to a lack of demand related to the reasons discussed above and certain units that were under contract did not close because buyers elected not to consummate the purchase of the units. As a result, the Company recorded a non-cash impairment charge of $43.3 million ($26.8 million net of income tax) to reduce the carrying value of certain of its for-sale residential developments to their estimated fair market value. An increase in construction costs (partially related to the dispute and litigation with a general contractor - See Note 19) during development was also factored into the impairment charge. The Company utilized a probability weighted discounted future cash flow analysis which incorporates available market information and other assumptions made by management. The impairment
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charge is primarily related to the for-sale residential projects located in Gulf Shores, Alabama (Cypress Village project and Grander condominium development) and one condominium project in downtown Charlotte, North Carolina (The Enclave).
The Company calculated the fair values of its for-sale residential projects evaluated for impairment under SFAS No. 144 based on current market conditions and assumptions made by management, which may differ materially from actual results if market conditions continue to deteriorate or improve. If market conditions do not improve or if there is further market deterioration, it may impact the number of projects the Company can sell, the timing of the sales and/or the prices at which the Company can sell them. If the Company is unable to sell projects, it may incur additional impairment charges on projects previously impaired as well as on projects not currently impaired but for which indicators of impairment may exist, which would decrease the value of the Company’s assets as reflected on our balance sheet and adversely affect our shareholders’ equity. There can be no assurances of the amount or pace of future for-sale residential sales and closings, particularly given current market conditions.
Commercial Developments
During December 2007, the Company sold 95% of its interest in Colonial Promenade Alabaster II and two build-to-suit outparcels at Colonial Pinnacle Tutwiler II (hhgregg & Haverty’s) to a joint venture between the Company and Watson LLC (Watson). The retail assets include 418,500 square feet, including anchor-owned square-footage, and are located in Birmingham, Alabama. The Company’s interest was sold for approximately $48.1 million. The Company recognized a gain of approximately $8.3 million after tax and minority interest on the sale. The Company’s 5% investment in the partnership is comprised of $0.5 million in contributed property and $2.0 million of newly issued mortgage debt. The proceeds from the sale will be used to fund future developments and for other general corporate purposes.
During July 2007, the Company sold 85% of its interest in Colonial Pinnacle Craft Farms I located in Gulf Shores, Alabama. The retail shopping center development includes 368,000 square feet, including anchor-owned square-footage. The Company sold its 85% interest for approximately $45.7 million and recognized a gain of approximately $4.2 million, after income tax, from the sale. The proceeds from the sale are expected to be used to fund developments and for other general corporate purposes.
During December 2006, the Company sold Colonial Pinnacle Tutwiler Farm located in Birmingham, Alabama. The retail shopping center development includes 450,000 square feet, including anchor-owned square footage. The Company sold the development for approximately $54.4 million and recognized a gain of approximately $20.5 million from the sale. The proceeds from the sale were used to fund other investment activities.
7.
Land, Buildings and Equipment
Land, buildings, and equipment consist of the following at December 31, 2007 and 2006:
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8.
Undeveloped Land and Construction in Progress
During 2007, the Company completed the construction of a wholly-owned multifamily development, adding 422 apartment homes to the portfolio. This development, Colonial Grand at Round Rock located in Austin, Texas, had a total cost of approximately $35.0 million. The Company also completed the development of Colonial Grand at Canyon Creek, a multifamily apartment community in which the Company owns a 25% interest. The Company’s portion of the total cost of the project totaled $7.9 million.
During 2007, the Company completed the development of six commercial assets adding 429,000 square feet of office space and 436,000 square feet of retail space, excluding anchor-owned square footage, to the portfolio. These office developments, Colonial Center Brookwood located in Birmingham, Alabama, Northrop Grumman located in Huntsville, Alabama and Colonial Center TownPark 300 located in Orlando, Florida had an aggregate total cost of approximately $81.4 million. These retail assets, Colonial Pinnacle Tutwiler Farm II and Colonial Promenade Alabaster II located in Birmingham and Colonial Pinnacle Craft Farms I located in Gulf Shores, Alabama had an aggregate total cost of $79.7 million. All three of the completed retail assets were sold during 2007 (see Note 6).
During 2007, the Company completed the construction of Regatta at James Island, a 212-unit condominium development located in Charleston, South Carolina. Total project cost for this for-sale residential development was approximately $25.7 million. The Company also completed the development of Southgate on Fairview (formerly Colonial Traditions at South Park), a 47-unit condominium project located in Charlotte, North Carolina. Total project cost for this for-sale residential development was approximately $16.4 million.
During 2006, the Company completed the construction of a multifamily development, adding 238 apartment homes to the portfolio. This development, located in Austin, Texas, had a total cost of $24.1 million. Additionally, the Company completed the construction of Colonial Pinnacle Tutwiler Farm, located in Birmingham, Alabama, and Colonial Pinnacle Turkey Creek, in which the Company owns a 50% interest, located in Knoxville, Tennessee. These assets had a total cost of $72.5 million. Colonial Pinnacle Tutwiler Farm was sold during the fourth quarter of 2006.
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The Company’s ongoing development projects and parcels of land available for expansion and construction are in various stages of the development cycle. Undeveloped land and construction in progress is comprised of the following at December 31, 2007:
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(1)
Square footage for the retail assets excludes anchor-owned square-footage.
(2)
Enclave, formerly a for-sale residential project, is now being developed as a multifamily apartment community.
(3)
During the three months ended September 30, 2007, the Company recorded a $43.3 million non-cash impairment charge ($26.8 million net of income tax) associated with these projects as a result of the deterioration in the single family housing market. Estimated Total Costs and Capitalized Costs to Date are net of the $43.3 million impairment charge.
(4)
These projects are part of mixed-use developments.
(5)
Estimated Total Costs and Costs Capitalized to Date are net of $17.2 million, which represents the portion of the development placed into service during 2007. Total square feet is net of 261,000 square feet which represents the portion of the project placed into service during 2007.
(6)
This project will include the sale of undeveloped parcels.
(7)
Estimated Total Costs and Costs Capitalized to Date are net of $0.7 million, which represents portion of units/lots sold during 2007.
Interest capitalized on construction in progress during 2007, 2006 and 2005 was $27.1 million, $17.1 million and $9.6 million, respectively.
9.
Investment in Partially-Owned Entities and Other Arrangements
Investments in Consolidated Partially-Owned Entities
During July 2007, the Company disposed of its 90% interest in Village on the Parkway, a 380,500 square foot retail asset located in Dallas, Texas. The Company sold the property for approximately $74.4 million and recognized a gain of approximately $15.7 million from the sale. The Company recorded minority interest of approximately $4.1 million on this sale. The proceeds from the sale were used to fund developments and for other general corporate purposes.
During March 2006, the Company disposed of its majority interest in Colonnade Properties, LLC for approximately $2.5 million. There was no gain or loss recognized on the disposition. At December 31, 2006, the Company had a $3.1 million outstanding note receivable from Colonnade Properties, LLC, which was repaid during 2007.
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Investments in Unconsolidated Partially-Owned Entities
Investments in unconsolidated partially-owned entities at December 31, 2007 and 2006 consisted of the following:
Investment in Partially Owned Entities
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(1)
Carter Regents Park includes a $1.2 million non-cash impairment charge that was recorded during the year ended December 31, 2007. This impairment is included in Impairment in the Company’s Consolidated Statements of Income and Comprehensive Income.
(2)
The CMS/Colonial Joint Venture II holds one property in which the Company has a 15% partnership interest. The Company sold its 5% partnership interest in the other property in May 2007.
(3)
The Company sold its interest in Colonial Grand at Bayshore during January 2007.
(4)
The Company sold its interest in Colonial Village at Hendersonville during September 2007.
(5)
The DRA Southwest Partnership, comprised of 15 multifamily properties totaling 3,957 units, sold the properties held in the joint venture on December 21, 2006.
(6)
The Company sold its interest in Heritage at Deerwood during March 2007.
(7)
The Company acquired the remaining 65% interest in Merritt at Godley Station during May 2007.
(8)
As of December 31, 2007, the DRA/CRT JV included 18 properties located in Ft. Lauderdale, Jacksonville and Orlando, Florida; Atlanta, Georgia; Rockville, Maryland; Charlotte, North Carolina; Memphis, Tennessee and Houston, Texas. The Company sold its interest in Saint Petersburg Centre and Las Olas Centre during 2007.
(9)
As of December 31, 2007, the DRA/CLP JV included 16 office properties and two retail properties located in Birmingham, Alabama; Orlando and Tampa, Florida; Atlanta, Georgia; Charlotte, North Carolina and Austin, Texas. Amount includes the value of the Company’s investment of approximately $29.2 million, offset by the excess basis difference on the transaction of approximately $35.8 million, which is being amortized over the life of the properties.
(10)
In November 2007, the Company and its partner DRA disposed of their interest in nine office properties totaling 1.7 million square feet located in Huntsville, Alabama, that were originally acquired from the Company in June 2007 in connection with the office joint venture transaction. As part of the transaction, the Company acquired a 40% interest (of which 30% is held by CPSI) in three separate TIC investments of the same nine office properties for a total acquisition price of $88.7 million, which included the issuance of $43.0 million of third-party secured financing and $30.4 million of ground lease financing. The value of the Company’s investment is offset by the excess basis difference on the transaction of approximately $12.0 million, which is being amortized over the life of the properties. The Company continues to manage the nine properties and intends to sell CPSI’s 30% ownership position in each of these TIC investments to approximately 10% over the next 12 months through offerings sponsored by Bluerock Real Estate, LLC to unrelated TIC investors and to retain CRLP’s 10% ownership interest..
(11)
Amount includes the value of the Company’s investment of approximately $4.4 million, offset by the excess basis difference on the transaction of approximately $9.4 million, which is being amortized over the life of the properties.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(12)
As of December 31, 2007, the OZRE JV included 11 retail properties located in Birmingham, Alabama; Jacksonville, Orlando, Punta Gorda and Tampa, Florida; Athens, Georgia and Houston, Texas. Amount includes the value of the Company’s investment of approximately $11.1 million, offset by the excess basis difference on the transaction of approximately $17.3 million, which is being amortized over the life of the properties.
During January 2007, the Company sold its 25% ownership interest in Colonial Grand at Bayshore, a 376-unit multifamily apartment community located in Sarasota, Florida, for $15.0 million. The proceeds were used to repay a collateralized mortgage loan and a portion of the borrowings under the Company’s unsecured credit facility.
During February 2007, the Company acquired a 15% interest in Fairmont at Fossil Creek, a 240-unit multifamily apartment community located in Fort Worth, Texas. The Company’s investment in the partnership was approximately $3.2 million, which consisted of $2.6 million of newly issued mortgage debt and $0.6 million of cash. The cash portion of this investment was funded from borrowings under the Company’s unsecured credit facility.
During February 2007, the DRA/CRT JV sold St. Petersburg Center, a 675,000 square foot office asset located in Tampa, Florida. The asset was sold for $14.0 million, which represents the Company’s 15% interest in the sales proceeds. The Company used the proceeds from the sale to repay a collateralized mortgage loan.
During February 2007, the Company acquired a 15% interest in Auberry at Twin Creeks, a 216-unit multifamily apartment community located in Dallas, Texas. The Company’s investment in the partnership was approximately $3.1 million, which consisted of $2.6 million of newly issued mortgage debt and $0.5 million of cash. The cash portion of this investment was funded from borrowings under the Company’s unsecured credit facility.
During February 2007, the Company entered into a joint venture agreement with a 65% partner to complete the development of Colonial Grand at Traditions, a 324-unit multifamily project located in Gulf Shores, Alabama. The Company will act as the general contractor for this project and will earn development / general contractor fees which will be recognized as earned according to the terms of the construction and development agreement. The Company’s initial investment in this joint venture was $3.0 million in cash and the Company has guaranteed up to $3.5 million of the construction loan that the joint venture will use to complete the project. In addition, if this property is ultimately sold to a third party, the Company will receive distributions of 50% of the gains upon the sale of the property.
During May 2007, the Company acquired a 20% interest in Colonial Village at Cary, a 319-unit multifamily apartment community located in Raleigh, North Carolina. The Company’s investment in the partnership was approximately $6.0 million, which consisted of $4.3 million of newly issued mortgage debt and $1.7 million of cash. The cash portion of this investment was funded from borrowings under the Company’s unsecured credit facility.
During May 2007, the Company acquired the remaining 65% interest in Merritt at Godley Station from our joint venture partner. The Company’s additional investment in the property was approximately $20.9 million, which consisted of the assumption of $12.3 million of existing mortgage debt and $8.6 million of cash. The cash portion of this investment was funded by proceeds from asset sales and borrowings under the Company’s unsecured credit facility.
During June 2007, the Company completed its office joint venture transaction with DRA. The Company sold to DRA its 69.8% interest in the newly formed joint venture that became the owner of 24 office properties and two retail properties that were previously wholly-owned by CRLP. The Company, through CRLP retained a 15% minority interest in the DRA/CLP JV, as well as the management and leasing responsibilities for the 26 properties owned by the DRA/CLP JV. As of December 31, 2007, DRA owned approximately 72.4%, a subsidiary of CRLP owned 15% and certain limited partners of CRLP own the remaining approximate 12.6% of the DRA/CLP JV interests (see Note 2).
During June 2007, the Company completed its retail joint venture transaction with OZRE. The Company sold to OZRE its 69.8% interest in the newly formed joint venture that became the owner of 11 retail properties that were previously wholly-owned by CRLP. The Company, through CRLP retained a 15% minority interest in the
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OZRE JV as well as the management and leasing responsibilities for the 11 properties owned by the OZRE JV. As of December 31, 2007, OZRE owned approximately 72.5%, a subsidiary of CRLP owned 15% and certain limited partners of CRLP own the remaining approximate 12.5% of the OZRE JV interests (see Note 2).
During July 2007, the Company sold 85% of its interest in Colonial Pinnacle Craft Farms I to a joint venture partner. The retail asset includes 243,000 square feet, excluding anchor-owned square footage, and is located in Gulf Shores, Alabama (see Note 6).
During July 2007, the DRA/CRT JV disposed of Las Olas Centre, a 469,200 square foot office asset located in Fort Lauderdale, Florida. The Company sold its 15% interest in the property for approximately $34.6 million and recognized a gain of approximately $6.6 million from the sale. The proceeds from the sale were used to repay the associated mortgage on the asset and to fund investment activity.
During September 2007, the CMS-Tennessee joint venture disposed of Colonial Village at Hendersonville, a 364-unit multifamily apartment community located in Nashville, Tennessee. The Company sold its 25% interest in the property for approximately $6.8 million and recognized a gain of approximately $1.7 million from the sale. The proceeds from the sale were used to fund ongoing developments and for other general corporate purposes.
During November 2007, the DRA/CLP JV disposed of nine office properties containing 1.7 million square feet located in Huntsville, Alabama for net proceeds of approximately $209 million (the Company’s 15% interest in these assets totaled approximately $31.4 million). As part of the transaction, the Company acquired a 40% interest (of which 30% is held by CPSI) in three separate tenancy in common (“TIC”) investments of the same nine office properties for a total acquisition price of $88.7 million, which included the issuance of $43.0 million of third-party financing and $30.4 million of ground lease financing. The Company continues to manage the nine properties and intends to sell CPSI’s 30% ownership in each of these TIC investments during 2008 through offerings sponsored by Bluerock Real Estate, LLC (the 60% partner) to unrelated TIC investors and to retain CRLP’s 10% ownership interest.
During December 2007, the Company sold 95% of its interest in Colonial Promenade Alabaster II and two build-to-suit outparcels at Colonial Pinnacle Tutwiler II to a joint venture partner. The retail developments are located in Birmingham, Alabama (see Note 6).
During December 2007, the Company entered into a 50% / 50% joint venture agreement for the development of Turkey Creek Phase III, a 170,000 square foot development located in Knoxville, Tennessee. The Company’s initial investment in this joint venture to acquire the land was approximately $6.0 million. The development of this property will be funded with a construction loan obtained by the joint venture.
During December 2007, the Company entered into a 20% joint venture with McDowell Properties to develop Colonial Grand at Lake Forest, a 529-unit multifamily apartment community located in Dallas, Texas. The Company will act as the general contractor for this project and will earn development / general contractor fees, which will be recognized as earned according to the terms of the construction and development agreement. The Company’s initial equity investment was approximately $1.3 million. The total cost of the development is expected to be approximately $62 million and will be funded primarily through a construction loan.
During January 2006, the Company acquired a 20% partnership interest in Colonial Grand at Huntcliff, a 358-unit multifamily apartment community located in Atlanta, Georgia. The Company’s 20% investment in the partnership was $8.0 million, which consisted of $5.2 million of newly issued mortgage debt and $2.8 million of cash. The cash portion of this investment was funded from borrowings under the Company’s unsecured credit facility.
During March 2006, the Company acquired a 25% partnership interest in Colonial Village at Matthews, a 370-unit multifamily apartment community located in Charlotte, North Carolina. The Company’s 25% investment in the partnership was $4.9 million, which consisted of the assumption of $3.7 million of newly issued mortgage debt and $1.2 million of cash. The cash portion of this investment was funded from borrowings under the Company’s unsecured credit facility.
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During March 2006, the Company entered into a joint venture agreement with a 75% partner for the completion of the Canyon Creek multifamily development project, including the ultimate sale of this property to a third party. The Company will act as the general contractor for this project and will earn development / general contractor fees, which will be recognized as earned according to the terms of the construction and development agreement. The Company’s initial investment in this joint venture was $1.5 million in cash and the Company has guaranteed up to $4.0 million of the construction loan that the joint venture will use to complete the project. In addition, the Company will receive distributions of 50% of the gains upon the sale of the property.
During March 2006, the Company completed the sale of a 90% interest in four shopping centers valued in the transaction at approximately $127.3 million to a joint venture partner. The Company maintained a 10% interest in the properties, and the responsibility of leasing and managing the assets in the joint venture which represent 0.7 million square feet of retail shopping space. The shopping centers include Colonial Promenade Boulevard Square in Pembroke Pines, Florida; Colonial Shoppes Pines Plaza in Pembroke Pines, Florida; Colonial Shoppes College Parkway in Fort Myers, Florida; and Colonial Promenade Deerfield in Deerfield Beach, Florida. As a part of the sale, the Company’s joint venture partner assumed 90% of the outstanding collateralized debt of $74.7 million. The proceeds from the sale were used to repay a portion of the borrowings under the Company’s unsecured credit facility.
During March 2006, the Company sold its 15% interest in four multifamily assets including Colonial Grand at Barrington, a 176-unit apartment community located in Macon, Georgia; Colonial Grand at Inverness Lakes, a 312-unit apartment community located in Mobile, Alabama; Colonial Village at Hillwood, a 160-unit apartment community located in Montgomery, Alabama; and Colonial Village at Stockbridge, a 240-unit apartment community located in Atlanta, Georgia. The Company’s interest in these assets was sold for a total sales price of $6.0 million and the proceeds were used to repay a portion of the borrowings under the Company’s unsecured credit facility.
During April 2006, the DRA/CRT JV sold two office properties, including Paragon Place, a 145,000 square foot building located in Richmond, Virginia and Cigna Plaza, a 127,000 square foot building located in Dallas, Texas. On June 1, 2006, the DRA/CRT JV sold one office property, Gwinnett Center, a 263,000 square foot building located in Atlanta, Georgia. The Company’s interest in these three assets was sold for a total sales price of approximately $11.2 million. The proceeds were used to repay associated collateralized loans of the joint venture.
During May 2006, the Company sold its 20% interest in Rancho Viejo, a 266-unit multifamily apartment community located in Phoenix, Arizona which was a property in the DRA Southwest Partnership. The Company’s interest in this asset was sold for a total sales price of $3.5 million and the proceeds were used to repay an associated collateralized loan and the remaining proceeds were distributed to the Company and were used to repay a portion of the borrowings under the Company’s unsecured credit facility.
During June 2006, the Company completed a combination joint venture, sale and long-term management and leasing assignment with UBS Wealth Management (UBS) for Colonial Center at Mansell Overlook located in Atlanta, Georgia. Colonial Center at Mansell Overlook consists of four 6-story, Class-A office buildings, five low-rise buildings and two street-front boutique retail shops. The suburban office park is 98% leased and totals approximately 877,000 square feet with three sites available for future office and retail development. The Company will retain a 15% interest in the joint venture arrangement with UBS for the four 6-story, Class-A office buildings, two retail centers and three development parcels. UBS will assume 100% ownership of the five low-rise buildings. The Company will maintain operational management and leasing of the office assets through a long-term management and leasing contract. Net proceeds to the Company totaled approximately $140.6 million, of which $16.5 million was used to pay off a collateralized loan, $74.7 million was reinvested in additional property acquisitions and the remaining $51.2 million was used to reduce the Company’s outstanding unsecured credit facility.
During July 2006, the DRA/CRT JV sold Charlotte Vanguard, a 527,500 square foot office asset located in Charlotte, North Carolina. During September 2006, the DRA/CRT JV sold Tallahassee Center, an 836,400 square foot office asset located in Tallahassee, Florida. The Company’s interest in these two assets was sold for a total sales
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price of approximately $23.6 million. The proceeds were used to repay associated collateralized loans of the joint venture.
During September 2006, the Company purchased a 10% interest in Belterra, a 288-unit multifamily apartment community located in Fort Worth, Texas. The Company’s 10% investment in the partnership was $2.7 million, which consisted of $2.0 million of newly issued mortgage debt and $0.7 million of cash. The cash portion of this investment was funded from borrowings under the Company’s unsecured credit facility.
During November 2006, the Company purchased a 10% interest in Park Crossing, a 200-unit multifamily apartment community located in Fairfield, California. The Company’s investment in the partnership was approximately $3.4 million, which consisted of $2.6 million of newly issued mortgage debt and $0.8 million of cash. The cash portion of this investment was funded from borrowings under the Company’s unsecured credit facility.
During December 2006, the Company sold 15 multifamily assets in which it had an approximate 23% interest through DRA Southwest Partnership. The total sales price was approximately $468.0 million and Colonial Properties’ portion of the sales price was approximately $108.0 million. Proceeds from the sale were used to pay off the Company’s portion of the existing mortgage debt of $53.6 million associated with these properties and the remaining proceeds of $54.4 million were used to reduce the Company’s unsecured credit facility.
During December 2006, the DRA/CRT JV sold Tollway Crossing, a 152,200 square foot office asset located in Dallas, Texas. The Company’s interest in this asset was sold for a total sales price of approximately $2.9 million. The proceeds were used to repay associated collateralized loans of the joint venture. During December 2006, the Company sold its remaining 10% interest in the Cornfeld/South Florida joint venture for a total sales price of $7.4 million. The proceeds from the sale were used to fund investment activities. The properties sold in the transaction include Colonial Promenade Boulevard Square in Pembroke Pines, Florida; Colonial Shoppes Pines Plaza in Pembroke Pines, Florida; Colonial Shoppes College Parkway in Fort Myers, Florida; and Colonial Promenade Deerfield in Deerfield Beach, Florida, which represent 0.7 million square feet of retail shopping space.
Combined financial information for the Company’s investments in unconsolidated partially-owned entities since the date of the Company’s acquisitions is as follows:
(1)
The Company’s pro rata portion of indebtedness, as calculated based on ownership percentage, at December 31, 2007 and 2006 was $544.2 million and $367.2 million, respectively.
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The following table summarizes balance sheet financial data of significant unconsolidated partially-owned entities in which the Company had ownership interests as of December 31, 2007 and 2006 (dollar amounts in thousands):
The following table summarizes income statement financial data of significant unconsolidated partially-owned entities in which the Company had ownership interests for the year ended December 31, 2007 and 2006 (dollar amounts in thousands):
(1)
Includes amortization of excess basis differences and management fee eliminations.
10.
Segment Information
The Company manages its business based on the performance of four operating portfolios: multifamily, office, retail and for-sale residential. As a result of the impairment charge recorded during 2007 related to the Company’s for-sale residential projects, the Company’s for-sale residential operating portfolio met the quantitative threshold to be considered a reportable segment. The results of operations and assets of the for-sale residential portfolio were previously included in other income (expense) and in unallocated corporate assets, respectively, due to the insignificance of this operating portfolio in prior periods. Each portfolio has a separate management team that is responsible for acquiring, developing, managing and leasing properties within such portfolio. The pro-rata portion of the revenues, net operating income (“NOI”), and assets of the partially-owned unconsolidated entities that the Company has entered into are included in the applicable portfolio information. Additionally, the revenues and NOI of properties sold that are classified as discontinued operations are also included in the applicable portfolio information. In reconciling the portfolio information presented below to total revenues, income from continuing operations, and total assets, investments in partially-owned unconsolidated entities are eliminated as equity investments and their related activity are reflected in the consolidated financial statements as investments accounted for under the equity method, and discontinued operations are reported separately. Management evaluates the performance of its multifamily, office and retail portfolios and allocates resources to them based on portfolio NOI. Portfolio NOI is defined as total property revenues, including unconsolidated partnerships and joint ventures, less total property operating expenses (such items as repairs and maintenance, payroll, utilities, property taxes, insurance and advertising). Management evaluates the performance of its for-sale residential business based on net gains / losses. Presented below is portfolio information, for the multifamily, office and retail portfolios, including the reconciliation of total portfolio revenues to total revenues and total portfolio NOI to income from continuing operations for the years ended December 31, 2007, 2006 and 2005, and total portfolio assets to total assets as of December 31, 2007
COLONIAL PROPERTIES TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
and December 31, 2006. Additionally, the Company’s net gains / losses on for-sale residential projects for the years ended December 31, 2007, 2006 and 2005 are presented below:
COLONIAL PROPERTIES TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(1)
Of the $3.0 million impairment charge presented in discontinued operations, $2.5 million is related to a retail asset sold during the third quarter of 2007, and $0.45 million is a result of fire damage sustained during the third quarter of 2007 at a multifamily apartment community, which was classified as Held for Sale on the Company’s Consolidated Balance Sheet at December 31, 2007.
(2)
Of the $43.7 million impairment charge presented in continuing operations, $43.3 million is a non-cash impairment charge ($26.8 million net of income tax) recorded during the third quarter of 2007 related to the Company’s for-sale residential business as a result of the deterioration in the single family housing market and dislocation in the mortgage markets, and $0.35 million is a result of fire damage sustained during the third quarter of 2007 at a multifamily apartment community.
(3)
For-sale residential activities including net gain on sales and income tax expense (benefit) are included in other income. (See table below for additional details on for-sale residential activities and also Note 6 related to for-sale activities).
(4)
Includes the Company’s investment in partially-owned entities of $69,682 and $92,892 as of December 31, 2007 and 2006, respectively.
For-Sale Residential
11.
Notes and Mortgages Payable
Notes and mortgages payable at December 31, 2007 and 2006 consist of the following:
As of December 31, 2007, CRLP, with Colonial Properties as guarantor, has a $500.0 million unsecured revolving credit facility (the “Credit Facility”) with Wachovia Bank, National Association (“Wachovia”), as Agent for the lenders, Bank of America, N.A. as Syndication Agent, Wells Fargo Bank, National Association, Citicorp North America, Inc. and Regions Bank, as Co-Documentation Agents, and U.S. Bank National Association and PNC Bank, National Association (“PNC Bank”), as Co-Senior Managing Agents and other lenders named therein. During June 2007, the Company, through CRLP, amended the Credit Facility and repaid its outstanding $100 million
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
unsecured term loan. The amended Credit Facility has a maturity date of June 2012. In addition, the Company has a $40.0 million cash management line provided by Wachovia. Any amounts outstanding under the cash management line mature on March 22, 2008.
Base rate loans and revolving loans are available under the Credit Facility. The Credit Facility also includes a competitive bid feature that allows the Company to convert up to $250.0 million under the Credit Facility to a fixed rate and for a fixed term not to exceed 90 days. Generally, base rate loans bear interest at Wachovia’s designated base rate, plus a base rate margin ranging up to 0.25% based on the Company’s unsecured debt ratings from time to time. Revolving loans bear interest at LIBOR plus a margin ranging from 0.50% to 1.15% based on the Company’s unsecured debt ratings from time to time. Competitive bid loans bear interest at LIBOR plus a margin, as specified by the participating lenders. Term loans are available under the term loan facility and bear interest at LIBOR plus a margin ranging from 0.55% to 1.35% based on the Company’s unsecured debt ratings from time to time.
The Credit Facility is primarily used by the Company to finance property acquisitions and developments and had an outstanding balance at December 31, 2007 of $39.3 million. There was $12.3 million outstanding on the cash management line at December 31, 2007. The interest rate of the Credit Facility, including the competitive bid balance, is 5.47% and 5.64% at December 31, 2007 and 2006, respectively.
During July 2007, the Company repaid its outstanding $175 million 7.0% unsecured senior notes from proceeds received from asset sales.
During July 2007, the DRA/CLP JV increased mortgage indebtedness on the properties it owns from approximately $588.2 million to approximately $742.0 million. The additional proceeds, of approximately $153.8 million, were utilized to payoff partner loans and establish a capital reserve, with the remainder being distributed to the partners on a pro-rata basis. As a result, the Company received a distribution of approximately $18.6 million (see Note 2).
During July 2007, the OZRE JV increased mortgage indebtedness on the properties it owns from approximately $187.2 million to approximately $284.0 million. The additional proceeds, of approximately $96.8 million, were utilized to payoff partner loans and establish a capital reserve, with the remainder being distributed to the partners on a pro-rata basis. As a result, the Company received a distribution of approximately $13.8 million (see Note 2).
During June 2007, the Company repaid $409.0 million of collateralized mortgages associated with 37 multifamily communities with proceeds from asset sales. In conjunction with the repayment, the Company incurred $29.2 million of prepayment penalties. These penalties were offset by $16.7 million of write-offs related to the mark-to-market intangibles on the associated mortgage debt repaid. The weighted average interest rate of the mortgages repaid was 7.0%.
During August 2006, the Company, through CRLP, completed a $275 million senior notes offering of 6.05% unsecured notes due September 1, 2016. Interest on the notes is payable semi-annually on the first day of every September and March, beginning March 1, 2007. The net proceeds of approximately $271.7 million, after discount and issuance costs, were used to reduce a portion of the outstanding balance under the Credit Facility.
During July 2006, the Company repaid its $65.0 million 8.05% unsecured senior notes, which matured on that date. The notes were repaid with borrowings from the Company’s unsecured credit facility.
At December 31, 2007, the Company had $1.6 billion in unsecured indebtedness including balances outstanding on its Credit Facility and certain other notes payable. The remainder of the Company’s notes and mortgages payable are collateralized by the assignment of rents and leases of certain properties and assets with an aggregate net book value of approximately $119.5 million at December 31, 2007.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The aggregate maturities of notes and mortgages payable, including the Company’s Credit Facility at December 31, 2007, were as follows:
Based on borrowing rates available to the Company for notes and mortgages payable with similar terms, the estimated fair value of the Company’s notes and mortgages payable at December 31, 2007 and 2006 was approximately $1.7 billion and $2.4 billion, respectively.
The Credit Facility and certain other loan documents contain various covenants and events of default which could trigger early repayment obligations, including, but not limited to the following: nonpayment, violation or breach of certain covenants; failure to perform certain covenants beyond a cure period; certain financial ratios; and generally not paying the Company’s debts as they become due. At December 31, 2007, the Company was in compliance with these covenants.
12.
Derivative Instruments
SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities, as amended and interpreted, establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities. As required by SFAS No. 133, the Company records all derivatives on the balance sheet at fair value. The accounting for changes in the fair value of derivatives depends on the intended use of the derivative and the resulting designation. Derivatives used to hedge the exposure to changes in the fair value of an asset, liability, or firm commitment attributable to a particular risk, such as interest rate risk, are considered fair value hedges. Derivatives used to hedge the exposure to variability in expected future cash flows, or other types of forecasted transactions, are considered cash flow hedges.
For derivatives designated as fair value hedges, changes in the fair value of the derivative and the hedged item related to the hedged risk are recognized in earnings. For derivatives designated as cash flow hedges, the effective portion of changes in the fair value of the derivative is initially reported in other comprehensive income (outside of earnings) and subsequently reclassified to earnings when the hedged transaction affects earnings, and the ineffective portion of changes in the fair value of the derivative is recognized directly in earnings. The Company assesses the effectiveness of each hedging relationship by comparing the changes in fair value or cash flows of the derivative hedging instrument with the changes in fair value or cash flows of the designated hedged item or transaction. For derivatives not designated as hedges, changes in fair value are recognized in earnings.
The Company’s objective in using derivatives is to add stability to interest expense and to manage its exposure to interest rate movements or other identified risks. To accomplish this objective, the Company primarily uses interest rate swaps (including forward starting interest rate swaps) and caps as part of its cash flow hedging strategy. Interest rate swaps designated as cash flow hedges involve the receipt of variable-rate amounts in exchange for fixed-rate payments over the life of the agreements without exchange of the underlying principal amount. During 2007, such derivatives were used to hedge the variable cash flows associated with existing variable-rate debt and forecasted issuances of debt. As of December 31, 2007, the Company had no outstanding interest rate swap agreements.
At December 31, 2007, there were no derivatives included in other assets. At December 31, 2006, derivatives with a fair value of $0.7 million were included in other assets. The change in net unrealized gains/(losses) of ($0.5) million in 2007, $3.0 million in 2006 and $1.6 million in 2005 for derivatives designated as cash flow hedges
COLONIAL PROPERTIES TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
is separately disclosed in the statements of changes in shareholders’ equity and comprehensive income. At December 31, 2007, there were no derivatives that were not designated as hedges. The change in fair value of derivatives not designated as hedges of $2.7 million and ($0.1) million is included in other income (expense) in 2006 and 2005, respectively. There was no hedge ineffectiveness during 2007. Hedge ineffectiveness of ($0.1) million and $1.1 million on cash flow hedges due to index mismatches was recognized in other income during 2006 and 2005, respectively. As of December 31, 2007, all of the Company’s hedges are designated as cash flow hedges under SFAS No. 133.
Amounts reported in accumulated other comprehensive income related to derivatives will be reclassified to interest expense as interest payments are made on the Company’s hedged debt. The changes in accumulated other comprehensive income for such reclassifications to interest expense was $0.6 million, $0.5 million and $0.5 million during 2007, 2006 and 2005, respectively. The Company estimates a net impact to interest expense of approximately $0.6 million for amounts that will be reclassified from accumulated other comprehensive income in 2008.
During May 2007, the Company settled a $100.0 million interest rate swap and received a payment of approximately $0.6 million. This interest rate swap was in place to convert a portion of the floating rate payments on the Company’s Credit Facility to a fixed rate. This derivative originally qualified for hedge accounting under SFAS No. 133. However, in May of 2007, due to the Company’s then-pending joint venture transactions (see Note 2) and the expected resulting pay down of the Company’s term loan and Credit Facility, this derivative no longer qualified for hedge accounting which resulted in a gain of approximately $0.4 million.
During February 2006, the Company settled a $200.0 million forward starting interest rate swap and received a payment of approximately $4.3 million. This forward starting interest rate swap was in place to convert the floating rate payments on certain expected future debt obligations to a fixed rate. This derivative originally qualified for hedge accounting under SFAS No. 133. However, in December of 2005 as a result of a modification to the forecasted transaction, this derivative no longer qualified for hedge accounting. As a result, the Company began treating this derivative as an economic hedge during 2005. Changes in the fair value of this derivative were recognized in earnings in other income (expense) and totaled approximately $2.7 million for the period of time the derivative was active during 2006. The fair value of this derivative at the time it no longer qualified for hedge accounting was approximately $1.5 million, which will remain in accumulated other comprehensive income and be reclassified to interest expense over the applicable period of the associated debt, which is approximately nine years at December 31, 2007.
During June of 2006, the Company entered into a forward starting interest rate swap agreement to hedge the interest rate risk associated with a forecasted debt issuance that occurred on August 28, 2006. This interest rate swap agreement had a notional amount of $200 million, a fixed interest rate of 5.689%, and a maturity date of November 15, 2016. This interest rate swap agreement was settled concurrent with the Company’s issuance of $275 million of debt in the senior notes offering completed August 28, 2006 (see Note 11). The settlement resulted in a settlement payment of approximately $5.2 million by the Company. This amount will remain in other comprehensive income and be reclassified to interest expense over the remaining term of the associated debt, which is approximately nine years at December 31, 2007. On August 15, 2006, the Company also entered into a $75 million treasury lock agreement to hedge the interest rate risk associated with the remaining $75 million of senior notes issued on August 28, 2006. This treasury lock agreement was settled on August 28, 2006 for a settlement payment of approximately $0.1 million which will also remain in other comprehensive income and be reclassified to interest expense over the remaining life of the associated debt.
During November of 2006, the Company settled a $175.0 million forward starting interest rate swap and received a payment of approximately $2.9 million. This forward starting interest rate swap was in place to convert the floating rate payments on certain expected future debt obligations to a fixed rate. In November of 2006, the Company settled this forward starting swap agreement as a result of its determination that the forecasted debt issuance was no longer probable due to the Company’s strategic shift (see Note 2). In December 2006, the Company made the determination that it was probable that the forecasted debt issuance would not occur. As a result, the Company reversed the $2.9 million in other comprehensive income to other income during December of 2006.
COLONIAL PROPERTIES TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Further, the Company has a policy of only entering into contracts with major financial institutions based upon their credit ratings and other factors. When viewed in conjunction with the underlying and offsetting exposure that the derivatives are designed to hedge, the Company has not sustained a material loss from those instruments nor does it anticipate any material adverse effect on its net income or financial position in the future from the use of derivatives.
13.
Capital Structure
Company ownership is maintained through common shares of beneficial interest (the “common shares”), preferred shares of beneficial interest (the “preferred shares”) and minority interest in CRLP (the “units”). Common shareholders represent public equity owners and common unitholders represent minority interest owners. Each unit may be redeemed for either one common share or, at the option of the Company, cash equal to the fair market value of a common share at the time of redemption. When a common unitholder redeems a unit for a common share or cash, minority interest is reduced. In addition, the Company has acquired properties since its formation by issuing distribution paying and non-distribution paying units. The non-distribution paying units convert to distribution paying units at various dates subsequent to their original issuance. At December 31, 2007 and 2006, 10,052,778 and 10,579,261 units were outstanding, respectively, all of which were distribution paying units.
In February 1999, through CRLP, the Company issued 2.0 million units of $50 par value 8.875% Series B Cumulative Redeemable Perpetual Preferred Units (the “Preferred Units”), valued at $100.0 million in a private placement, net of offering costs of $2.6 million. On February 18, 2004, CRLP modified the terms of the $100.0 million 8.875% Preferred Units. Under the modified terms, the Preferred Units bear a distribution rate of 7.25% and are redeemable at the option of CRLP, in whole or in part, after February 24, 2009, at the cost of the original capital contribution plus the cumulative priority return, whether or not declared. The terms of the Preferred Units were further modified on March 14, 2005 to extend the redemption date from February 24, 2009 to August 24, 2009. The Preferred Units are exchangeable for 7.25% Series B Preferred Shares of the Company, in whole or in part at anytime on or after January 1, 2014, at the option of the holders.
In 1998, the Company’s Board of Trustees approved a Shareholder Rights Plan (the “Rights Plan”). Under this plan, the Board declared a dividend of one Right for each common share outstanding on the record date. The Rights become exercisable only if an individual or group acquires a 15% or more beneficial ownership in the Company. Ten days after a public announcement that an individual or group has become the beneficial owner of 15% or more of the common shares, each holder of a Right, other than the acquiring individual or group, would be entitled to purchase one common share for each Right outstanding at one-half of the Company’s current market price. Also, if the Company is acquired in a merger, or if 50% or more of the Company’s assets are sold in one or more related transactions, each Right would entitle the holder thereof to purchase common shares of the acquiring company at one-half of the then-current market price of the acquiring company’s common shares.
In August 2005, the Company and Computershare Trust Company, N.A., as successor to BankBoston, N.A., as Rights Agent entered into a First Amendment to Rights Agreement (the “Amendment”), to amend that certain Rights Agreement, dated as of November 2, 1998 between the Company and the Rights Agent (the “Rights Agreement”). The Amendment, among other things: (i) changes the ownership threshold trigger from 15% to 20%; (ii) adds a TIDE (Three-Year Independent Director Evaluation) provision that requires the independent members of the Board of Trustees review the Rights Agreement, at least once every three years, to determine whether it should be continued or revoked; and (iii) adds a provision requiring the Board of Trustees to submit the Rights Agreement to the shareholders of the Company for ratification on or prior to December 31, 2008 if the Rights Agreement has not terminated on or prior to November 1, 2008 and providing for termination of the Agreement on December 31, 2008 if the Rights Agreement is not ratified by the shareholders on or prior to December 31, 2008.
14.
Equity Offerings
In April 2007, the Company’s Board of Trustees authorized the redemption of, and in May 2007 the Company redeemed all of its remaining outstanding 4,190,414 Series E Depositary Shares for a total cost of $104.8 million. In
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
connection with this redemption, the Company wrote off $0.3 million of associated issuance costs. The redemption price was $25.00 per Series E Depositary Share plus accrued and unpaid dividends for the period from April 1, 2007 through and including the redemption date, for an aggregate redemption price per Series E Depositary Share of $25.3175. Each Depositary Share represented 1/100 of a 7.62% Series E Cumulative Redeemable Preferred Share of the Company.
In June 2007, in connection with the office and retail joint venture transactions, all limited partners of CRLP were distributed units in the DRA/CLP JV and the OZRE JV based on 85% of their ownership interest in CRLP. The Company recorded this distribution at book value, which reduced common unit equity by approximately $41.0 million during 2007 (see Note 2).
In September 2005, the Company issued 4,500,000 of its common shares at $43.75 per share, or an aggregate offering price of approximately $196.9 million, in a public offering in which Merrill Lynch & Co. and Wachovia Securities acted as joint book-running managers. The Company contributed the proceeds of this offering to CRLP in exchange for 4,500,000 common units of limited partnership interest. Net proceeds to the Company totaled $187.3 million after payment of underwriting fees and issuance costs. The Company used approximately $145.5 million of the net proceeds to repay the outstanding balance on its bridge loans (see Note 11), and used the remaining proceeds (which were temporarily used to pay down the outstanding balances under the Credit Facilities), together with additional borrowings under the Company’s Credit Facilities, to fund its $49.0 million equity investment in its joint venture with DRA/CRT JV.
In April 2005, in connection with the Cornerstone acquisition (see Note 4), the Company issued 5,326,349 Series E Cumulative Redeemable Preferred Shares of Beneficial Interest. The depositary shares may be called by the Company at any time and have a liquidation preference of $25.00 per depositary share. Each Colonial Series E preferred depositary share will represent 1/100th of a newly created 7.62% Series E Cumulative Redeemable Preferred Share of Beneficial Interest, liquidation preference $2,500 per share, of Colonial. In February 2006, the Company announced the Board of Trustees’ authorization of the repurchase of up to $65 million of the Company’s Series E Depositary Shares, each representing 1/100 of a share of its 7.62% Series E Cumulative Redeemable Preferred Shares. This repurchase program was effective immediately and extended through January 27, 2007. Under the repurchase program, the Company was authorized to make purchases in the open market or in privately negotiated transactions from time to time, subject to market conditions, applicable legal requirements and other factors. The repurchase program does not obligate the Company to repurchase any specific number of shares, and repurchases pursuant to the program may be suspended or resumed at any time or from time to time without further notice or announcement. During the year ended December 31, 2006, the Company repurchased 1,135,935 million Series E Depositary Shares for a total cost of approximately $28.5 million. The Company wrote off approximately $0.3 million of issuance costs associated with this redemption, in accordance with the SEC’s clarification of EITF Abstracts, Topic No. D-42, The Effect on the Calculation of Earnings per Share for the Redemption or Induced Conversion of Preferred Stock.
In April 2003, the Company issued $125.0 million or 5,000,000 depositary shares, each representing 1/10 of a share of 8.125% Series D Cumulative Redeemable Preferred Shares of Beneficial Interest. The depositary shares may be called by the Company on or after April 30, 2008 and have a liquidation preference of $25.00 per depositary share. The depositary shares have no stated maturity, sinking fund or mandatory redemption and are not convertible into any other securities of the Company.
In June 2001, the Company issued 2,000,000 preferred shares of beneficial interest (Series C Preferred Shares). The Series C Preferred Shares pay a quarterly dividend at 9.25% per annum and may be called by the Company on or after June 19, 2006. The Series C Preferred Shares have no stated maturity, sinking fund or mandatory redemption and are not convertible into any other securities of the Company. The Series C Preferred Shares have a liquidation preference of $25.00 per share. The net proceeds of the offering were approximately $48.1 million and were used to repay outstanding balances under the Credit Facility. In April 2006, the Board of Trustees authorized the redemption of the Company’s 9.25% Series C Cumulative Redeemable Preferred Shares. The redemption of approximately
COLONIAL PROPERTIES TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
$50.0 million occurred on June 30, 2006. The Company wrote off approximately $1.9 million of issuance costs associated with this redemption.
15.
Share-based Compensation
Effective January 1, 2006, the Company accounts for share-based compensation using the fair value method prescribed in SFAS No. 123(R) (see Note 3). For share-based compensation granted from January 1, 2003 to December 31, 2005, the Company accounted for share-based compensation under the fair value method prescribed by SFAS No. 123. Other than the required modification under SFAS No. 123(R) to use an estimated forfeiture rate for award terminations and forfeitures, and the provisions related to retirement eligible employees, the adoption of SFAS No. 123(R) did not have an impact on the Company’s accounting for share-based compensation. In prior years, the Company used a policy of recognizing the effect of award forfeitures as they occurred. Under SFAS No. 123(R), such award forfeitures are recognized based on an estimate of the number of awards expected to be forfeited during the estimated service period. The cumulative impact of this modification on awards granted prior to January 1, 2006 was $0.2 million and was reflected as a reduction of compensation expense in the year ended December 31, 2006.
Incentive Share Plans
The Company has in place a Third Amended and Restated Employee Share Option and Restricted Share Plan (the “Employee Plan”) designed to attract, retain, and motivate executive officers of the Company and other key employees. The Employee Plan authorizes the issuance of up to approximately 5,700,000 common shares (as increased from time to time to equal 10% of the number of common shares and Operating Partnership units outstanding) pursuant to options or restricted shares granted or issued under this plan, provided that no more than 750,000 restricted shares may be issued. In connection with the grant of options under the Employee Plan, the Executive Compensation Committee of the Board of Trustees determines the option exercise period and any vesting requirements. All options granted to date have a term of ten years and may be exercised in equal installments based on a one or five year vesting schedule. The value of outstanding restricted shares is being charged to compensation expense based on a one to five year vesting schedule.
In April 1997, the Company also adopted a Non-Employee Trustee Share Plan (the “Trustee Plan”). The Trustee Plan permits non-employee trustees of the Company to elect to receive common shares in lieu of all or a portion of their annual trustee retainers, board meeting fees and committee meeting fees. The Trustee Plan authorizes the issuance of 50,000 common shares under the Plan.
Compensation costs for share options have been valued on the grant date using the Black-Scholes option-pricing method. The weighted average assumptions used in the Black-Scholes option pricing model were as follows:
The expected dividend yield reflects the Company’s current historical yield, which is expected to approximate the future yield. Expected volatility was based on the historical volatility of the Company’s common shares. The risk-free interest rate for the expected life of the options was based on the implied yields on the U.S Treasury yield curve. The weighted average expected option term was based on the Company’s historical data for prior period share option exercises and forfeiture activity.
During the year ended December 31, 2007, the Company granted share options to purchase 116,242 common shares to Company employees and trustees. For the years ended December 31, 2007, 2006 and 2005, the Company recognized compensation expense related to share options of $0.7 million, $0.8 million and $0.4 million,
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
respectively. Upon the exercise of share options, the Company issues common shares from authorized but unissued common shares.
The following table presents a summary of share option activity under all plans for the year ended December 31, 2007:
(1)
In connection with the special distribution paid by the Company related to the recapitalization during 2007 (see Note 2), the exercise price of all of the Company’s then outstanding options has been reduced by $10.63 per share for all periods presented as required under the terms of the Company’s option plans.
The weighted average grant date fair value of options granted in 2007, 2006 and 2005 was $5.13, $5.70 and $3.71, respectively. The total intrinsic value of options exercised during 2007, 2006 and 2005 was $2.9 million, $4.1 million and $1.2 million, respectively.
As of December 31, 2007, the Company had approximately 1.6 million share options outstanding with a weighted average exercise price of $24.65, a weighted average remaining contractual life of 4.7 years, and an aggregate intrinsic value of $2.9 million. The total number of exercisable options at December 31, 2007 was approximately 1.3 million. As of December 31, 2007, the weighted average exercise price of exercisable options was $22.83 and the weighted average remaining contractual life was 3.9 years for these exercisable options. The intrinsic value for these exercisable options at December 31, 2007 was $2.9 million. At December 31, 2007, there was $0.8 million of unrecognized compensation cost related to unvested share options, which is expected to be recognized over a weighted average period of 1.0 year.
The following table presents the change in deferred compensation related to restricted share awards:
The following table presents the change in nonvested restricted share awards:
The weighted average grant date fair value of restricted share awards for 2007, 2006 and 2005 was $40.44, $46.39 and $36.95, respectively. For the years ended December 31, 2007, 2006 and 2005, the Company recognized compensation expense related to restricted share awards of $3.9 million, $3.0 million and $1.9 million, respectively. For the years ended December 31, 2007, 2006 and 2005, the Company capitalized $5.4 million, $0.9 million and
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
$0.7 million, respectively, for restricted share awards granted in connection with certain real estate developments. The total intrinsic value for restricted share awards that vested during 2007, 2006 and 2005 was $3.2 million, $3.2 million and $1.3 million, respectively. At December 31, 2007, the unrecognized compensation cost related to nonvested restricted share awards is $8.3 million, which is expected to be recognized over a weighted average period of 2.3 years.
Adoption of Incentive Program
On April 26, 2006, the Executive Compensation Committee of the Board of Trustees of the Company adopted a new incentive program in which seven executive officers of the Company participate. The program provides for the following one-time awards:
•
the grant of a specified number of restricted shares, totaling approximately $6.3 million which vest at the end of the five-year service period beginning on April 26, 2006 (the “Vesting Period”), and/or
•
an opportunity to earn a performance bonus, based on absolute and relative total shareholder return over a three-year period beginning January 1, 2006 and ending December 31, 2008 (the “Performance Period”).
A participant’s restricted shares will be forfeited if the participant’s employment is terminated prior to the end of the Vesting Period. The compensation expense and deferred compensation related to these restricted shares is included in the restricted share disclosures above.
A participant’s right to receive a performance payment will be forfeited if the participant’s employment is terminated prior to the end of the Performance Period, unless termination of employment results from the participant’s death or disability, in which case the participant (or the participant’s beneficiary) will earn a pro-rata portion of the applicable award. Performance payments, if earned, will be paid in cash, common shares, or a combination of the two. Each performance award has specified threshold, target and maximum payout amounts. The payout amounts range from $500,000 to $6,000,000 per participant. The performance awards were valued with a binomial model by a third party valuation firm. The performance awards, which had a fair value on the grant date of $5.4 million ($4.9 million net of estimated forfeitures), were valued as equity awards tied to a market condition. For the years ended December 31, 2007 and 2006, the Company recognized $1.9 million and $1.3 million, respectively, of compensation expense attributable to the performance based share awards. The unrecognized expense associated with these grants was $1.8 million as of December 31, 2007.
The Company’s share-based awards have historically provided for immediate vesting upon retirement, death or disability of the participant. The Company had previously recognized the compensation expense related to such share-based awards made to retirement eligible individuals using the nominal vesting approach. The nominal vesting approach requires recognition of the compensation expense over the stated vesting period. SFAS No. 123(R) clarified the accounting for share-based awards made to retirement eligible individuals. SFAS No. 123(R) explicitly provides that the vesting period for a grant made to a retirement eligible employee is considered non-substantive if the award provides for immediate vesting upon retirement, and should be ignored when determining the period over which the award should be expensed. Effective January 1, 2006, concurrent with the adoption of SFAS No. 123(R), the Company began expensing share-based compensation granted after January 1, 2006 over the period between grant date and retirement eligibility or immediately if the employee is retirement eligible as of the date of grant. Effective July 26, 2006, the Company amended its share based compensation plans to remove any retirement eligible vesting provisions for future grants.
The Company recognized $0.4 million of compensation expense, $0.1 million for share option awards and $0.3 million for restricted share awards, for the year ended December 31, 2006 related to grants to retirement eligible employees that would not have been recognized under the nominal vesting approach. If the Company had historically accounted for share-based awards made to retirement eligible individuals under the requirements of SFAS No. 123(R), the compensation expense recognized would have been increased by $1.2 million for the year ended December 31, 2005.
COLONIAL PROPERTIES TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Employee Share Purchase Plan
The Company maintains an Employee Share Purchase Plan (the “Purchase Plan”). The Purchase Plan permits eligible employees of the Company, through payroll deductions, to purchase common shares at market price. The Purchase Plan has no limit on the number of common shares that may be issued under the plan. The Company issued 3,725 and 2,652 common shares pursuant to the Purchase Plan during 2007 and 2006, respectively.
16.
Employee Benefits
Noncontributory Defined Benefit Pension Plan
Employees of the Company hired prior to January 1, 2002 participate in a noncontributory defined benefit pension plan designed to cover substantially all employees. Pension expense includes service and interest costs adjusted by actual earnings on plan assets and amortization of prior service cost and the transition amount. The benefits provided by this plan are based on years of service and the employee’s final average compensation. The Company’s policy is to fund the minimum required contribution under ERISA and the Internal Revenue Code. The Company uses a December 31 measurement date for its plan.
During 2007, the Company’s Board of Trustees approved the termination of its noncontributory defined benefit pension plan. The Company recorded a charge of $2.3 million in connection with this termination, including a one-time pension bonus of approximately $1.4 million. As of December 31, 2007, the termination of the pension plan was substantially complete. The remaining settlement payments of $0.7 million are expected to be paid in 2008 upon final determination from the IRS.
The table below presents a summary of pension plan status as of December 31, 2007 and 2006, as it relates to the employees of the Company.
Amounts recognized in the consolidated balance sheet as of December 31, 2007 consist of:
COLONIAL PROPERTIES TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The Company’s accumulated benefit obligations as of December 31, 2007 and 2006 are as follows:
Components of the Company’s net periodic benefit cost for 2007 and 2006 are as follows:
Additional supplemental disclosures required by SFAS No. 158 are as follows:
The weighted-average assumptions used to determine benefit obligations and net costs are as follows:
COLONIAL PROPERTIES TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The Company’s pension plan weighted-average asset allocations at December 31, 2007 and 2006, by asset category are as follows:
The Company’s investment policy targets to achieve a long-term return on plan assets of at least 8.0%. In order to achieve these targets, the Company primarily utilizes a diversified grouping of growth and value funds with moderate risk exposure. The Company reviews the pension plan’s investment policy on a periodic basis and may adjust the investment strategy, as needed, in order to achieve the long-term objectives of the plan.
The following table presents the cash flow activity of the pension plan during the years ending December 31, 2007 and 2006:
The following table presents the expected future benefit payments to the pension plan:
401(k) Plan
The Company maintains a 401(k) plan covering substantially all eligible employees. At December 31, 2007, this plan provided, with certain restrictions, that employees may contribute a portion of their earnings with the Company matching one-half of such contributions up to 6%, solely at its discretion. Contributions by the Company were approximately $1.0 million, $0.8 million and $0.5 million for the years ended December 31, 2007, 2006 and 2005, respectively. As of January 1, 2008, this plan provides, with certain restrictions, that employees may contribute a portion of their earnings with the Company matching 100% of such contributions up to 4% and 50% percent on contributions between 4% and 6%, solely at its discretion.
17.
Income Taxes
The Company, which is considered a corporation for federal income tax purposes, has elected to be taxed and qualifies to be taxed as a REIT and generally will not be subject to federal income tax to the extent it distributes its REIT taxable income to its shareholders. REITs are subject to a number of organizational and operational requirements. If the Company fails to qualify as a REIT in any taxable year, the Company will be subject to federal income tax on its taxable income at regular corporate rates and may not be able to qualify as a REIT for four subsequent taxable years. The Company may also be subject to certain state and local taxes on its income and property, and to federal income taxes and excise taxes on its undistributed taxable income.
COLONIAL PROPERTIES TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
In the preparation of income tax returns in federal and state jurisdictions, the Company and its taxable REIT subsidiaries assert certain tax positions based on their understanding and interpretation of the income tax law. The taxing authorities may challenge such positions, and the resolution of such matters could result in recognition of additional income tax expense. Management believes it has used reasonable judgments and conclusions in the preparation of its income tax returns.
Income Tax Characterization of Distributions
Distributions to shareholders are generally partially taxable as ordinary income, long-term capital gains and unrecaptured Section 1250 gains, and partially non-taxable as return of capital. During 2007, 2006 and 2005 the Company’s total common distributions had the following overall characteristics:
Taxable REIT Subsidiary
The Company’s consolidated financial statements include the operations of its taxable REIT subsidiary, CPSI, which is not entitled to a dividends paid deduction and is subject to federal, state and local income taxes. CPSI provides property development, leasing and management services for third-party owned properties and administrative services to the Company. In addition, the Company performs all of its for-sale residential and condominium conversion activities through CPSI. The Company generally reimburses CPSI for payroll and other costs incurred in providing services to the Company. All inter-company transactions are eliminated in the accompanying consolidated financial statements. The components of income tax expense, significant deferred tax assets and liabilities and a reconciliation of CPSI’s income tax expense to the statutory federal rate are reflected in the tables below.
Income tax expense of CPSI for the years ended December 31, 2007 and 2006 is comprised of the following:
In 2007 and 2006, income tax expense resulting from condominium conversion unit sales was allocated to discontinued operations (see Note 4).
COLONIAL PROPERTIES TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
For the year ended December 31, 2005, the impact of CPSI’s income taxes and their related tax attributes were not material to the accompanying consolidated financial statements.
The components of CPSI’s deferred income tax assets and liabilities at December 31, 2007 and 2006 were as follows:
As of December 31, 2007, the Company had a deferred tax asset of approximately $20.1 million, which resulted primarily from the impairment charge related to the Company’s for-sale residential properties. The Company has assessed the recoverability of this asset and believes that, as of December 31, 2007, recovery is more likely than not based upon future taxable income and the ability to carry back taxable losses to 2006 and 2007.
Reconciliations of the 2007 and 2006 effective tax rates of CPSI to the federal statutory rate are detailed below. As shown above, a portion of the 2007 and 2006 income tax expense was allocated to discontinued operations.
For the year ended December 31, 2007, other expenses included estimated state franchise and other taxes. Franchise taxes are associated with new margin-based taxes in Texas and Tennessee that are effective in 2007.
18.
Leasing Operations
The Company is in the business of leasing and managing multifamily, office, and retail property. For properties owned by the Company, minimum rentals due in future periods under noncancelable operating leases extending beyond one year at December 31, 2007, are as follows:
The noncancelable leases are with tenants engaged in retail and office operations in Alabama, Georgia and Florida. Performance in accordance with the lease terms is in part dependent upon the economic conditions of the
COLONIAL PROPERTIES TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
respective areas. No additional credit risk exposure relating to the leasing arrangements exists beyond the accounts receivable amounts shown in the December 31, 2007 balance sheet. Leases with tenants in multifamily properties are generally for one year or less and are thus excluded from the above table. Substantially all of the Company’s land, buildings, and equipment represent property leased under the above and other short-term leasing arrangements.
Rental income from continuing operations for 2007, 2006 and 2005 includes percentage rent of $0.9 million, $1.2 million and $3.2 million, respectively. This rental income was earned when certain retail tenants attained sales volumes specified in their respective lease agreements.
19.
Commitments, Contingencies, Guarantees and Other Arrangements
Commitments and Contingencies
The Company is involved in a contract dispute with a general contractor in connection with construction costs and cost overruns with respect to certain of its for-sale projects, which are being developed in a joint venture in which the Company is a majority owner. The contractor is affiliated with the Company’s joint venture partner. In connection with the dispute, in January 2008, the contractor filed a lawsuit against the Company alleging, among other things, breach of contract, enforcement of a lien against real property, misrepresentation, conversion, declaratory judgment and an accounting of costs, and is seeking $10.3 million in damages, plus consequential and punitive damages. Certain of the subcontractors, vendors and other parties, involved in the projects, including purchasers of units, have also made claims for payment in the form of lien claims, general claims or lawsuits. The Company is continuing to evaluate its options, including possible claims against the contractor, and intends to vigorously defend itself against these claims. However, no prediction of the likelihood, or amount, of any resulting loss or recovery can be made at this time and no assurance can be given that the matter will be resolved favorably.
In connection with certain retail developments, the Company has received funding from municipalities for infrastructure costs. In most cases, the municipalities issue bonds that are repaid primarily from sales tax revenues generated from the tenants at each respective development. The Company has guaranteed the shortfall, if any, of tax revenues to the debt service requirements on the bonds. The total amount outstanding on these bonds was approximately $11.3 million and $5.0 million at December 31, 2007 and December 31, 2006, respectively. At December 31, 2007 and December 31, 2006, no liability was recorded for these guarantees.
In connection with the office and retail joint venture transactions, as discussed above, the Company assumed certain contingent obligations for a total of $15.7 million, of which $7.2 million remains outstanding as of December 31, 2007.
The Company is a party to various legal proceedings incidental to its business. In the opinion of management, after consultation with legal counsel, the ultimate liability, if any, with respect to those proceedings is not presently expected to materially affect the financial position or results of operations or cash flows of the Company.
Guarantees and Other Arrangements
During November 2006, the Company committed with its joint venture partner to guarantee up to $17.3 million of a $34.6 million construction loan obtained by the Colonial Promenade Smyrna Joint Venture. The Company and its joint venture partner each committed to provide 50% of the $17.3 million guarantee, as each partner has a 50% ownership interest in the joint venture. As of December 31, 2007, the Colonial Promenade Smyrna Joint Venture had drawn $27.7 million on the construction loan. At December 31, 2007, no liability was recorded for the guarantee.
During February 2006, the Company committed to guarantee up to $4.0 million of a $27.4 million construction loan obtained by the Colonial Grand at Canyon Creek Joint Venture. As of December 31, 2007, the joint venture had drawn $25.1 million on the construction loan. At December 31, 2007, no liability was recorded for the guarantee.
During September 2005, in connection with the acquisition of CRT with DRA, CRLP guaranteed approximately $50.0 million of third-party financing obtained by the DRA/CRT JV with respect to 10 of the CRT properties.
COLONIAL PROPERTIES TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
During 2006, seven of the ten properties were sold. The DRA/CRT JV is obligated to reimburse CRLP for any payments made under the guaranty before making distributions of cash flows or capital proceeds to the DRA/CRT JV partners. At December 31, 2007, no liability was recorded for the guarantee. As of December 2007, this guarantee had been reduced to $17.4 million as a result of the pay down of the associated secured debt from the sales of assets.
During July 2005, in connection with the Company’s investment in the Carter Regents Park joint venture with Carter and Associates, the Company committed to provide a construction loan to the joint venture of up to approximately $40 million at a rate of 8.25% per annum. As of December 31, 2007, $25.6 million had been drawn on the construction loan by the joint venture, and $14.4 million was available to be drawn.
In connection with the formation of Highway 150 LLC in 2002, the Company executed a guarantee, pursuant to which the Company serves as a guarantor of $1.0 million of the debt related to the joint venture, which is collateralized by the Colonial Promenade Hoover retail property. The Company’s maximum guarantee of $1.0 million may be requested by the lender, only after all of the rights and remedies available under the associated note and security agreements have been exercised and exhausted. At December 31, 2007, the total amount of debt of the joint venture was approximately $16.7 million and matures in December 2012. At December 31, 2007, no liability was recorded for the guarantee.
In connection with the contribution of certain assets to CRLP, certain partners of CRLP have guaranteed indebtedness of the Company totaling $26.5 million at December 31, 2007. The guarantees are held in order for the contributing partners to maintain their tax deferred status on the contributed assets. These individuals have not been indemnified by the Company.
During December 2007, in connection with the Company’s investment into the Colonial Promenade Alabaster II/Tutwiler II joint venture, the Company guaranteed the payment of interest by the joint venture on its $40 million mortgage. At December 31, 2007, no liability was recorded for the guarantee.
20.
Related Party Transactions
The Company has used an affiliated construction company to manage and oversee certain of its development, re-development and expansion projects. The affiliated construction company utilized by the Company is headquartered in Alabama and has completed numerous projects within the Sunbelt region of the United States. Through the use of market survey data and in-house development expertise, the Company negotiates the fees and contract prices of each development, re-development or expansion project with the affiliated construction company in compliance with the Company’s approved “Policy on Hiring Architects, Contractors, Engineers, and Consultants”. The policy was developed to allow the selection of certain preferred vendors who have demonstrated an ability to consistently deliver a quality product at a fair price and in a timely manner. Additionally, the affiliated construction company outsources all significant subcontractor work through a competitive bid process. Upon approval by the Management Committee, the Management Committee presents each project to the independent members of the Executive Committee of the Board of Trustees for final approval. In each of the following transactions, the independent members of the Executive Committee approved such transactions unanimously.
The Company paid $77.0 million, $59.2 million and $41.6 million for property construction costs to Brasfield & Gorrie LLC, a construction company partially-owned by Mr. M. Miller Gorrie (a trustee of the Company) during the years ended December 31, 2007, 2006 and 2005, respectively. Of these amounts, $67.0 million, $53.1 million and $36.6 million was then paid to unaffiliated subcontractors for the construction of these development projects during 2007, 2006 and 2005, respectively. The Company had $6.5 million, $9.6 million and $8.0 million in outstanding construction invoices or retainage payable to this construction company at December 31, 2007, 2006 and 2005, respectively.
The Company leased space to certain entities in which Mr. M. Miller Gorrie has an interest and received market rent from this entity of approximately $0.3 million during 2007. The Company leased space to certain entities in which Mr. Thomas H. Lowder, Mr. James K. Lowder, and Mr. M. Miller Gorrie have an interest and
COLONIAL PROPERTIES TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
received market rent from these entities of approximately $2.5 million during the years ended December 31, 2006 and 2005.
Colonial Insurance Agency, an entity owned by Mr. Thomas H. Lowder and Mr. James K. Lowder, has provided insurance risk management, administration and brokerage services for the Company. The aggregate amounts paid by the Company to Colonial Insurance Agency for these services during the years ended December 31, 2007, 2006 and 2005 were $0.6 million, $0.5 million and $0.5 million, respectively. As a part of this service, the Company placed insurance coverage with unaffiliated insurance carriers through a competitive bidding process. The premiums paid to these unaffiliated insurance carriers totaled $7.8 million, $4.8 million and $8.3 million during 2007, 2006 and 2005, respectively.
In connection with the closing of the Company’s acquisition of Cornerstone via merger on April 1, 2005, the Company appointed Glade Knight, who formally served as the Chairman and Chief Executive Officer of Cornerstone, as a trustee of the Company. Mr. Knight was subsequently elected to serve as a trustee of the Company at the 2005 annual meeting of Colonial shareholders. On April 1, 2005, following the Cornerstone merger, Mr. Knight elected to cash out the options under a non-statutory share option agreement between Cornerstone and Mr. Knight, which was assumed by the Company in the Cornerstone merger, and the Company paid Mr. Knight approximately $3.1 million (plus an applicable tax gross up payment) in connection therewith. In connection with the Cornerstone merger, the Company also assumed Cornerstone’s obligations under Mr. Knight’s change in control agreement. Shortly after the Cornerstone merger, the Company paid to Mr. Knight approximately $5.5 million (which includes an applicable tax gross up payment) in respect of Mr. Knight’s change in control agreement assumed by Colonial and Mr. Knight’s employment agreement with Cornerstone, which terminated in connection with the closing of the Cornerstone merger.
21.
Net Income Per Share
The following table sets forth the computation of basic and diluted earnings per share:
There were 285,800, 112,601 and 4,130 outstanding options to purchase common shares excluded from the computation of diluted net income per share for 2007, 2006 and 2005, respectively, because the options’ exercise prices were greater than the average market price of the common shares and, therefore, the effect would be antidilutive. The weighted average exercise price of these outstanding options was $37.77, $37.28 and $34.67 per share for 2007, 2006 and 2005, respectively. In connection with the special distribution paid by the Company during the year ended December 31, 2007 (see Note 2), the exercise price of all of the Company’s then outstanding options has been reduced by $10.63 per share for all periods presented as required under the terms of the Company’s option plans.
COLONIAL PROPERTIES TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
22.
Subsequent Events
Property Acquisitions
On January 16, 2008, the Company acquired the remaining 75% interest in a 270-unit multifamily apartment community, Colonial Village at Matthews, located in Charlotte, North Carolina. The Company acquired its initial 25% interest in March 2006. The remaining 75% interest was acquired for a total price of $24.5 million, consisting of $14.7 million of newly issued mortgage debt and $9.8 million of cash which was funded through proceeds from asset sales.
Property Dispositions
Multifamily Communities
On January 24, 2008, the Company disposed of its 15% interest in Fairmont at Fossil Creek, a 240-unit multifamily apartment community located in Fort Worth, Texas. The Company’s interest in this asset was sold for a total sales price of $3.2 million and the proceeds will be used to fund future development activity and other general corporate purposes.
On January 24, 2008, the Company disposed of its 15% interest in Auberry at Twin Creeks, a 216-unit multifamily apartment community located in Dallas, Texas. The Company’s interest in this asset was sold for a total sales price of $3.2 million and the proceeds will be used to fund future development activity and other general corporate purposes.
On January 31, 2008, the Company disposed of its 10% interest in Arbors at Windsor Lake, a 228-unit multifamily apartment community located in Columbia, South Carolina. The Company’s interest in this asset was sold for a total sales price of $1.4 million and the proceeds from the sale of this community will be used to fund future development activity and other general corporate purposes.
Office Property
On February 1, 2008, the Company disposed of 250 Commerce Center, a 37,000 square foot office asset located in Montgomery, Alabama. The Company sold this asset for approximately $3.1 million, and the proceeds from the sale of this asset will be used to fund future development activity and other general corporate purposes.
Financing Activities
On January 8, 2008, the Company, together with CRLP, added $175 million of additional borrowing capacity through the accordion feature included in the Company’s existing $500 million unsecured revolving credit facility dated as of March 22, 2005, as amended, among CRLP, CLP, Wachovia Bank, National Association, as administrative agent, Bank of America, N.A., as syndication agent, and the other lenders named therein.
Distribution
During January 2008, the Board of Trustees declared a cash distribution on the common shares and the common units of CRLP in the amount of $0.50 per share and per partnership unit, totaling an aggregate of approximately $28.6 million. The distribution was made to shareholders and partners of record as of February 11, 2008, and was paid on February 19, 2008.
23.
Quarterly Financial Information (Unaudited)
The following is a summary of the unaudited quarterly financial information for the years ended December 31, 2007 and 2006. The information provided herein has been reclassified in accordance with SFAS No. 144 for all periods presented.
COLONIAL PROPERTIES TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Report of Independent Registered Public Accounting Firm
To the Board of Trustees and Shareholders
of Colonial Properties Trust:
In our opinion, the consolidated financial statements listed in the accompanying index appearing under Item 15(a)(1) present fairly, in all material respects, the financial position of Colonial Properties Trust at December 31, 2007 and 2006, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2007 in conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedule listed in the index appearing under Item 15(a)(2) presents fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2007, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Company’s management is responsible for these financial statements and financial statement schedule, for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in Management’s Report on Internal Control over Financial Reporting appearing under Item 9A of this Form 10-K. Our responsibility is to express opinions on these financial statements, on the financial statement schedule, and on the Company’s internal control over financial reporting based on our integrated audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.
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 (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) 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 (iii) 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/ PricewaterhouseCoopers LLP
Birmingham, Alabama
February 29, 2008
Item 9.
Item 9.
Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.
Not applicable.
Item 9A.
Item 9A.
Controls and Procedures.
Evaluation of Disclosure Controls and Procedure
As of the end of the period covered by this report, an evaluation was performed under the supervision and with the participation of our management, including the Chief Executive Officer and the Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures as defined in Rule 13a-15 of the rules promulgated under the Securities and Exchange Act of 1934, as amended. Based on this evaluation, our Chief Executive Officer and the Chief Financial Officer concluded that the design and operation of these disclosure controls and procedures were effective as of the end of the period covered by this report.
Changes in Internal Control Over Financial Reporting
There were no changes in our internal control over financial reporting (as defined in Exchange Act Rule 13a-15) that occurred during the quarter ended December 31, 2007 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
Management’s Report on Internal Control Over Financial Reporting
Management of Colonial Properties Trust is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rule 13a-15(f) of the Securities Exchange Act of 1934, as amended. The 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.
Because of 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.
In connection with the preparation of the Company’s annual financial statements, management has undertaken an assessment of the effectiveness of the Company’s internal control over financial reporting as of December 31, 2007. The assessment was based upon the framework described in “Integrated Control-Integrated Framework” issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). Management’s assessment included an evaluation of the design of internal control over financial reporting and testing of the operational effectiveness of internal control over financial reporting. We have reviewed the results of the assessment with the Audit Committee of our Board of Trustees.
Based on our assessment under the criteria set forth in COSO, management has concluded that, as of December 31, 2007, Colonial Properties Trust maintained effective internal control over financial reporting.
The effectiveness of the Company’s internal control over financial reporting as of December 31, 2007 has been audited by PricewaterhouseCoopers LLP, an independent registered public accounting firm, as stated in their report which appears herein.
Item 9B.
Item 9B.
Other Information.
None.
PART III
Item 10.
Item 10.
Trustees, Executive Officers and Corporate Governance.
The information required by this item with respect to trustees, compliance with the Section 16(a) reporting requirements, the audit committee and the audit committee financial expert is hereby incorporated by reference from the material appearing in our definitive proxy statement for the annual meeting of shareholders to be held in 2008 (the “Proxy Statement”) under the captions “Election of Trustees - Nominees for Election”, “Section 16(a) Beneficial Ownership Reporting Compliance” and “Information Regarding Trustees and Corporate Governance - Committees of the Board of Trustees - Audit Committee”, respectively. Information required by this item with respect to executive officers is provided in Item 1 of this Form 10-K. See “Executive Officers of the Company.” Information required by this item with respect to the availability of our code of ethics is provided in Item 1 of this Form 10-K. See “Item 1 - Available Information”.
We intend to disclose any amendment to, or waiver from, our code of ethics on our website within four business days following the date of the amendment or waiver.
Item 11.
Item 11.
Executive Compensation.
The information required by this item is hereby incorporated by reference from the material appearing in the Proxy Statement under the captions “Compensation Discussion and Analysis”, “Compensation of Trustees and Executive Officers”, “Compensation of Non-Employee Trustees”, “Non-Employee Trustees Fee Structure”, “Compensation Committee Interlocks and Insider Participation” and “Compensation Committee Report”.
Item 12.
Item 12.
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
The information pertaining to security ownership of certain beneficial owners and management required by this item is hereby incorporated by reference from the material appearing in the Proxy Statement under the caption “Voting Securities Held by Principal Shareholders and Management.”
The following table summarizes information, as of December 31, 2007, relating to our equity compensation plans pursuant to which options to purchase common shares and restricted common shares may be granted from time to time.
(1)
These plans include our Third Amended and Restated Employee Share Option and Restricted Share Plan, as amended in 1998 and 2006, our Non-Employee Trustee Share Plan, as amended in 1997, and our Trustee Share Option Plan, as amended in 1997.
(2)
Includes 419,609 restricted shares that had not vested as of December 31, 2007.
(3)
Weighted-average exercise price of outstanding options has been adjusted for the special distribution paid in June 2007 (see Note 2 to our Notes to Consolidated Financial Statements included in Item 8 of this 10-K). In connection with the special distribution, the exercise price of all of the then outstanding options was reduced by $10.63 per share as required under the terms of the option plans. Weighted-average exercise price of outstanding options also excludes value of outstanding restricted shares.
Item 13.
Item 13.
Certain Relationships and Related Transactions, and Director Independence.
The information required by this item is hereby incorporated by reference from the material appearing in the Proxy Statement under the captions “Certain Relationships and Related Transactions” and “Information Regarding Trustees and Corporate Governance - Committees of the Board of Trustees Assessment of Independence”.
Item 14.
Item 14.
Principal Accountant Fees and Services.
The information required by this item is hereby incorporated by reference from the material appearing in the Proxy Statement under the captions “Ratification of Appointment of Independent Registered Public Accounting Firm - Summary of Audit Fees” and “Ratification of Appointment of Independent Registered Public Accounting Firm - Pre-Approval Policy for Services by Auditor”.
Part IV
Item 15.
Item 15.
Exhibits and Financial Statement Schedules
15(a)(1) Financial Statements
The following financial statements of the Company are included in Part II, Item 8 of this report:
Consolidated Balance Sheets as of December 31, 2007 and 2006
Consolidated Statements of Income and Comprehensive Income for the years ended December 31, 2007, 2006 and 2005
Consolidated Statements of Shareholders’ Equity for the years ended December 31, 2007, 2006 and 2005
Consolidated Statements of Cash Flows for the years ended December 31, 2007, 2006 and 2005
Notes to Consolidated Financial Statements
Report of Independent Registered Public Accounting Firm
15(a)(2) Financial Statement Schedules
Financial statement schedules for the Company are listed on the financial statement schedule index at the end of this report.
All other schedules have been omitted because the required information of such other schedules is not present in amounts sufficient to require submission of the schedule or because the required information is included in the consolidated financial statements.
15(a)(3) Exhibits

Denotes a management contract or compensatory plan, contract or arrangement.
15(b) Exhibits
The list of Exhibits filed with this report is set forth in response to Item 15(a)(3). The required exhibit index has been filed with the exhibits.
15(c) Financial Statements
The Company files as part of this report the financial statement schedules listed on the financial statement schedule index at the end of this report.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, on February 29, 2008.
Colonial Properties Trust
By:
/s/ C. Reynolds Thompson, III
C. Reynolds Thompson, III
Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, this report has been signed below by the following persons on behalf of the Registrant and in the capacities indicated on February 29, 2008.
Colonial Properties Trust
Index to Financial Statement Schedules
Appendix S-1
DRA/CLP Office LLC
and Subsidiaries
Consolidated Financial Statements
For the Period from June 13, 2007
(Inception) to December 31, 2007
DRA/CLP OFFICE LLC and Subsidiaries
Contents
Consolidated Financial Statements
For the Period June 13, 2007 (Inception) to December 31, 2007
Report of Independent Registered Public Accounting Firm
To the Members
of DRA/CLP Office LLC
We have audited the accompanying consolidated balance sheet of DRA/CLP Office LLC and Subsidiaries (the “Company”) as of December 31, 2007, and the related consolidated statements of operations, changes in temporary equity and equity, and cash flows for the period June 13, 2007 (Inception) to December 31, 2007. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States) and also, in accordance with generally accepted auditing standards established by the Auditing Standards Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of DRA/CLP Office LLC and Subsidiaries as of December 31, 2007, and the results of its operations and its cash flows for the period June 13, 2007 (Inception) to December 31, 2007 in conformity with U.S. generally accepted accounting principles.
/s/ Weiser LLP
New York, NY
February 26, 2008
DRA/CLP Office LLC and Subsidiaries
Consolidated Balance Sheet
December 31, 2007
(in thousands)
The accompanying notes are an integral part of these consoldiated financial statements.
DRA/CLP Office LLC and Subsidiaries
Consolidated Statement of Operations
For the Period From June 13, 2007 (Inception) to December 31, 2007
(in thousands)
The accompanying notes are an integral part of these consoldiated financial statements.
DRA/CLP Office LLC and Subsidiaries
Consolidated Statement of Changes in Temporary Equity and Equity
For the Period from June 13, 2007 (Inception) to December 31, 2007
(in thousands)
The accompanying notes are an integral part of these consoldiated financial statements.
DRA/CLP Office LLC and Subsidiaries
Consolidated Statement of Cash Flows
For the Period from June 13, 2007 (Inception) to December 31, 2007
(in thousands)
The accompanying notes are an integral part of these consoldiated financial statements.
DRA/CLP OFFICE LLC and Subsidiaries
Notes to Consolidated Financial Statements
For the Period June 13, 2007 (Inception) to December 31,
1.
Organization
On June 15, 2007, Colonial Properties Trust (“CLP”) completed a joint venture transaction with DRA G&I Fund VI Real Estate Investment Trust, which is the sole member of G&I VI Investment DRA/CLP Office LLC (“G&I VI or “DRA”), a member of DRA/CLP Office LLC (the “Company”). CLP had previously entered into a Membership Interests Purchase Agreement, dated as of April 25, 2007 (the “Office Purchase Agreement”), to sell to DRA the CLP’s 69.8% limited liability company interest in the Company, a newly formed joint venture among DRA, Colonial Realty Limited Partnership (“CRLP”), an affiliate of CLP, and the limited partners of CRLP. The Company became the owner of 24 office properties consisting of 59 buildings and two retail properties that were previously owned by CRLP. The properties are owned by limited liability companies (the “subsidiaries”), which are owned directly or indirectly by the Company. Pursuant to the Office Purchase Agreement, CRLP retained a 15% interest in the Company, as well as management and leasing responsibilities for the 26 properties owned by the Company. The Company portfolio is composed of 6.9 million square feet of Class A suburban and urban office buildings and two adjoining retail centers located in suburban and urban office markets in Alabama, Florida, Georgia, North Carolina and Texas. In addition to the approximate 69.8% interest purchased from CLP, DRA purchased an aggregate of 2.6% of the limited liability company interests in the Company from limited partners of CRLP. At December 31, 2007, DRA holds approximately 72.4% of the limited liability company interests of the Company; Colonial Office Holdings LLC, a subsidiary of CRLP, holds 15% of the limited liability company interests in the Company (and serves as the “Manager” of the Company); and certain limited partners of CRLP (“Rollover LP’s”), that did not elect to sell their interests in the Company to DRA, hold the remaining approximately 12.6% of the limited liability company interests in the Company.
As of December 31, 2007, the Company owned 15 office properties consisting of 40 office buildings and two retail centers totaling approximately 5.2 million square feet located in suburban and urban office markets in Alabama, Florida, Georgia, North Carolina and Texas.
Operating Agreement - The Company will distribute cash flow from operations for each fiscal quarter first to the holders of common units pro rata, in accordance with their respective percentage interests until the “9% Preferred Return Account” (as defined in the Amended Operating Agreement) of each such holder shall have been reduced to zero, and thereafter, 15% to the Manager and 85% to the holders of common units (including the Manager), pro rata among such holders of common units in accordance with their respective percentage interests. Capital proceeds from a merger, consolidation or sale of all or substantially all of the properties, and from other refinancings and asset sales, and proceeds in liquidation shall be distributed to holders of common units pro rata in accordance with their respective percentage interests. All distributions are subject to any payments required to be made by the Company in respect of any partner loans made by the Manager or DRA. In addition, the Manager is not required to make any distribution of cash to the members if such distribution would cause a default under a loan agreement to which the Company is a party.
2.
Summary of Significant Accounting Policies
Principles of Consolidation - The accompanying consolidated financial statements include the accounts of the Company and its subsidiaries, all of which are wholly-owned. All significant intercompany accounts and transactions have been eliminated in consolidation.
Investments in Real Estate - Rental property and improvements are included in real estate investments and are stated at cost. Expenditures for ordinary maintenance and repairs are expensed to operations as they are incurred. Significant improvements, which improve or extend the useful life of the assets, are capitalized.
Depreciation and Amortization - The Company computes depreciation on its land improvements and buildings and improvements using the straight-line method based on estimated useful lives, which generally range from 3 to 59 years. Tenant improvements are amortized as an expense over the remaining life of the lease (or charged against earnings if the lease is terminated prior to its contractual expiration date). The values of above market leases are amortized as a reduction of rental income over the remaining non-cancelable term of the lease.
DRA/CLP OFFICE LLC and Subsidiaries
Notes to Consolidated Financial Statements
For the Period June 13, 2007 (Inception) to December 31, 2007 - (Continued)
The values of below market leases are amortized as an increase to rental income over the initial term and any fixed-rate renewal period of the associated lease. The value associated with in-place leases and tenant relationships is amortized as a leasing cost over the initial term of the respective leases and any probability-weighted renewal periods. The initial term and any probability-weighted renewal periods have a current weighted average composite life of 7.1 years. If a tenant vacates its space prior to the contractual termination of the lease and no rental payments are being made on the lease, any unamortized balance of the related intangibles will be written off.
Deferred Costs - Deferred leasing costs consist of legal fees and brokerage costs incurred to initiate and renew operating leases and leasing costs acquired at inception and are amortized on a straight-line basis over the related lease term. Deferred financing costs represent commitment fees, legal and other third party costs associated with obtaining commitments for financing that are integral to the closing of such financing. These costs are amortized over the terms of the respective loan agreements. Unamortized deferred financing costs are expensed when the associated debt is refinanced or repaid before maturity. Costs incurred in seeking financial transactions that do not close are expensed in the period in which it is determined that the financing will not close.
Deferred costs consist of the following:
Future amortization of acquired leasing costs for each of the next five years and thereafter is estimated as follows:
Impairment and Disposal of Long-Lived Assets - The Company follows SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” In accordance with SFAS 144, the results of operations of real estate held for sale and real estate sold during the year are presented in discontinued operations. The Company no longer records depreciation and amortization on assets held for sale. The Company assesses impairment of long-lived assets whenever changes or events indicate that the carrying value may not be recoverable. The Company assesses impairment of operating properties based on the operating cash flows of the properties. In performing its assessment, the Company makes assumptions regarding estimated future cash flows and other factors to determine the fair value of the respective assets. For the period from June 13, 2007 (inception) to December 31, 2007, no impairment charges were recorded.
Revenue Recognition - Rental revenue is recognized on a straight-line basis over the term of the lease. The excess of rents recognized over amounts contractually due pursuant to the underlying leases is included in deferred rent receivable on the accompanying balance sheet. The Company establishes, on a current basis, an allowance for
DRA/CLP OFFICE LLC and Subsidiaries
Notes to Consolidated Financial Statements
For the Period June 13, 2007 (Inception) to December 31, 2007 - (Continued)
future potential tenant credit losses which may occur against this account. The deferred rent receivable reflected on the balance sheet is net of such allowance.
In addition to base rent, tenants also generally will pay their pro rata share of increases in real estate taxes and operating expenses for the building over a base year. In certain leases, in lieu of paying additional rent based upon increases in building operating expenses, the tenant will pay additional rent based upon increases in the consumer price index over the index value in effect during a base year. In addition, certain leases contain fixed percentage increases over the base rent to cover escalations.
Tenant Receivables and Allowances for Doubtful Accounts - Tenant receivables consists of receivables from tenants for rent and other charges, recorded according to the terms of their leases. The Company maintains an allowance for doubtful accounts for estimated losses due to the inability of its tenants to make required payments for rents and other rental services. In assessing the recoverability of these receivables, the Company makes assumptions regarding the financial condition of the tenants based primarily on past payment trends and certain financial information that tenants submit to the Company. As of December 31, 2007, allowance for doubtful accounts amounted to approximately $0.4 million. The Company may or may not require collateral for tenant receivables.
Cash and Cash Equivalents - The Company considers all highly liquid investments with original maturities of three months or less when purchased to be cash equivalents.
As of December 31, 2007, the Company maintained approximately $41.6 million with one financial institution which exceeds FDIC insured limits. The Company mitigates its risk by banking with a major financial institution.
Income Taxes - No provision or benefit for income taxes has been included in the consolidated financial statements because such taxable income or loss passes through to, and is reportable by, the members of the Company.
Fair Value of Financial Instruments - The Company believes the carrying amount of its temporary investments, tenant receivables, accounts payable, accrued expenses and other liabilities is a reasonable estimate of fair value of these instruments. Based on the estimated market interest rates of approximately 5.75 percent, the fair value of the Company’s mortgage payable is approximately $736.2 million as of December 31, 2007.
Estimates - The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires the Company to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, and expenses and the disclosure of contingent assets and liabilities. These estimates are based on historical experience and various other factors that are believed to be reasonable under the circumstances. However, actual results could differ from the Company’s estimates under different assumptions or conditions. On an ongoing basis, the Company evaluates the reasonableness of its estimates.
Redeemable Common Units - In accordance with EITF Topic D-98, “SEC Staff Announcement Regarding the Classification and Measurement of Redeemable Securities,” the Company has elected to recognize changes in the redemption value of the Redeemable Common Units immediately as they occur and to adjust the carrying value to equal the redemption value at the end of each reporting period. The accrued changes are reflected in the Consolidated Statement of Changes in Temporary Equity and Equity as Changes in Redemption Value of Redeemable Common Units.
Recent Accounting Pronouncements - In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements”. SFAS 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles and expands disclosures about fair value measurements. SFAS 157 is effective for financial assets and liabilities on January 1, 2008. In February 2008, the FASB reached a conclusion to defer the implementation of the SFAS 157 provisions relating to non-financial assets and liabilities until January 1, 2009. The FASB also reached a conclusion to amend SFAS 157 to exclude SFAS 13 “Accounting for Leases” and its related
DRA/CLP OFFICE LLC and Subsidiaries
Notes to Consolidated Financial Statements
For the Period June 13, 2007 (Inception) to December 31, 2007 - (Continued)
interpretive accounting pronouncements. SFAS 157 is not expected to materially affect how the Company determines fair value, but may result in certain additional disclosures.
In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities - including an amendment of FASB Statement No. 115.” SFAS No. 159 permits entities to choose to measure many financial instruments and certain other items at fair value. Unrealized gains and losses on items for which the fair value option has been elected will be recognized in earnings at each subsequent reporting date. The provisions of SFAS No. 159 are effective for fiscal years beginning after November 15, 2007. SFAS No. 159 is not expected to have a material impact on the Company’s consolidated financial statements.
3.
Business Combination
On June 15, 2007, the Company effectively purchased a portfolio of properties comprised of 24 office properties and two retail properties located in suburban and urban office markets in Alabama, Florida, Georgia, North Carolina and Texas. The legal structure of the transaction is described in Note 1. The operations of these properties have been included in these consolidated financial statements since that date. The acquisitions are being accounted for under the purchase method of accounting. The purchase price of approximately $1.1 billion (net of cash acquired of approximately $14.4 million) was allocated to the net assets acquired based upon the estimated fair values at the date of acquisition and also the sale of assets held for sale, which provided relevant market data. The following summarizes the estimated fair values of the assets acquired and liabilities assumed at the date of acquisition:
The purchase price of approximately $1.1 billion consists of:
(1)
Cash of approximately $972 million arising from the issuance of nonredeemable common units and proceeds from mortgage payable.
(2) Redeemable common units issued with a fair value of approximately $150 million.
The Company allocated the purchase price to acquired tangible and intangible assets, including land, buildings, tenant improvements, above and below market leases, acquired in-place leases, other assets and assumed liabilities in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 141, “Business Combinations”. The allocation to intangible assets is based upon various factors including the above or below market component of in-place leases, the value of in-place leases and the value of customer relationships, if any. The value allocable to the above or below market component of an acquired in-place lease is determined based upon the present value (using an interest rate that reflects the risks associated with the lease) of the difference between (i) the contractual amounts to be paid pursuant to the lease over its remaining term, and (ii) management’s estimate of the amounts that would be paid using current fair market rates over the remaining term of the lease. The aggregate value of in-place leases acquired is measured based on the difference between (i) the property values with existing in-place leases adjusted to market rental rates, and (ii) the property valued as if vacant. The allocation of the purchase price to tangible assets (buildings and land) is based upon management’s determination of the value of the property as if it were vacant using discounted cash flow models. Factors considered by management include an estimate of carrying costs
DRA/CLP OFFICE LLC and Subsidiaries
Notes to Consolidated Financial Statements
For the Period June 13, 2007 (Inception) to December 31, 2007 - (Continued)
during the expected lease-up periods considering current market conditions and costs to execute similar leases. Differing assumptions and methods could have resulted in different estimates of fair value and thus, a different purchase price allocation and corresponding increase or decrease in depreciation and amortization expense.
4.
Intangibles
For the period ended December 31, 2007, the Company recognized a net increase of approximately $1.2 million in rental revenue for the amortization of above and below market leases. The amortization for the above market leases and below market leases were $1.5 million and ($2.7) million, respectively, for the period ended December 31, 2007. The Company recognized approximately $4.6 million of amortization of in-place leases for the period ended December 31, 2007.
Future amortization of acquired in-place leases and above (below) market leases for each of the next five years and thereafter is estimated as follows:
5.
Mortgage Payable
The Company has a non-recourse loan with an amount of approximately $742 million outstanding at December 31, 2007 payable to Wells Fargo Bank, N.A. (“Wells”). This loan was made in two advances (i) an advance in the amount of approximately $588 million on June 13, 2007, (ii) an advance in the amount of approximately $154 million on July 17, 2007. The loan is interest only and bears monthly interest at a fixed rate of 5.61%. The loan matures on July 1, 2014, and is collateralized by certain properties and is guaranteed up to $15 million by DRA. The loan requires that the Company maintain a certain debt service coverage ratio and loan to value ratio. The Company was in compliance with these covenants during the period ended December 31, 2007. Interest expense in the amount of approximately $22.5 million was incurred during the period ended December 31, 2007.
DRA/CLP OFFICE LLC and Subsidiaries
Notes to Consolidated Financial Statements
For the Period June 13, 2007 (Inception) to December 31, 2007 - (Continued)
6.
Discontinued Operations
Discontinued operations for the period ended December 31, 2007 are summarized as follows:
In November 2007, the Company sold nine properties consisting of 19 buildings with a total square feet of 1.7 million located in Huntsville, Alabama. The buildings were sold for a total net price of approximately $209 million. The Company did not recognize a gain or loss from the sale of these buildings because the sale of these buildings provided relevant data to the Company that resulted in a modified allocation of the purchase price to those buildings.
7.
Leases
The Company’s operations consist principally of owning and leasing office space. Terms of the leases generally range from 5 to 10 years. The Company principally pays all operating expenses, including real estate taxes and insurance. Substantially all of the Company’s leases are subject to rent escalations based on changes in the Consumer Price Index, fixed rental increases or increases in real estate taxes and certain operating expenses. A substantial number of leases contain options that allow leases to renew for varying periods. The Company’s leases are operating leases and expire at various dates through 2029. The future minimum fixed base rentals under these noncancelable leases are approximately as follows:
8.
Commitments and Contingencies
The Company is a party to various legal proceedings incidental to its business. In the opinion of management, after consultation with legal counsel, the ultimate liability, if any, with respect to those proceedings is not presently expected to materially affect the financial position or results of operations or cash flows of the Company.
Property Lockout Period
Other than with respect to the Huntsville, Alabama properties, unless the Manager and DRA unanimously agree, the Company will not during the three-year period following June 15, 2007, the effective date of the
DRA/CLP OFFICE LLC and Subsidiaries
Notes to Consolidated Financial Statements
For the Period June 13, 2007 (Inception) to December 31, 2007 - (Continued)
Amended Operating Agreement (referred to herein as the “Lockout Period”), sell or otherwise transfer or dispose of, directly or indirectly, any property.
Tax Protection
Certain events or actions by the Company following June 15, 2007, the effective date of the Amended Operating Agreement, could cause Rollover LPs to recognize for Federal income tax purposes part or all of such Rollover LPs’ gain that is intended to be deferred at the time of the transactions. The Amended Operating Agreement provides for limited “tax protection” benefits for Rollover LPs.
During the period ending seven years and one month following June 15, 2007, the effective date of the Amended Operating Agreement (the “Tax Protection Period”), the Company may not, directly or indirectly, (i) take any action, including a sale or disposition of all or any portion of its interest in any of the properties (the “Protected Properties”), if any Rollover LP would be required to recognize gain for Federal income tax purposes pursuant to Section 704(c) of the Internal Revenue Code with respect to the Protected Properties as a result thereof, or (ii) undertake a merger, consolidation or other combination of the Company or any of its subsidiaries with or into any other entity, a transfer of all or substantially all of the assets of the Company, a reclassification, recapitalization or change of the outstanding equity interests of the Company or a conversion of the Company into another form of entity, unless the Company pays to each Rollover LP its “Tax Damages Amount.” The “Tax Damages Amount” to be paid to the Rollover LPs is an amount generally equal to the sum of (A) the built-in gain attributable to the Protected Property recognized by the affected Rollover LP, multiplied by the maximum combined federal and applicable state and local income tax rates for the taxable year in which the disposition occurs and applicable to the character of the resulting gain, plus (B) a “gross-up” amount equal to the taxes (calculated at the rates described in the Amended Operating Agreement which, generally, are the rates that the Rollover LP will be subject to at the time of a recognition event) payable by a Rollover LP as the result of the receipt of such payment.
In connection with the sale of the Huntsville, Alabama assets, previously discussed, the Company accrued tax protection payments of approximately $4.4 million which was paid to the Rollover LP’s subsequent to year-end and is included in Payable to members at December 31, 2007.
9.
Redeemable Common Units
Rollover LP Put Rights
At any time after expiration of the Lockout Period, each Rollover LP or any group of Rollover LP’s holding in the aggregate a number of the Company common units greater than or equal to the lesser of (x) 526,150 common units or 75% of the remaining common units held by the Rollover LP’s, will have the right to require the Company to buy all, but not fewer than all, of its common units during an Annual Redemption Period (as defined in the Amended Operating Agreement) for a purchase price equal to the “Redemption Value.” The “Redemption Value” of the Rollover LP common units will equal the product of (x) the percentage interest represented by such common units times (y) an amount equal to (i) the aggregate fair market value of the properties, plus (ii) the net current assets of the Company, minus (iii) the fair value of the indebtedness of the Company and its subsidiaries, minus (iv) the aggregate liquidation preference of any preferred Company units then outstanding, minus (v) an amount equal to 1.0% of the amount in clause (i) as an estimate of sales costs in connection with the sale of such properties. The Rollover LP’s common units subject to the put rights are referred to as Redeemable common units and are shown in the accompanying consolidated balance sheet as Temporary Equity-Redeemable common units at its redemption value. The redemption value at December 31, 2007 is $26.6 million, which resulted in an increase in redemption value of approximately $2.1 million during the period ended December 31, 2007.
The fair market value of the properties for the second Annual Redemption Period will be internally generated by the Manager based on net operating income of the properties for the preceding fiscal year and using, for all revenue generating properties, the methodology applied in the appraisals that were obtained by DRA in connection with the transactions, and for non-revenue generating properties, the carrying value of such properties on the books
DRA/CLP OFFICE LLC and Subsidiaries
Notes to Consolidated Financial Statements
For the Period June 13, 2007 (Inception) to December 31, 2007 - (Continued)
of the Company. From and after the third Annual Redemption Period, the fair market value of the properties will be based on the most recent independent appraisal obtained by DRA (which shall not be older than 15 months).
Rollover LP Redemption in Kind
At any time after the seventh anniversary of the date of the Amended Operating Agreement, any Rollover LP or a group of Rollover LPs holding in the aggregate a number of common units greater than or equal to the lesser of (x) the number of common units with an aggregate purchase price of $5,000,000 under the Purchase Agreements, or (y) 75% of the remaining common units held by Rollover LPs, may require the Company to redeem all, but not less than all, of such Rollover LPs’ common units in exchange for one or more properties owned by the Company for at least two years (or common units in entities the sole assets of which are such properties).
Colonial Office Holdings Put Right
At any time after expiration of the Lockout Period, Colonial Office Holdings will have the right to require the Company to purchase all (but not less than all) of its common units. The purchase price will equal the fair market value of Office Holdings’ common units, which is an amount equal to the percentage interest represented by such Common Units, times (i) the aggregate fair market value of the Properties, plus (ii) the net current assets of the Company, minus (iii) the principal amount of the indebtedness of the Company and its subsidiaries, minus (iv) the aggregate liquidation preference of any preferred common units then outstanding. The fair market value of the Properties will be determined in accordance with the Valuation Method, as defined in the Operating Agreement. The Company may sell properties of DRA’s choice in order to satisfy its obligations to Office Holdings under the Office Holdings put option. Office Holdings will make any required payments of Tax Damages Amounts to the Rollover LPs arising as a result of the sale of one or more Properties in connection with the exercise of Office Holdings’ put option.
Colonial Office Holdings’ common units subject to the put rights are referred to as Redeemable common units and are shown in the accompanying consolidated balance sheet as Temporary Equity-Redeemable common units at its redemption value. The redemption value at December 31, 2007 is $32.2 million, which resulted in an increase in redemption value of approximately $3.1 million during the period ended December 31, 2007.
10.
Related Party Transactions
The Company’s properties are managed by Colonial Properties Services, Inc. (the “Property Manager”), a subsidiary of CRLP. During the term of the management agreements, the Company will pay to the Property Manager a management fee equal to 4% of Gross Receipts as defined by the management agreements and reimbursement for payroll, payroll related benefits and administrative expenses. Management fees incurred by the Company for the period ending December 31, 2007 were approximately, $2.8 million. For the period ending December 31, 2007, the Company reimbursed the Property Manager approximately $2.1 million for payroll, payroll related benefits and administrative costs, and the Company has accrued payroll of approximately $0.2 million.
For the period ended December 31, 2007, the Company paid leasing commissions to the Property Manager of approximately $2.3 million.
For the period ended December 31, 2007, the Company incurred approximately $0.5 million in disposition fees associated with the properties sold in November payable to the Property Manager. These fees are included in Payable to members as of December 31, 2007.
In June 2007, G&I VI and CRLP provided member loans to the Company of approximately $12.4 million and $2.6 million, respectively for closing costs and initial working capital. These loans, which were repaid in July 2007, accrued interest at the rate of 10% per annum. Interest expense in the amount of approximately $0.1 million was incurred during the period ended December 31, 2007 related to those member loans.
DRA/CLP OFFICE LLC and Subsidiaries
Notes to Consolidated Financial Statements
For the Period June 13, 2007 (Inception) to December 31, 2007 - (Continued)
As discussed in Note 6, the Company disposed of its interest in nine office properties totaling 1.7 million square feet located in Huntsville, AL. As part of the transaction, CLP acquired a 40 percent interest in three tenancies in common (TIC) investments of the same nine office properties.
The Company leased space to the Property Manager and its affiliates. For the period from June 13, 2007 (inception) to December 31, 2007, market rent and other income received from the entities total approximately $0.9 million.
The Company entered into a lease renewal and expansion agreement between the Company and the Property Manager during the same period. Tenant Improvement costs of $0.7 million were incurred by the Company for the period ended December 31, 2007 as required by the terms of the lease agreement.
The Company leased space to an entity in which a trustee of CLP has an interest. The Company received market rent from this entity for approximately $0.3 million during the period June 13, 2007 (inception) to December 31, 2007.
11.
Subsequent Events
In December 2007, the Company entered into a sales contract to sell approximately two acres of land in Orlando, Florida to an existing retail tenant who is currently leasing the land. The sales price is $2.25 million and is expected to close during 2008. No gain or loss is anticipated on this sale.
In February 2008, the Company paid distributions to the Members totaling approximately $6.7 million.
Appendix S-2
OZ/CLP Retail LLC and Subsidiaries
Consolidated Financial Statements
For the Period from June 15, 2007 (inception) to December 31,
Report of Independent Registered Public Accounting Firm
To the Members of OZ/CLP Retail LLC:
In our opinion, the accompanying consolidated balance sheet and the related consolidated statements of operations, members’ equity and temporary equity and cash flows present fairly, in all material respects, the financial position of OZ/CLP Retail LLC and its subsidiaries (the “Company”) at December 31, 2007, and the results of their operations and their cash flows for the period from June 15, 2007 (inception) to December 31, 2007 in conformity with accounting principles generally accepted in the United States of America. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit of these statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
/s/ PricewaterhouseCoopers LLP
Birmingham, Alabama
February 29, 2008
OZ/CLP Retail LLC and Subsidiaries
Consolidated Balance Sheet
December 31, 2007 (in thousands)
The accompanying notes are an integral part of these consolidated financial statements.
OZ/CLP Retail LLC and Subsidiaries
Consolidated Statement of Operations
For the Period from June 15, 2007 (inception) to December 31, 2007
(in thousands)
The accompanying notes are an integral part of these consolidated financial statements.
OZ/CLP Retail LLC and Subsidiaries
Consolidated Statement of Members’ Equity and Temporary Equity
For the Period from June 15, 2007 (inception) to December 31, 2007
(in thousands)
The accompanying notes are an integral part of these consolidated financial statements.
OZ/CLP Retail LLC and Subsidiaries
Consolidated Statement of Cash Flows
For the Period from June 15, 2007 (inception) to December 31, 2007
(in thousands)
The accompanying notes are an integral part of these consolidated financial statements.
OZ/CLP Retail LLC and Subsidiaries
Notes to Consolidated Financial Statements
For the Period from June 15, 2007 (inception) to December 31, 2007
1.
Organization and Basis of Presentation
On June 20, 2007, Colonial Properties Trust (“CLP”) completed a joint venture transaction with OZRE Retail LLC. CLP had previously entered into a Membership Interests Purchase Agreement, dated as of April 25, 2007 (the “Retail Purchase Agreement”), to sell to OZRE Retail LLC CLP’s 69.8% limited liability company interest in OZ/CLP Retail LLC (the “Company”), a newly formed joint venture among OZRE Retail LLC (“OZRE”), Colonial Realty Limited Partnership (“CRLP”), an affiliate of CLP, and the limited partners of CRLP. The Company became the owner of 11 retail properties previously owned by CRLP. The properties are owned by limited liability companies (the “subsidiaries”) which are owned directly or indirectly by the Company. Pursuant to the Retail Purchase Agreement, CRLP retained a 15% minority interest in the Company, as well as management and leasing responsibilities for the 11 properties owned by the Company. The Company portfolio is composed of 2.7 million square feet of retail properties located in Alabama, Florida, Georgia, and Texas. In addition to the approximate 69.8% interest purchased from CLP, OZRE purchased an aggregate of 2.7% of the limited liability company interests in the Company from limited partners of CRLP. At December 31, 2007, OZRE now holds approximately 72.5% of the limited liability company interests of the Company; Colonial Retail Holdings LLC (“Retail Holdings”), a subsidiary of CRLP, holds 15% of the limited liability company interests in the Company (and serves as the “Manager” of the Company); and certain limited partners of CRLP (“Rollover LP’s”), that did not elect to sell their interests in the Company to OZRE, hold the remaining approximately 12.5% of the limited liability company interests in the Company.
As of December 31, 2007, the Company owned 11 properties totaling approximately 2.7 million square feet located in Alabama, Florida, Georgia, and Texas.
Operating Agreement - The Company will distribute cash flow from operations for each fiscal quarter first to the holders of any outstanding preferred company units (if any preferred company units are outstanding at the time of such distribution; as of December 31, 2007, there are no preferred company units outstanding), second to the holders of common company units, pro rata, in accordance with their respective percentage interests until the “8% Preferred Return Account” (as defined in the Amended Operating Agreement) of each such holder shall have been reduced to zero, and thereafter; 15% to the Manager (the “Promote Payment”) and 85% to the holders of common company units (including the Manager), pro rata among such holders of common company units in accordance with their respective percentage interests. In the event that members of the Company have a positive balance in their “8% Preferred Return Account” after the final distribution of cash flow following any fiscal year of the Company and the Manager shall have received a Promote Payment with respect to such fiscal year, then within 15 days after such distribution of cash flow, the Manager shall pay to the members pro rata in accordance with their respective percentage interests the lesser of: (i) the aggregate amount of the Promote Payment received by Manager with respect to such preceding fiscal year or (ii) the aggregate amount of the members’ positive balances in their respective 8% Preferred Return Accounts. The actual amount (if any) received by each such member shall reduce the positive balance in their respective 8% Preferred Return Account.
Subject to the provisions of any agreement to which the Company is a party, net capital proceeds from a merger, consolidation or sale of all or substantially all of the properties, from re-financings and other asset sales, and proceeds in liquidation shall be distributed first to the holders of any outstanding preferred company units and thereafter to the holders of common company units, pro rata in accordance with their respective percentage interests. All distributions are subject to any loan or similar agreements to which the Company is a party, and repayment of any Partner Loans made by Retail Holdings. In addition, the Manager is not required to make any distribution of cash to the members if such distribution would cause a default under a loan agreement to which the Company is party.
OZ/CLP Retail LLC and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
2.
Summary of Significant Accounting Policies
Principles of Consolidation - The accompanying consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All significant intercompany accounts and transactions have been eliminated in consolidation.
Land, Buildings and Equipment - Land, buildings, and equipment is stated at the lower of cost, less accumulated depreciation, or fair value. The Company reviews its long-lived assets and certain intangible assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of the asset to future net cash flows expected to be generated by the asset. If an asset is considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the asset exceeds the asset’s fair value. Assets to be disposed of are reported at the lower of their carrying amount or fair value less cost to sell. The Company computes depreciation on its operating properties using the straight-line method based on estimated useful lives, which generally range from 3 to 48 years. Tenant improvements are amortized as an expense over the remaining life of the lease (or charged against earnings if the lease is terminated prior to its contractual expiration date). Repairs and maintenance are charged to expense as incurred. Replacements and improvements are capitalized and depreciated over the estimated remaining useful lives of the assets. The Company recognizes sales of real estate properties only upon the closing of a transaction. Payments received from purchasers prior to closing are recorded as deposits. Profit on real estate sold is recognized using the full accrual method upon closing when the collectibility of the sales price is reasonably assured and the Company is not obligated to perform significant activities after the sale. Profit may be deferred in whole or part until the sale meets the requirements of profit recognition on sales of real estate under SFAS No. 66, Accounting for Sales of Real Estate. Further, the profit is limited by the amount of cash received for which the Company has no commitment to reinvest pursuant to the partial sale provisions found in paragraph 30 of Statement of Position (SOP) 78-9, Accounting for Investments in Real Estate Ventures. There were no sales transactions for the period from June 15, 2007 (inception) to December 31, 2007. Land, buildings and equipment consist of the following as of December 31, 2007:
Depreciation expense for the period from June 15, 2007 (inception) to December 31, 2007 was $5.9 million.
Acquisition of Real Estate Assets - The Company accounts for its acquisitions or investments in real estate in accordance with SFAS No. 141, Business Combinations, which requires the fair value of the real estate acquired to be allocated to the acquired tangible assets, consisting of land, building and tenant improvements, and identified intangible assets and liabilities, consisting of the value of above-market and below-market leases, other value of in-place leases and value of other tenant relationships, based in each case on their fair values. The Company considers acquisitions of operating real estate assets to be “businesses” as that term is contemplated in Emerging Issues Task Force Issue No. 98-3, Determining Whether a Non-Monetary Transaction Involves Receipt of Productive Assets or of a Business.
The Company allocates purchase price to the fair value of the tangible assets of an acquired property (which includes the land and building) determined by valuing the property as if it were vacant. The “as-if-vacant” value is allocated to land and buildings based on management’s determination of the relative fair values of these assets. The Company also allocates value to tenant improvements based on the estimated costs of similar tenants with similar terms.
OZ/CLP Retail LLC and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
Above-market and below-market in-place lease values for acquired properties are recorded based on the present value (using an interest rate that reflects the risks associated with the leases acquired) of the difference between (i) the contractual amounts to be paid pursuant to the in-place leases and (ii) management’s estimate of fair market lease rates for the corresponding in-place leases, measured over a period equal to the remaining non-cancelable term of the lease. The capitalized above-market lease values are amortized as a reduction of rental income over the remaining non-cancelable terms of the respective leases. The capitalized below-market lease values are amortized as an increase to rental income over the initial term and any fixed-rate renewal periods in the respective leases. These above (below) market lease intangibles have a weighted-average composite life of 9.5 years as of December 31, 2007.
The value associated with in-place leases and tenant relationships is amortized as a leasing cost over the initial term of the respective leases and any probability-weighted renewal periods. The initial term and any probability-weighted renewal periods have a current weighted average composite life of 6.4 years. If a tenant vacates its space prior to the contractual termination of the lease and no rental payments are being made on the lease, any unamortized balance of the related intangibles will be written off.
The aggregate value of other intangible assets acquired are measured based on the difference between (i) the property valued with existing in-place leases adjusted to market rental rates and (ii) the property valued as if vacant. The Company may engage independent third-party appraisers to perform these valuations and those appraisals use commonly employed valuation techniques, such as discounted cash flow analyses. Factors considered in these analyses include an estimate of carrying costs during hypothetical expected lease-up periods considering current market conditions, and costs to execute similar leases. The Company also considers information obtained about each property as a result of its pre-acquisition due diligence, marketing and leasing activities in estimating the fair value of the tangible and intangible assets acquired. In estimating carrying costs, management also includes real estate taxes, insurance and other operating expenses and estimates of lost rentals at market rates during the expected lease-up periods depending on specific local market conditions and depending on the type of property acquired. Management also estimates costs to execute similar leases including leasing commissions, legal and other related expenses to the extent that such costs are not already incurred in connection with a new lease origination as part of the transaction.
The total amount of other intangible assets acquired is further allocated to in-place leases, which includes other tenant relationship intangible values based on management’s evaluation of the specific characteristics of each tenant’s lease and the Company’s overall relationship with that respective tenant. Characteristics considered by management in allocating these values include the nature and extent of the Company’s existing business relationships with the tenant, growth prospects for developing new business with the tenant, the tenant’s credit quality and expectations of lease renewals (including those existing under the terms of the lease agreement or management’s expectation for renewal), among other factors.
The values of in-place leases and tenant relationships are amortized as a leasing cost expense over the initial term of the respective leases and any renewal periods. In no event does the amortization period for intangible assets exceed the remaining depreciable life of the building. Should a tenant terminate its lease, the unamortized portion of the in-place lease value and customer relationship intangibles would be charged to expense. Amortization expense for in-place lease intangible assets for the period from June 15, 2007 (inception) to December 31, 2007 was approximately $2.5 million.
The Company may pursue acquisition opportunities and will not be successful in all cases. Costs incurred related to these acquisition opportunities are expensed when it is no longer probable that the Company will be successful in the acquisition.
Cash and Cash Equivalents - The Company considers all highly liquid investments with original maturities of three months or less when purchased to be cash equivalents.
As of December 31, 2007, the Company maintained approximately $3.9 million with one financial institution which exceeds the FDIC insured limits.
OZ/CLP Retail LLC and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
Restricted Cash - Restricted cash is comprised of cash balances which are legally restricted as to use and consists of escrowed funds for future capital improvements.
Accounts Receivable and Allowance for Doubtful Accounts - Accounts receivable consist of receivables from tenants for rent and other charges, recorded according to the terms of their leases. The Company maintains an allowance for doubtful accounts for estimated losses due to the inability of its tenants to make required payments for rents and other rental services. In assessing the recoverability of these receivables, the Company makes assumptions regarding the financial condition of the tenants based primarily on past payment trends and certain financial information that tenants submit to the Company. As of December 31, 2007, allowance for doubtful accounts amounted to approximately $105,000. The Company may or may not require collateral for tenant receivables.
Deferred Lease Costs and Mortgage Costs - Deferred leasing costs and leasing costs acquired at inception consist of legal fees and brokerage costs incurred to initiate and renew operating leases and are amortized on a straight-line basis over the related lease term. Deferred financing costs represent commitment fees, legal and other third party costs associated with obtaining commitments for financing which result in a closing of such financing. These costs are amortized on a straight-line basis over the terms of the respective loan agreements, which approximates the effective interest method. Unamortized deferred financing costs are expensed when the associated debt is refinanced or repaid before maturity. Deferred costs as of December 31, 2007 consist of the following:
Impairment and Disposal of Long-Lived Assets - The Company follows SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” In accordance with SFAS 144, the results of operations of real estate held for sale and real estate sold during the year are presented in discontinued operations. The Company no longer records depreciation and amortization on assets held for sale. The Company assesses impairment of long-lived assets whenever changes or events indicate that the carrying value may not be recoverable. The Company assesses impairment of operating properties based on the operating cash flows of the properties. In performing its assessment, the Company makes assumptions regarding estimated future cash flows and other factors to determine the fair value of the respective assets. For the period from June 15, 2007 (inception) to December 31, 2007, no impairment charges were recorded.
Revenue Recognition - Rental revenue is recognized on a straight-line basis over the term of the lease. The excess of rents recognized over amounts contractually due pursuant to the underlying leases is included in Other assets on the accompanying balance sheet with a balance of approximately $336,000 at December 31, 2007. The Company establishes, on a current basis, an allowance for future potential tenant credit losses which may occur against this account. As of December 31, 2007, the allowance was approximately $18,000.
In addition to base rent, tenants also generally will pay their pro rata share in real estate taxes and operating expenses for the building. In certain leases, in lieu of paying additional rent based upon building operating expenses, the tenant will pay additional rent based upon increases in the consumer price index over the index value in effect during a base year. In addition, certain leases contain fixed percentage increases over the base rent to cover escalations.
Income Taxes - No provision or benefit for income taxes has been included in the consolidated financial statements because such taxable income or loss passes through to, and is reportable by, the members of the Company.
OZ/CLP Retail LLC and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
Fair Value of Financial Instruments - The Company believes the carrying amount of its temporary investments, tenant receivables, accounts payable and other liabilities is a reasonable estimate of fair value of these instruments. Based on estimated market interest rates of approximately 6.5% at December 31, 2007, the fair value of the Company’s mortgage payable is approximately $281.2 million as of December 31, 2007.
Estimates - The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires the Company to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, and expenses and the disclosure of contingent assets and liabilities. These estimates are based on historical experience and various other factors that are believed to be reasonable under the circumstances. However, actual results could differ from the Company’s estimates under different assumptions or conditions. On an ongoing basis, the Company evaluates the reasonableness of its estimates.
Redeemable Common Units - In accordance with EITF Summary Topic D-98, Classification and Measurement of Redeemable Securities, the Company has elected to recognize changes in the redemption value of the Redeemable Common Units immediately as they occur and to adjust the carrying value to equal the redemption value at the end of each reporting period. The accrued changes are reflected in the Consolidated Statement of Members’ Equity and Temporary Equity as Changes in Redemption Value of Redeemable Common Units.
Recent Accounting Pronouncements - In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements. SFAS 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles and expands disclosures about fair value measurements. SFAS 157 is effective for financial assets and liabilities on January 1, 2008. In February 2008, the FASB reached a conclusion to defer the implementation of the SFAS 157 provisions relating to non-financial assets and liabilities until January 1, 2009. The FASB also reached a conclusion to amend SFAS 157 to exclude SFAS 13 Accounting for Leases and its related interpretive accounting pronouncements. The FASB has proposed a deferral of the provisions of SFAS 157 relating to nonfinancial assets and liabilities that would delay implementation until January 1, 2009. SFAS 157 is not expected to materially affect how the Company determines fair value, but may result in certain additional disclosures.
In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities - including an amendment of FASB Statement No. 115. SFAS No. 159 permits entities to choose to measure many financial instruments and certain other items at fair value. Unrealized gains and losses on items for which the fair value option has been elected will be recognized in earnings at each subsequent reporting date. The provisions of SFAS No. 159 are effective for fiscal years beginning after November 15, 2007. The adoption of SFAS No. 159 is not expected to have a material impact on the Company’s consolidated financial statements.
3.
Business Combination
On June 20, 2007, the Company purchased a portfolio of properties comprised of 11 retail properties in Alabama, Florida, Georgia, and Texas. The operations of these properties have been included in the consolidated financial statements since that date. The acquisitions are being accounted for under the purchase method of accounting. The purchase price of approximately $358.8 million (net of cash acquired of approximately $3.0 million) was allocated to the net assets acquired based upon the estimated fair values at the date of acquisition. The
OZ/CLP Retail LLC and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
following summarizes the estimated fair values of the assets acquired and liabilities assumed at the date of acquisition. The Company closed the allocation period as of December 31, 2007. The final allocation is as follows:
The Company allocated the purchase price to acquired tangible and intangible assets, including land, buildings, tenant improvements, above and below market leases, acquired in-place leases, other assets and assumed liabilities in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 141, Business Combinations. The allocation to intangible assets is based upon various factors including the above or below market component of in-place leases, the value of in-place leases and the value of customer relationships, if any. The value allocable to the above or below market component of an acquired in-place lease is determined based upon the present value (using an interest rate which reflects the risks associated with the lease) of the difference between (i) the contractual amounts to be paid pursuant to the lease over its remaining term, and (ii) management’s estimate of the amounts that would be paid using current fair market rates over the remaining term of the lease. The allocation of the purchase price to tangible assets is based upon management’s determination of the value of the property as if it were vacant using discounted cash flow models. Factors considered by management include an estimate of carrying costs during the expected lease-up periods considering current market conditions and costs to execute similar leases. Differing assumptions and methods could have resulted in different estimates of fair value and thus, a different purchase price allocation and corresponding increase or decrease in depreciation and amortization expense.
4.
Intangibles
For the period from June 15, 2007 (inception) to December 31, 2007, the Company recognized a net increase of approximately $0.5 million in rental revenue for the amortization of above and below market leases. The Company recognized approximately $2.5 million of amortization of in-place leases for the period from June 15, 2007 (inception) to December 31, 2007.
Future amortization of acquired in-place leases and above (below) market leases for each of the next five years and thereafter is estimated as follows:
OZ/CLP Retail LLC and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
5.
Mortgage Payable
The Company has a non-recourse loan with an amount of approximately $284 million outstanding on December 31, 2007 payable to Key Bank Real Estate Capital (“Key Bank”). This loan was made in two advances (i) an advance in the amount of approximately $187.2 million on June 15, 2007, (ii) an advance in the amount of approximately $96.8 million on July 23, 2007. The loan is interest only and bears monthly interest at a fixed rate of 6.312%. The loan matures on August 6, 2014 and is collateralized by certain properties. Interest expense in the amount of $9.7 million was incurred during the period from June 15, 2007 (inception) to December 31, 2007.
6.
Leases
The Company’s operations consist principally of owning and leasing retail space. Terms of the leases generally range from 5 to 10 years. The Company principally pays all operating expenses, including real estate taxes and insurance. Substantially all of the Company’s leases are subject to rent escalations based on changes in the Consumer Price Index, fixed rental increases or increases in real estate taxes and certain operating expenses. A substantial number of leases contain options that allow leases to renew for varying periods. The Company’s leases are operating leases and expire at various dates through 2024. The future minimum fixed base rentals under these noncancelable leases are approximately as follows:
7.
Commitments and Contingencies
The Company is a party to various legal proceedings incidental to its business. In the opinion of management, after consultation with legal counsel, the ultimate liability, if any, with respect to those proceedings is not presently expected to materially affect the financial position or results of operations or cash flows of the Company.
Property Lockout Period
Unless CRLP and OZRE unanimously agree, the Company will not during the three-year period following the effective date of the Amended Operating Agreement (referred to herein as the “Lockout Period”) sell or otherwise transfer or dispose of, directly or indirectly, any Property.
Tax Protection
Certain events or actions by the Company could cause Rollover LPs to recognize for federal income tax purposes part or all of such Rollover LPs’ gain that was deferred at the time of the transactions. The Amended Operating Agreement provides for limited “tax protection” benefits for Rollover LPs, subject to those exceptions described below in the sections entitled “Rollover LP Put Rights,” and “Rollover LP Redemption in Kind.”
During the period ending seven years and one month following the effective date of the Amended Operating Agreement (the “Tax Protection Period”), the Company may not, directly or indirectly, (i) take any action, including a sale or disposition of all or any portion of its interest in certain designated Properties (the “Protected Properties”) if any Rollover LP would be required to recognize gain for federal income tax purposes pursuant to Section 704(c) of the Code with respect to the Protected Properties as a result thereof, or (ii) undertake a merger, consolidation or other combination of the Company or any of its subsidiaries with or into any other entity, a transfer of all or substantially all of the assets of the Company, a reclassification, recapitalization or change of the outstanding equity
OZ/CLP Retail LLC and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
interests of the Company or a conversion of the Company into another form of entity, unless the Company pays to each Rollover LP its “Tax Damages Amount.” The “Tax Damages Amount” to be paid to the Rollover LPs is an amount generally equal to the sum of (A) the built-in gain (i.e., generally, the gain Rollover LPs would recognize on a sale at the time of the Transaction) attributable to the Protected Property recognized by the affected Rollover LP, multiplied by the maximum combined federal and applicable state and local income tax rates for the taxable year in which the disposition occurs and applicable to the character of the resulting gain, plus (B) a “gross-up” amount equal to the taxes (calculated at the rates described in the Amended Operating Agreement which, generally, are the rates that the Rollover LP will be subject to at the time of a recognition event) payable by a Rollover LP as the result of the receipt of such payment.
8.
Redeemable Common Units
Rollover LP Put Rights
Each Rollover LP will have the right to require the Company to buy some or all, but not less than 1,000 (or the remainder, if such Rollover LP has less than 1,000), of its common Company Units during an Annual Redemption Period (as defined in the Amended Operating Agreement) for a purchase price equal to the “Redemption Value.” The “Redemption Value” of Rollover LP company units will equal, during the first Annual Redemption Period, such Rollover LP’s capital account (determined in accordance with Section 704(c) of the Code), and for every Annual Redemption Period thereafter, the fair market value of such common company units, which shall be equal to the product of (x) the percentage interest represented by such company units times (y) an amount equal to (i) the aggregate fair market value of the Properties, plus (ii) the net current assets of the Company, minus (iii) the principal amount of the indebtedness of the Company and its subsidiaries, minus (iv) the aggregate liquidation preference of any preferred company units then outstanding, minus (v) an amount equal to 1.0% of the amount in clause (y) as an estimate of sales cost in connection with the sale of such properties.
The fair market value of the Properties during any Annual Redemption Period from and after the second Annual Redemption Period will be based on an independent appraisal obtained by the Manager (which shall not be older than 15 months). The Rollover LP’s common units subject to the put rights are referred to as Redeemable common units and are shown in the accompanying consolidated balance sheet as Temporary Equity-Redeemable common units at its redemption value. The redemption value at December 31, 2007 is $9.8 million, which resulted in an increase in redemption value of approximately $0.6 million during the period from June 15, 2007 (inception) to December 31, 2007.
Rollover LP Redemption in Kind
At any time after the seven years and one month following the effective date of the Amended Operating Agreement, if the Company proposes the sale of all or substantially all of the Properties in one or a series of related transactions, the Manager will provide the Rollover LPs written notice of proposed sale (an “Asset Sale Notice”). Any Rollover LP or a group of Rollover LPs holding in the aggregate a number of company units greater than or equal to the number of common company units with an aggregate purchase price of $3 million under the Purchase Agreements may require the Company to redeem all, but not less than all, of such Rollover LPs’ Company Units in exchange for one or more Properties owned by the Company for at least two years (or at the option of such Rollover LPs, in membership interests in entities the sole assets of which are Properties) (a “Property Redemption”). If such Rollover LP or group of Rollover LPs do not notify the Manager in writing of their decision to request a Property Redemption within 15 days of the date of the asset sale notice, then such Rollover LPs shall be considered not to have elected to participate in a property redemption. The redemption price for the company units being redeemed (the “Cash Amount”) shall equal the fair market value of the company units being redeemed, which shall be an amount equal to the percentage interest represented by such company units, multiplied by (i) the aggregate fair market value of the properties, plus (ii) the net current assets of the Company, minus (iii) the principal amount of the indebtedness of the Company and its subsidiaries, minus (iv) the aggregate liquidated preference of any company units then outstanding, minus (v) an amount equal to 1.0% of the amount in clause (i) as an estimate of sales cost in
OZ/CLP Retail LLC and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
connection with the sale of such properties. The fair market value of the properties in clause (i) shall be the fair market value determined in accordance with the valuation method described under “Rollover LP Put Rights” above.
9.
Related Party Transactions
The Company’s properties are managed by Colonial Properties Services, Inc. (the “Property Manager”), an affiliate of CRLP. During the term of the management agreements, the Company will pay to the Property Manager a management fee equal to 4% of gross receipts as defined by the management agreements and reimbursement for payroll, payroll related benefits and administrative expenses. Management fees incurred by the Company for the period from June 15, 2007 (inception) to December 31, 2007 were approximately, $0.7 million. For the period from June 15, 2007 (inception) to December 31, 2007, the Company reimbursed the Property Manager approximately $0.4 million for payroll, payroll related benefits and administrative costs, and the Company has accrued payroll of approximately $28,000.
The Company received payments from the Manager of approximately $0.2 million related to a master lease agreement for tenant space at one of the properties.
In June 2007, CRLP provided a member loan to the Company of approximately $5 million for closing costs and initial working capital. This loan accrued interest at the rate of 8% per annum and was repaid in July 2007. Interest expense in the amount of approximately $36,000 was incurred during the period from June 15, 2007 (inception) to December 31, 2007.
10.
Subsequent Events
In February 2008, the Company paid distributions to the members totaling approximately $1.3 million.
Appendix S-3
SCHEDULE III
COLONIAL PROPERTIES TRUST
REAL ESTATE INVESTMENTS AND ACCUMULATED DEPRECIATION
DECEMBER 31, 2007
NOTES TO SCHEDULE III
COLONIAL PROPERTIES TRUST
December 31, 2007
(1)
See description of mortgage notes payable in Note 11 of Notes to Consolidated Financial Statements.
(2)
The aggregate cost for Federal Income Tax purposes was approximately $1.8 billion at December 31, 2007.
(3)
Amounts include real estate assets classified as held for sale at December 31, 2007.
(4)
During 2007, the Company is leasing the remaining units at these previously classified condominium conversions.
(5)
These projects are net of an impairment charge of approximately $43 millon which was recorded during 2007.
(6)
The following is a reconciliation of real estate to balances reported at the beginning of the year:
Reconciliation of Real Estate
Reconciliation of Accumulated Depreciation
(a)
This amount is net of an impairment charge of approximately $43 million which was recorded during 2007.
Colonial Properties Trust
Index to Exhibits