ITEM 1. BUSINESS
GENERAL
Koger Equity, Inc. ("KE") is a self-administered and self-managed equity real estate investment trust (a "REIT") which develops, owns, operates and manages suburban office buildings (the "Office Buildings") primarily located in 22 office centers (each a "Koger Center") located in 15 metropolitan areas throughout the southeastern and southwestern United States. As of December 31, 1999, KE owns 218 Office Buildings, of which 214 are in Koger Centers and four are outside Koger Centers but in metropolitan areas where Koger Centers are located. Koger-Vanguard Partners, L.P. ("KVP") is a limited partnership, for which KE is the general partner, which owns suburban office buildings located in a Koger Center. As of December 31, 1999, KVP owns 13 Office Buildings. The Office Buildings contain approximately 9.8 million net rentable square feet and were on average 93 percent leased as of December 31, 1999. During 1999, KE began construction of three buildings, which will contain approximately 216,900 net rentable square feet and will be ready for occupancy at various times throughout 2000. While KE expects to continue the development of suburban office properties for its own account, it may from time to time acquire developed properties compatible with its properties in other markets primarily in the Southeast and Southwest if such acquisitions can be made on terms favorable to KE.
KE owns approximately 122 acres of unencumbered land held for development and approximately 17 acres of unencumbered land held for sale. A majority of the land held for development adjoins Office Buildings in 12 Koger Centers, which have infrastructure, including roads and utilities, in place. KE intends over time to develop and construct office buildings using this land and currently has six buildings under construction on approximately 33 acres of the 122 acres of land held for development. KE expects to acquire additional land for development. In addition, KE provides leasing, management and other customary tenant-related services for the Koger Centers.
In addition to managing its own properties, KE provides property management services through its wholly-owned subsidiaries, Southeast Properties Holding Corporation ("Southeast") and Koger Real Estate Services, Inc. ("KRES"), for office buildings owned by unaffiliated parties. In conjunction with KRES, KE currently manages eight office buildings, containing approximately 440,000 net rentable square feet, owned by Centoff Realty Company, Inc. ("Centoff"), a subsidiary of Morgan Guaranty Trust Company of New York (KE, KVP, Southeast and KRES are hereafter referred to as the "Company").
KE operates in a manner to qualify as a REIT under the provisions of the Internal Revenue Code of 1986, as amended (the "Code"). As a REIT, the Company will not, with certain limited exceptions, be taxed at the corporate level on taxable income distributed to its shareholders on a current basis. The Company distributes at least 95 percent of its annual REIT taxable income (which term is used herein as defined and modified in the Code) to its shareholders. To qualify as a REIT, a corporation must meet certain substantive tests: (a) at least 95 percent of its gross income must be derived from certain passive and real estate sources; (b) at least 75 percent of its gross income must be derived from certain real estate sources; (c) at the close of each calendar quarter, it must meet certain tests designed to ensure that its assets consist principally (at least 75 percent by value) of real estate assets, cash and cash equivalents and that its holdings of securities are adequately diversified; (d) each year, it must distribute at least 95 percent of its REIT taxable income; and (e) at no time during the second half of any calendar year may the Company be "closely held" (i.e., have more than 50 percent in value of its outstanding stock owned, directly, indirectly or constructively, by not more than five individuals). The constructive ownership rules, among other things, treat the shareholders of a corporation as owning proportionately any stock in another corporation owned by the first corporation. Management fee revenue does not qualify as real estate or passive income for purposes of determining whether the Company has met the REIT requirements that at least 95 percent of the Company's gross income be derived from certain real estate and passive sources and that at least 75 percent of its gross income be derived from certain real estate sources. Accordingly, in the event the Company derives income in excess of five percent from management and other "non-real estate" and "non-passive" activities, the Company would no longer qualify as a REIT for federal income tax purposes and would be required to pay federal income taxes as a business corporation.
No tenant leases more than 10 percent of the net rentable area of the Company's buildings. However, a major governmental tenant, when all of its respective departments and agencies which lease space in the Company's buildings are combined, contributes more than 10 percent of the Company's annualized rentals as of December 31, 1999. At that date, the State of Florida accounted for an aggregate of 10.9 percent of the Company's total annualized rental revenues. Some of the Company's principal tenants are the State of Florida, the United States of America, Blue Cross and Blue Shield of Florida, United Healthcare, Landstar System Holdings, Wellspring Resources, General Electric, Ford Motors, Hoechst Celanese Corp. and Hanover Insurance. Governmental tenants (including the State of Florida and the United States of America), which account for 19.3 percent of the Company's leased space, may be subject to budget reductions in times of recession and governmental austerity measures. There can be no assurance that governmental appropriations for rents may not be reduced. Additionally, certain private-sector tenants, which have contributed to the Company's rent stream, may reduce their current demands, or curtail their future need, for additional office space.
COMPETITION
The Company competes in the leasing of office space with a considerable number of other realty concerns, including local, regional and national, some of which have greater resources than the Company. Through its ownership and management of suburban office parks, the Company seeks to attract tenants by offering office space convenient to residential areas. In recent years local, regional and national concerns have built competing office parks and single buildings in suburban areas in which the Company's Office Buildings are located. In addition, the Company competes for tenants with large high-rise office buildings generally located in the downtown business districts of these metropolitan areas. Although competition from other lessors of office space varies from city to city, the Company has been able to attain and maintain what it considers satisfactory occupancy levels at satisfactory rental rates.
INVESTMENT POLICIES
The Company is currently in a position to capitalize on some of its strengths, such as the value of its franchise in the suburban office park market and its operating systems, development expertise, acquisition expertise and unimproved land available for development. The Company intends to continue to develop and construct office buildings primarily using its existing inventory of 122 acres of land held for development, most of which is partially or wholly improved with streets and/or utilities and is located in various metropolitan areas where the Company currently operates suburban office parks. The Company may also acquire existing office buildings or additional land for development in other markets primarily in the Southeast and Southwest that the Company considers favorable. Although all of the Company's properties are located in the Southeast and Southwest, management does not consider that the Company's development and acquisitions activities are limited to any particular area. The Company may also sell Office Buildings or Koger Centers located in certain markets. In addition, the Company has adopted a plan to repurchase up to 2.65 million shares of its common stock.
The investment policies of the Company may be changed by its directors at any time without notice to, or a vote of, shareholders. Although the Company has no fixed policy which limits the percentage of its assets which may be invested in any one type of investment or the geographic areas in which the Company may acquire properties, the Company intends to continue to operate so as to qualify for tax treatment as a REIT. The Company may in the future invest in other types of office buildings, apartment buildings, shopping centers, and other properties. The Company also may invest in the securities (including mortgages) of companies primarily engaged in real estate activities; however, it does not intend to become an investment company regulated under the Investment Company Act of 1940.
For the year ended December 31, 1999, all of the Company's rental revenues were derived from buildings purchased or constructed by the Company. The Company's 1999 interest revenues were derived from temporary cash investments.
EMPLOYEES
The Company has a combined financial, administrative, leasing, and center maintenance staff of 227 employees. A resident general manager is responsible for the leasing and operations of all buildings in a Koger Center or metropolitan area. The Company has approximately 92 employees who perform maintenance activities.
ITEM 2.
ITEM 2. PROPERTIES
GENERAL
As of December 31, 1999, the Company owns 218 Office Buildings located in the 15 metropolitan areas of Birmingham, Alabama; Jacksonville, Orlando, St. Petersburg, and Tallahassee, Florida; Atlanta, Georgia; Charlotte and Greensboro, North Carolina; Tulsa, Oklahoma; Greenville, South Carolina; Memphis, Tennessee; Austin, El Paso, and San Antonio, Texas; and Richmond, Virginia. In addition, the Company has six buildings under construction. The Koger Centers have been developed in campus-like settings with extensive landscaping and ample tenant parking. The Office Buildings are generally one to five-story structures of contemporary design and constructed of masonry, concrete and steel, with facings of brick, concrete and glass. The Koger Centers are generally located with easy access, via expressways, to the central business district and to shopping and residential areas in the respective communities. The properties are well maintained and adequately covered by insurance.
Leases on the Office Buildings vary between net leases (under which the tenant pays some operating expenses, such as utilities, insurance and repairs) and gross leases (under which the Company pays all such items). Most leases are on a gross basis and are for terms generally ranging from three to five years. In some instances, such as when a tenant rents the entire building, leases are for terms of up to 20 years. As of December 31, 1999, the Office Buildings were on average 93 percent leased and the average annual rent per net rentable square foot leased was $16.79. The buildings are occupied by numerous tenants (approximately 2,300 leases), many of whom lease relatively small amounts of space, conducting a broad range of commercial activities.
New leases and renewals of existing leases are negotiated at the current market rate at the date of execution. The Company endeavors to include escalation provisions in all of its gross leases. As of December 31, 1999, approximately 18 percent of the Company's annualized gross rental revenues were derived from existing leases containing rental escalation provisions based upon changes in the Consumer Price Index (some of which contain maximum rates of increases); approximately 78 percent of such revenues were derived from leases containing escalation provisions based upon fixed steps or real estate tax and operating expense increases; and approximately 4 percent of such revenues were derived from leases without escalation provisions. Some of the Company's leases contain options which allow the lessee to renew for varying periods, generally at the same rental rate and subject, in most instances, to Consumer Price Index escalation provisions.
The Company owns approximately 149 acres of unimproved land (122 acres held for development, 17 acres held for sale and 10 acres not suitable for development) located in the metropolitan areas of Birmingham, Alabama; Jacksonville, Orlando and St. Petersburg, Florida; Atlanta, Georgia; Charlotte and Greensboro, North Carolina; Tulsa, Oklahoma; Columbia and Greenville, South Carolina; Memphis, Tennessee; Austin, Texas; and Richmond, Virginia. Each of these parcels of land has been partially or wholly developed with streets and/or utilities. The Company currently has six buildings under construction on approximately 33 acres of this unimproved land.
PROPERTY LOCATION AND OTHER INFORMATION
The following table sets forth information relating to the properties owned by the Company as of December 31, 1999.
(1) The age of each building was weighted by the net rentable square feet for such building to determine the weighted average age of (a) the buildings in each Koger Center or location and (b) all buildings owned by the Company. (2) The Company currently has a building under construction on approximately 3.8 acres of this parcel. (3) The Company currently has a building under construction on approximately 7.0 acres of this parcel. (4) The Company currently has a building under construction on approximately 6.9 acres of this parcel. (5) The Company currently has a building under construction on approximately 4.8 acres of this parcel. (6) The Company currently has a building under construction on approximately 4.6 acres of this parcel. (7) The Company currently has a building under construction on approximately 5.8 acres of this parcel.
PERCENT LEASED AND AVERAGE RENTAL RATES
The following table sets forth, with respect to each Koger Center or location, the number of buildings, number of leases, net rentable square feet, percent leased, and the average annual rent per net rentable square foot leased, in each case as of December 31, 1999.
(1) The percent leased rates have been calculated by dividing total net rentable square feet leased in a building by net rentable square feet in such building, which excludes public or common areas. (2) Rental rates are computed by dividing (a) total annualized base rents (which excludes expense pass-throughs and reimbursements) for a Koger Center or location as of December 31, 1999 by (b) the net rentable square feet applicable to such total annualized base rents. (3) Includes a building which is currently in the lease-up period. (4) Excludes corporate office space from calculation. Includes the effect of three net leases where tenants lease the entire building and pay certain operating costs in addition to base rent.
LEASE EXPIRATIONS ON THE COMPANY'S PROPERTIES
The following schedule sets forth with respect to all of the Office Buildings (a) the number of leases which will expire in calendar years 2000 through 2008, (b) the total net rentable area in square feet covered by such leases, (c) the percentage of total net rentable square feet leased represented by such leases, (d) the average annual rent per square foot for such leases, (e) the current annualized rents represented by such leases, and (f) the percentage of gross annualized rents contributed by such leases. This information is based on the buildings owned by the Company on December 31, 1999 and on the terms of leases in effect as of December 31, 1999, on the basis of then existing base rentals, and without regard to the exercise of options to renew. Furthermore, the information below does not reflect that some leases have provisions for early termination for various reasons, including, in the case of government entities, lack of budget appropriations. Leases were renewed on approximately 66 percent, 60 percent and 65 percent of the Company's net rentable square feet, which were scheduled to expire during 1999, 1998 and 1997, respectively.
BUILDING IMPROVEMENTS, TENANT IMPROVEMENTS AND DEFERRED TENANT COSTS ON THE COMPANY'S PROPERTIES
The following table sets forth certain information with respect to the building improvements made, and tenant improvement costs and deferred tenant costs (leasing commissions and tenant relocation costs) incurred, by the Company during the three years ended December 31, 1999. The information set forth below is not necessarily indicative of future expenditures for these items.
(1) Excludes the two buildings for which construction was completed during 1997. (2) Excludes the eight buildings for which construction was completed during 1997 and 1998. (3) Excludes the 14 buildings for which construction was completed during 1997, 1998 and 1999.
FIXED RATE INDEBTEDNESS ON THE COMPANY'S PROPERTIES
The following table sets forth with respect to each Koger Center or location the principal amount (dollars in thousands) of, and the weighted average interest rate on, the indebtedness of the Company having a fixed interest rate and encumbering the Company's properties in such Koger Center or location as of December 31, 1999.
For additional information on these loans see Note 3, "Mortgages and Loans Payable" of the Notes to Consolidated Financial Statements.
INDEBTEDNESS WITH VARIABLE INTEREST RATES
As of December 31, 1999, the Company had a $150 million secured revolving credit facility with variable interest rates and encumbering certain of the Company's properties. The following table sets forth historical information with respect to indebtedness having variable interest rates (dollars in thousands):
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
None.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Effective March 9, 2000, the Company's common stock is listed on the New York Stock Exchange under the ticker symbol KE. Prior to that date, the Company's common stock was listed on the American Stock Exchange. The high and low closing sales prices for the periods indicated in the table below were:
Any dividend paid in respect of the Company's common stock during the last quarter of each year will, if necessary, be adjusted to satisfy the REIT qualification requirement that at least 95 percent of the Company's REIT taxable income for such taxable year be distributed. The Company's secured revolving credit facility requires the Company to maintain certain financial ratios, which includes a limitation on dividends. However, this covenant does not restrict the Company from paying the dividends required to maintain its qualification as a REIT.
Set forth below are the dividends per share paid during the three years ended December 31, 1999.
On February 3, 2000, the Company paid a quarterly dividend of $0.35 per share to shareholders of record on December 31, 1999. In addition, the Company's Board of Directors has declared a quarterly dividend of $0.35 per share payable on May 4, 2000, to shareholders of record on March 31, 2000.
On March 1, 2000, there were approximately 1,227 shareholders of record and the closing price of the Company's common stock on the American Stock Exchange was $16.5625.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
The following selected financial data should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations" and the Consolidated Financial Statements (as defined below) and the notes thereto.
(1) The Company believes that Funds from Operations is one measure of the performance of an equity REIT. Funds from Operations should not be considered as an alternative to net income as an indication of the Company's financial performance or to cash flow from operating activities (determined in accordance with GAAP) as a measure of the Company's liquidity, nor is it necessarily indicative of sufficient cash flow to fund all of the Company's needs. Funds from Operations is calculated as follows (in thousands):
The 1995 calculated Funds from Operations includes $13,066 of interest revenue associated with mortgage notes, which KE acquired during 1995. These mortgage notes were retired during 1995.
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with the selected financial data and the consolidated financial statements (the "Consolidated Financial Statements") appearing elsewhere in this report. Historical results and percentage relationships in the Consolidated Financial Statements, including trends which might appear, should not be taken as indicative of future operations or financial position. The Consolidated Financial Statements include the accounts of KE, Southeast, KRES and KVP (collectively, the "Company").
GENERAL
The Company has prepared, and is responsible for, the accompanying Consolidated Financial Statements and the related consolidated financial information included in this report. Such Consolidated Financial Statements were prepared in accordance with generally accepted accounting principles and include amounts determined using management's best judgments and estimates of the expected effects of events and transactions that are being accounted for currently.
The Company's independent auditors have audited the accompanying Consolidated Financial Statements. The objective of their audit, conducted in accordance with generally accepted auditing standards, was to express an opinion on the fairness of presentation, in all material respects, of the Company's consolidated financial position, results of operations, and cash flows in conformity with generally accepted accounting principles. They evaluated the Company's internal control structure to the extent considered necessary by them to determine the audit procedures required to support their report on the Consolidated Financial Statements and not to provide assurance on such structure.
The Company maintains accounting and other control systems which management believes provide reasonable assurance that the Company's assets are safeguarded and that the Company's books and records reflect the authorized transactions of the Company, although there are inherent limitations in any internal control structure, as well as cost versus benefit considerations. The Audit Committee of the Company's Board of Directors, which is composed exclusively of directors who are not officers of the Company, directs matters relating to audit functions, annually appoints the auditors subject to ratification of the Company's Board of Directors, reviews the auditors' independence, reviews the scope and results of the annual audit, and periodically reviews the adequacy of the Company's internal control structure with its external auditors, its internal auditors and its senior management.
RESULTS OF OPERATIONS
RENTAL REVENUES. Rental revenues increased $22,390,000 or 16.8 percent from the year ended December 31, 1998 to the year ended December 31, 1999. This increase resulted primarily from (i) the increase in the Company's average rental rate and (ii) increases in the rental revenues ($19,281,000) from properties acquired and construction completed during 1998 and 1999. For 1998, rental revenues increased $24,152,000 or 22.2 percent from the year ended December 31, 1997. This increase resulted primarily from (i) increases in the Company's average rental rate and (ii) increases in the rental revenues ($18,915,000) from properties acquired and construction completed during 1997 and 1998. As of December 31, 1999, the Company's buildings were on average 93 percent leased. As of December 31, 1998 and 1997, the buildings owned by the Company were on average 90 and 92 percent leased, respectively.
MANAGEMENT FEE REVENUES. For 1999, management fee revenues increased $107,000, as compared to 1998, due primarily to an increase in construction management fees earned. During March 1999, Centoff sold one of the centers for which the Company had provided property management services. The Company earned management fee revenues totaling $194,000 for the management and leasing of this property during 1999. Another agreement to manage one commercial office building was terminated by the Company during February 1999. The Company earned fees of $82,000 for the management of this building during 1999. Management fee revenues decreased $360,000 for 1998, as compared to 1997, due primarily to a decrease in leasing fees earned under the Centoff management contract.
INCOME FROM KOGER REALTY SERVICES, INC. For 1999, income from Koger Realty Services, Inc. decreased $597,000, as compared to 1998, due primarily to an increase in the accrual for compensation expense related to a bonus plan which is based on KE's common stock price. Income from Koger Realty Services, Inc. increased $1,119,000 for 1998, as compared to 1997, due primarily to the decrease in the accrual for compensation expense related to a bonus plan.
INTEREST REVENUES. For 1999, interest revenues remained basically unchanged from those earned in 1998. Interest revenues decreased $828,000 for 1998, as compared to 1997, due to the lower average balance of cash to invest.
EXPENSES. Property operations expense includes such charges as utilities, real estate taxes, janitorial, maintenance, property insurance, provision for uncollectible rents and management costs. During 1999, property operations expense increased by $6,863,000 or 12.8 percent, compared to 1998, primarily due to (i) increases in property operations expense ($7,634,000) for properties acquired and construction completed during 1998 and 1999 and (ii) increases in real estate taxes. These increases were partially offset by the decrease in property operations expense ($1,993,000) for the properties sold during 1999. During 1998, property operations expense increased by $9,266,000 or 20.8 percent, compared to 1997, primarily due to (i) increases in property operations expense ($7,512,000) for the properties acquired and construction completed during 1997 and 1998, (ii) increased real estate taxes, (iii) increased utility costs and (iv) increased property management costs. For 1999, 1998 and 1997, property operations expense as a percentage of total rental revenues was 38.8 percent, 40.2 percent and 40.6 percent, respectively.
Depreciation expense has been calculated on the straight-line method based upon the useful lives of the Company's depreciable assets, generally 3 to 40 years. For 1999, depreciation expense increased $3,499,000 or 13.6 percent, compared to the prior year, due to the properties acquired and construction completed during 1998 and 1999. For 1998, depreciation expense increased $3,442,000 or 15.5 percent, compared to the prior year, due to the properties acquired and construction completed during 1997 and 1998.
Amortization expense increased $434,000 during 1999, compared to 1998, due to deferred tenant costs incurred during 1999. For 1998, amortization expense increased $866,000, compared to 1997, due primarily to (i) financing costs incurred for increasing the secured revolving credit facility from $50 million to $100 million and (ii) deferred tenant costs incurred during 1998.
Interest expense increased by $5,277,000 during 1999, compared to 1998, primarily due to the increase in the average balance of mortgages and loans payable. Compared to 1997, interest expense remained basically unchanged during 1998. During 1999, 1998, and 1997, the weighted average interest rate on the Company's variable rate loans was 6.7 percent, 7.0 percent and 8.0 percent, respectively. The Company's average outstanding amount under such loans during 1999, 1998, and 1997 was $95,277,000, $45,181,000 and $8,077,000, respectively. During 1999, 1998, and 1997, the weighted average interest rate on the Company's fixed rate loans was 8.2 percent, 8.3 percent and 8.4 percent, respectively. The Company's average outstanding amount under its fixed rate loans during 1999, 1998, and 1997 was $225,391,000, $195,592,000 and $199,551,000, respectively.
General and administrative expenses were 0.9 percent, 0.8 percent, and 1.0 percent of average invested assets for 1999, 1998 and 1997, respectively. For 1999, general and administrative expenses increased $1,680,000, compared to 1998, primarily due to increases in (i) legal and other professional fees, (ii) compensation expense and certain employee benefit accruals and (iii) franchise taxes. For 1998, general and administrative expenses increased $579,000, compared to 1997, primarily due to (i) increases in group insurance costs, (ii) costs for corporate office relocation and (iii) legal fees incurred for organization of KVP.
Direct costs of management fees increased $64,000 during 1999, compared to 1998, due primarily to increased costs of providing construction management services. For 1998, direct costs of management fees decreased $528,000, compared to 1997, due to decreased costs associated with providing property management services for all management contracts.
Other expenses increased $760,000 during 1999, compared to 1998, due to professional fees incurred for certain corporate strategic issues.
Based on the proceeds received from the sale of the Miami land parcel and the Company's analysis of the fair value of the remaining land parcels held for sale during 1997, the Company reversed $379,000 of the provision for loss on land held for sale, which had been previously recorded.
Management periodically reviews its investment in properties for evidence of other than temporary impairments in value. Factors considered consist of, but are not limited to, the following: current and projected occupancy rates, market conditions in different geographic regions, and management's plans with respect to its properties. Where management concludes that expected cash flows will not enable the Company to recover the carrying amount of its investments, losses are recorded and asset values are reduced. No such impairments in value existed during 1999, 1998 or 1997.
OPERATING RESULTS. Net income totaled $36,586,000, $29,602,000 and $21,204,000 for 1999, 1998 and 1997, respectively. For 1999, net income increased $6,984,000 or 23.6 percent over the prior year due primarily to (i) the increase in rental revenues, which was partially offset by the increases in property operations expense, depreciation and amortization expense, interest expense and general and administrative expense and (ii) the increase in gain on sale or disposition of assets. For 1998, net income increased $8,398,000 or 39.6 percent over the prior year due primarily to (i) the increase in rental revenues, which was partially offset by the increases in property operations expense and depreciation and amortization expense and (ii) the increase in income from Koger Realty Services, Inc.
LIQUIDITY AND CAPITAL RESOURCES
OPERATING ACTIVITIES. During the year ended December 31, 1999, the Company generated approximately $65.5 million in net cash from operating activities. The Company's primary internal sources of cash are (i) the collection of rents from buildings owned by the Company and (ii) the receipt of management fees paid to the Company in respect of properties managed on behalf of Centoff. As a REIT for Federal income tax purposes, the Company is required to pay out annually, as dividends, 95 percent of its REIT taxable income (which, due to non-cash charges, including depreciation and net operating loss carryforwards, may be substantially less than cash flow). In the past, the Company has paid out dividends in amounts at least equal to its REIT taxable income. The Company believes that its cash provided by operating activities will be sufficient to cover debt service payments and to pay the dividends required to maintain REIT status through 2000.
The level of cash flow generated by rents depends primarily on the occupancy rates of the Company's buildings and changes in rental rates on new and renewed leases and under escalation provisions. As of December 31, 1999, approximately 96 percent of the Company's annualized gross rental revenues were derived from existing leases containing provisions for rent escalations. However, market conditions may prevent the Company from escalating rents under such provisions.
As of December 31, 1999, leases representing approximately 18.6 percent of the gross annualized rent from the Company's properties, without regard to the exercise of options to renew, were due to expire during 2000. This represents 869 leases for space in buildings located in 22 of the 25 Koger Centers or locations in which the Company owns buildings. Certain of these tenants may not renew their leases or may reduce their demand for space. Leases were renewed on approximately 66 percent, 60 percent and 65 percent of the Company's net rentable square feet, which were scheduled to expire during 1999, 1998 and 1997, respectively. For those leases, which renewed during 1999, the average rental rate increased from $15.32 to $17.37. However, current market conditions in certain markets may require that rental rates at which leases are renewed or at which vacated space is leased be lower than rental rates under existing leases. Based upon the amount of leases which will expire during 2000 and the competition for tenants in the markets in which the Company operates, the Company has offered, and expects to continue to offer, incentives to certain new and renewal tenants. These incentives may include the payment of tenant improvement costs and, in certain markets, reduced rents during initial lease periods.
The Company continues to benefit from improving economic conditions and reduced vacancy levels for office buildings in many of the metropolitan areas in which the Company owns buildings. The Company believes that the southeastern and southwestern regions of the United States provide significant economic growth potential due to their diverse regional economies, expanding metropolitan areas, skilled work force and moderate labor costs. However, the Company cannot predict whether such economic growth will continue. Cash flow from operations could be reduced if economic growth were not to continue in the Company's markets and if this resulted in lower occupancy rates for the Company's buildings.
Governmental tenants (including the State of Florida and the United States of America) which accounted for 19.3 percent of the Company's leased space as of December 31, 1999 may be subject to budget reductions in times of recession and governmental austerity measures. Consequently, there can be no assurance that governmental appropriations for rents may not be reduced. Additionally, certain of the private-sector tenants, which have contributed to the Company's rent stream, may reduce their current demands, or curtail their future need, for additional office space.
On January 1, 2000, the Company had a management contract for the management of eight commercial office properties. On March 31, 1999, the management agreement to manage these commercial office buildings owned by Centoff was automatically extended to March 31, 2000. This management agreement provides that, so long as no default has occurred, the management agreement will be automatically extended from year to year until such time as the management agreement is terminated. The Company earned fees of $846,000 for the management of these properties during 1999. At the end of 1999, Centoff terminated the management agreement with the Company related to eight commercial office buildings. The Company earned fees of $780,000 for the management and leasing of these properties during 1999. Another agreement to manage one commercial office building was terminated by the Company during February 1999. During 1999, the Company earned fees of $82,000 for the management of this building.
INVESTING ACTIVITIES. At December 31, 1999, substantially all of the Company's invested assets were in real properties. Improvements to the Company's existing properties have been financed through internal operations. During 1999, the Company's expenditures for improvements to existing properties increased by approximately $1.8 million from the prior year, primarily due to increases in expenditures for tenant improvements and building improvements. The Company purchased four buildings during 1999.
During 1999, the Company completed the construction of six buildings, which contain 532,900 net rentable square feet. During 1998, the Company completed the construction of six buildings, which contain 503,300 net rentable square feet. During 1997, the Company completed the construction of two buildings, which contain 101,900 net rentable square feet. The Company has six buildings under construction, on approximately 33 acres of undeveloped land, which will contain approximately 476,400 net rentable square feet. Expenditures for construction of these six buildings are expected to total approximately $45.6 million, excluding land and tenant improvement costs.
On November 1, 1999, the Company acquired four buildings, containing 431,000 net rentable square feet, located in Charlotte, North Carolina and Orlando, Florida for a purchase price of $64.1 million. During 1998, the Company acquired 20 buildings, containing 1,020,300 net rentable square feet, for a total purchase price of $121.9 million in four separate transactions. One of these transactions was structured as a contribution of the property to a down-REIT partnership (Koger-Vanguard Partners, L.P.), whose general partner is KE. In addition, KE acquired 70.3 acres of land for a total purchase price of $13.6 million. During 1997, the Company acquired 11 buildings, containing 717,900 net rentable square feet, for a total purchase price of $74.8 million in seven separate transactions. In addition, the Company acquired 5.9 acres of land for a purchase price of $0.5 million.
On August 31, 1999, the Company sold the Jacksonville Central Center (containing 666,000 net rentable square feet and 1.4 acres of undeveloped land) and the Charlotte East Center (containing 468,900 net rentable square feet and 3.9 acres of undeveloped land) for approximately $68,761,000, net of selling costs. During 1997, the Company sold (i) 8.1 acres of unimproved land located in Miami, Florida for approximately $2,907,000, net of selling costs and (ii) 17.2 acres of unimproved land located in Richmond, Virginia for approximately $3,434,000, net of selling costs.
FINANCING ACTIVITIES. The Company's primary external sources of cash are bank borrowings, mortgage financings, and public and private offerings of equity securities. The proceeds of these financings are used by the Company to acquire buildings and land or to refinance debt. The Company has a $150 million secured revolving credit facility provided by First Union National Bank of Florida, AmSouth Bank, N.A., Citizens Bank of Rhode Island, Compass Bank and Guaranty Federal Bank.
During 1997, the Company's Board of Directors approved the repurchase of up to one million shares of the Company's common stock (the "Shares") and the Company repurchased 372,600 Shares for approximately $5.75 million. The Company repurchased 35,600 Shares for approximately $583,000 during 1998 and repurchased 54,000 Shares for approximately $852,000 during 1999.
During July 1997, the Company's Board of Directors approved the redemption of warrants outstanding on August 29, 1997 (the "Redemption Date") for $3.81 per warrant. Each warrant gave the holder the right to purchase one Share at a price of $8.00 per share, until the Redemption Date. The Company redeemed 99,871 warrants for $379,000 following the Redemption Date. The remaining warrants were exercised by the holders either on or prior to the Redemption Date.
On March 27, 1998, the Company sold one million shares of its common stock to Wheat First Securities, Inc. for an aggregate sales price of $20.2 million. The Company applied approximately $15 million of the proceeds from this sale to the repayment of indebtedness with an average interest rate of approximately 7.94 percent. During December 1997, the Company completed a public offering of 3.5 million shares of its common stock, three million shares of which were sold in an underwritten offering for an aggregate sales price of $60.75 million ($20.25 per share less an underwriting discount of $1.11 per share), and 500,000 of such shares were sold to AREIF II Realty Trust, Inc., an affiliate of Apollo Real Estate Fund II, L.P. (together referred to as "Apollo"), for an aggregate sales price of $9.57 million ($19.14 per share). The Company applied approximately $51.6 million of the proceeds from this sale to the repayment of indebtedness with an average interest rate of approximately 8.6 percent.
During 1999, the Company increased its non-recourse loan with Northwestern Mutual Life Insurance Company ("Northwestern") by $45 million to a total of $235 million, which is secured by 11 office parks. This loan is divided into (i) a tranche in the amount of $100.5 million with a 10 year maturity and an average interest rate of 8.19 percent and (ii) a tranche in the amount of $89.5 million with a maturity of 12 years and an interest rate of 8.33 percent, (iii) a tranche in the amount of $14.7 million which matures January 2, 2007 and an interest rate of 7.1 percent and (iv) a tranche in the amount of $30.3 million which matures on January 2, 2009 and an interest rate of 7.1 percent. Amortization with respect to this indebtedness is based on equal monthly installments over a 25 year amortization period. This indebtedness requires the Company to maintain certain financial ratios.
In conjunction with the acquisition of certain office buildings during 1998, the Company assumed mortgage loans with outstanding balances of $30.7 million and a weighted average interest rate of 8.09 percent. Amortization with respect to this indebtedness is based on an equal monthly installment over 25 year amortization periods.
During December 1998, the Company increased its secured revolving credit facility from $100 million to $150 million. This facility provides for monthly interest payments, requires the Company to maintain certain financial ratios and matures in December 2001.
Loan maturities and normal amortization of mortgages and loans payable during the year 2000 are expected to total approximately $4.2 million. The Company believes that these obligations will be paid from cash provided by operations or from current cash balances. Significant maturities of the Company's mortgages and loans payable will begin in 2001.
At December 31, 1999, the Company had 31 buildings (containing approximately 2.45 million net rentable square feet) which were unencumbered.
In order to generate funds sufficient to make principal payments in respect of indebtedness of the Company over the long term, as well as necessary capital and tenant acquisition expenditures, the Company will be required to successfully refinance its indebtedness or procure additional equity capital. However, there can be no assurance that any such refinancing or equity financing will be achieved or will generate adequate funds on a timely basis for these purposes. If additional funds are raised by issuing equity securities, further dilution to existing shareholders may result. Unfavorable conditions in the financial markets, the degree of leverage of the Company and various other factors may limit the ability of the Company to successfully undertake any such financings, and no assurance can be given as to the availability of alternative sources of funds. The Company has filed shelf registration statements with respect to the issuance of up to $300 million of its common and/or preferred stock. The Company has issued $91.6 million of its common stock under such registration statements.
In addition, in the event the Company is unable to generate sufficient funds both to meet principal payments in respect of its indebtedness and to satisfy distribution requirements of 95 percent of annual REIT taxable income to its shareholders, the Company may be unable to qualify as a REIT. In such an event, the Company (i) will incur federal income taxes and perhaps penalties, (ii) if the Company is then paying dividends, may be required to decrease any dividend payments to its shareholders, and (iii) the market price of the Company's common stock may decrease. The Company would also be prohibited from requalifying as a REIT for five years.
CAUTIONARY STATEMENT RELEVANT TO FORWARD-LOOKING INFORMATION FOR PURPOSE OF "SAFE HARBOR" PROVISIONS OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
The Private Securities Litigation Reform Act of 1995 (the "Act") provides a "safe harbor" for forward-looking statements to encourage companies to provide prospective information about their businesses without fear of litigation so long as those statements are identified as forward-looking and are accompanied by meaningful cautionary statements identifying important factors that could cause actual results to differ materially from those projected in such statements. The Company desires to take advantage of the "safe harbor" provisions of the Act.
This Annual Report on Form 10-K contains forward-looking statements, together with related data and projections, about the Company's projected financial results and its future plans and strategies. However, actual results and needs of the Company may vary materially from forward-looking statements and projections made from time to time by the Company on the basis of management's then-current expectations. The business in which the Company is engaged involves changing and competitive markets and a high degree of risk, and there can be no assurance those forward-looking statements and projections will prove accurate. Accordingly, the Company hereby identifies the following important factors, which could cause the Company's actual performance and financial results to differ materially from any results, which might be projected, forecast, estimated or budgeted by the Company.
REAL ESTATE FINANCING RISKS
EXISTING DEBT. The Company is subject to risks normally associated with debt financing, including (a) the risk that the Company's cash flow will be insufficient to meet required payments of principal and interest, (b) the risk that the existing debt in respect of the Company's properties (which in substantially all cases will not have been fully amortized at maturity) will not be able to be refinanced and (c) the risk that the terms of any refinancing of any existing debt will not be as favorable as the terms of such existing debt. The Company currently has outstanding debt of approximately $351.5 million, all of which is secured by certain of the Company's properties. Approximately $255 million of such debt will mature before 2008, with the majority of the remaining balance maturing in 2009. The $150 million secured revolving credit facility ($94 million of which was outstanding at year end) matures in December 2001. If principal payments due at maturity cannot be refinanced, extended or paid with proceeds of other capital transactions, such as new equity capital, the Company expects that its cash flow will not be sufficient to repay all such maturing debt. Furthermore, if prevailing interest rates or other factors at the time of refinancing (such as the reluctance of lenders to make commercial real estate loans) result in higher interest rates upon refinancing than the interest rates on the existing debt, the interest expense relating to such refinanced debt would increase, which would adversely affect the Company's cash flow and the amount of distributions
the Company would be able to make to its shareholders. If the Company has mortgaged a property to secure payment of debt and the Company is unable to meet the mortgage payments, then the mortgagee may foreclose upon, or otherwise take control of, such property, with a consequent loss of income and asset value to the Company.
RISK OF RISING INTEREST RATES AND VARIABLE RATE DEBT. The Company currently has a $150 million secured revolving credit facility with variable interest rates. The Company may incur additional variable rate debt in the future. Increases in interest rates on such debt could increase the Company's interest expense, which would adversely affect the Company's cash flow and its ability to pay distributions to its shareholders.
EXISTING LEVERAGE; NO LIMITATION ON DEBT. As of December 31, 1999, the debt to total market capitalization ratio of the Company was approximately 43 percent. The Company's policy regarding this ratio (i.e., total consolidated debt as a percentage of the sum of the market value of issued and outstanding capital stock plus total consolidated debt) is not subject to any limitation in the organizational documents of the Company. Accordingly, the Board of Directors could establish policies which would increase the Company's debt to total market capitalization ratio. If this action were taken, the Company could become more highly leveraged, resulting in an increase in debt service that (a) could adversely affect the Company's cash flow and, consequently, the amount of cash available for distribution to shareholders and (b) could increase the risk of default on the Company's debt.
For purposes of establishing and evaluating its debt policy, the Company measures its leverage by reference to the total market capitalization of the Company rather than by reference to the book value of its assets. The Company has used total market capitalization because it believes that the book value of its assets (which to a large extent is comprised of the depreciated value of real property, the Company's primary tangible asset) does not accurately reflect its ability to borrow and to meet debt service requirements. The market capitalization of the Company, however, is more variable than book value, and does not necessarily reflect the fair market value of the underlying assets of the Company at all times. The Company also considers factors other than its market capitalization in making decisions regarding the incurrence of indebtedness, such as the purchase price of properties to be acquired with debt financing, the estimated market value of its properties upon refinancing and the ability of particular properties, and the Company as a whole, to generate cash flow to cover expected debt service.
GEOGRAPHIC CONCENTRATION
The Company's revenues and the value of its properties may be affected by a number of factors, including the regional and local economic climates of the metropolitan areas in which the Company's buildings are located (which may be adversely impacted by business layoffs or downsizing, industry slowdowns, changing demographics and other factors) and regional and local real estate conditions in such areas (such as oversupply of, or reduced demand for, office and other competing commercial properties). All of the Company's properties are located in the southeastern and southwestern United States. There is also the problem of over building in certain sub-markets located in markets which the Company currently serves. While the Company has avoided acquiring or developing property in these sub-markets such over built condition may move over into the sub-markets where the Company has property. The Company's performance and its ability to make distributions to its shareholders are, therefore, dependent on economic conditions in these market areas. The Company's historical growth has occurred during periods when the economy in the southeastern and southwestern United States has out-performed the national economy. There can be no assurance as to the continued growth of the economy in the southeastern and southwestern United States or the future growth rate of the Company.
RISING PETROLEUM COSTS
Although the Company has not yet been adversely affected by the recent rise in oil prices, the increasing costs of gasoline may affect commuting patterns thereby adversely effecting the desirability of suburban office property like those owned by the Company.
RENEWAL OF LEASES AND RELETTING OF SPACE
The Company is subject to the risks that upon expiration of leases for space located in its buildings (a) such leases may not be renewed, (b) such space may not be relet or (c) the terms of renewal or reletting (taking into account the cost of required renovations) may be less favorable than current lease terms. Leases on a total of 18.7 percent and 19.3 percent of the total net rentable square feet leased in the Company's buildings will expire in 2000 and 2001, respectively. If the Company is unable to promptly relet, or renew the leases for, all or a substantial portion of the space located in its buildings, or if the rental rates upon such renewal or reletting are significantly lower than expected rental rates, or if the Company's reserves for these purposes prove inadequate, then the Company's cash flow and its ability to make expected distributions to its shareholders may be adversely affected.
REAL ESTATE INVESTMENT RISKS
GENERAL RISKS. Real property investments are subject to varying degrees of risk. The yields available from equity investments in real estate depend in large part on the amount of income generated and expenses incurred. If the Company's properties do not generate revenues sufficient to meet operating expenses, including current levels of debt service, tenant improvements, leasing commissions and other capital expenditures, the Company may have to borrow additional amounts to cover fixed costs and the Company's cash flow and its ability to make distributions to its shareholders will be adversely affected. The Company must obtain external financing to meet future debt maturities.
The Company's net revenues and the value of its properties may be adversely affected by a number of factors, including the national, regional and local economic climates; regional and local real estate conditions; the perceptions of prospective tenants as to the attractiveness of the property; the ability of the Company to provide adequate management, maintenance and insurance; and increased operating costs (including real estate taxes and utilities). In addition, real estate values and income from properties are also affected by such factors as applicable laws, including tax laws, interest rate levels and the availability of financing.
ILLIQUIDITY OF REAL ESTATE. Equity real estate investments are relatively illiquid. Such illiquidity will tend to limit the ability of the Company to vary its portfolio promptly in response to changes in economic or other conditions.
COMPETITION. Numerous office buildings compete with the Company's buildings in attracting tenants to lease space. Some of these competing buildings are newer, better located or better capitalized than some of the Company's buildings. Moreover, the Company believes that major national or regional commercial property developers will continue to seek development opportunities in the southeastern and southwestern United States. These developers may have greater financial resources than the Company. The number of competitive commercial properties in a particular area could have a material adverse effect on the Company's ability to lease space in its buildings or at newly developed or acquired properties and the rents charged.
CHANGES IN LAWS. Because increases in income, service or transfer taxes are generally not passed through to tenants under leases, such increases may adversely affect the Company's cash flow and its ability to make distributions to its shareholders. The Company's properties are also subject to various federal, state and local regulatory requirements, such as requirements of the Americans with Disabilities Act (the "ADA") and state and local fire and life safety requirements. Failure to comply with these requirements could result in the imposition of fines by governmental authorities or awards of damages to private litigants. The Company believes that its properties are currently in compliance with all such regulatory requirements. However, there can be no assurance that these requirements will not be changed or that new requirements will not be imposed which would require significant unanticipated expenditures by the Company and could have an adverse effect on the Company's cash flow and expected distributions.
UNINSURED LOSS. The Company presently carries comprehensive liability, fire, and flood (where appropriate), extended coverage and rental loss insurance with respect to its properties, with policy specifications and insured limits customary for similar properties. There are, however, certain types of losses (such as from wars) that may be either
uninsurable or not economically insurable. Should an uninsured loss or a loss exceeding policy limits occur, the Company could lose both its capital invested in, and anticipated profits from, one or more of its properties.
BANKRUPTCY AND FINANCIAL CONDITION OF TENANTS. At any time, a tenant of the Company's buildings may seek the protection of the bankruptcy laws, which could result in the rejection and termination of such tenant's lease and thereby cause a reduction in the cash flow available for distribution by the Company. No assurance can be given that tenants will not file for bankruptcy protection in the future or, if any tenants file, that they will affirm their leases and continue to make rental payments in a timely manner. In addition, a tenant from time to time may experience a downturn in its business which may weaken its financial condition and result in its failure to make rental payments when due. If a tenant's lease is not affirmed following bankruptcy or if a tenant's financial condition weakens, the Company's income may be adversely affected.
AMERICANS WITH DISABILITIES ACT COMPLIANCE. Under the ADA, all public accommodations and commercial facilities are required to meet certain federal requirements relating to access and use by disabled persons. These requirements became effective in 1992. Compliance with the requirements of the ADA could require removal of access barriers and non-compliance could result in imposition of fines by the U.S. Government or an award of damages to private litigants. Although the Company believes that its properties are substantially in compliance with these requirements, the Company may incur additional costs to comply with the ADA. Although the Company believes that such costs will not have a material adverse effect on the Company, if required changes involve a greater expenditure than the Company currently anticipates, the Company's ability to make distributions to its shareholders could be adversely affected.
RISKS INVOLVED IN PROPERTY OWNERSHIP THROUGH PARTNERSHIP AND JOINT VENTURES. Although the Company owns fee simple interests in all but 13 of its properties, in the future the Company could, if then permitted by the covenants in its loan agreements and its financial position, participate with other entities in property ownership through partnerships or joint ventures. KE is currently the general partner of Koger-Vanguard Partners, L.P., which owns 13 office buildings. Partnership or joint venture investments may, under certain circumstances, involve risks not otherwise present in property ownership, including the possibility that (a) the Company's partners or co-ventures might become bankrupt, (b) such partners or co-ventures might at any time have economic or other business interests or goals which are inconsistent with the business interests or goals of the Company, and (c) such partners or co-ventures may be in a position to take action contrary to the instructions or the requests of the Company or contrary to the Company's policies or objectives, including the Company's policy to maintain its qualification as a REIT. The Company will, however, seek to maintain sufficient control of such participants or joint ventures to permit the Company's business objectives to be achieved. There is no limitation under the Company's organizational documents as to the amount of available funds that may be invested in partnerships or joint ventures.
IMPACT OF INFLATION. The Company may experience increases in its expenses, including debt service, as a result of inflation. The Company's exposure to inflationary cost increases in property level expenses is reduced by escalation clauses, which are included in most of its leases. However, market conditions may prevent the Company from escalating rents. Inflationary pressure may increase operating expenses, including labor and energy costs (and, indirectly, real estate taxes) above expected levels at a time when it may not be possible for the Company to increase lease rates to offset such higher operating expenses. In addition, inflation can have secondary effects upon occupancy rates by decreasing the demand for office space in many of the markets in which the Company operates.
Although, inflation has historically often caused increases in the value of income-producing real estate through higher rentals, the Company can provide no assurance that inflation will increase the value of its properties in the future and, in fact, the rate of inflation over recent years has been considerably below that which has been experienced previously.
RISK OF DEVELOPMENT, CONSTRUCTION AND ACQUISITION ACTIVITIES
Within the constraints of its policy concerning leverage, the Company has and will continue to develop and construct office buildings, particularly on its undeveloped land. Risks associated with the Company's development and construction
activities, including activities relating to its undeveloped land, may include: abandonment of development opportunities; construction costs of a property exceeding original estimates and possibly making the property uneconomical; insufficient occupancy rates and rents at a newly completed property to make the property profitable; unavailability of financing on favorable terms for development of a property; and the failure to complete construction and lease-up on schedule, resulting in increased debt service expense and construction costs. In addition, new development activities, regardless of whether or not they are ultimately successful, typically require a substantial portion of management's time and attention. Development activities are subject to risks relating to the inability to obtain, or delays in obtaining, all necessary zoning, land-use, building, occupancy and other required governmental permits and authorizations.
The Company will continue to acquire office buildings. Acquisitions of office buildings entail risks that investments will fail to perform in accordance with expectations. Estimates of the cost of improvements to bring an acquired building up to standards established for the market position intended for such building may prove inaccurate. In addition, there are general investment risks associated with any new real estate investment.
The Company anticipates that any future developments and acquisitions would be financed through a combination of internally generated cash, equity investments and secured or unsecured financing. If new developments are financed through construction loans, there is a risk that, upon completion of construction, permanent financing for newly developed properties may not be available or may be available only on disadvantageous terms.
CHANGES IN POLICIES WITHOUT SHAREHOLDER APPROVAL
The investment, financing, borrowing and distribution policies of the Company, as well as its policies with respect to all other activities, including growth, debt, capitalization and operations, are determined by the Board of Directors. Although the Board of Directors has no present intention to do so, these policies may be amended or revised at any time and from time to time at the discretion of the Board of Directors without a vote of the shareholders of the Company. A change in these policies could adversely affect the financial condition or results of operations of the Company or the market price of the Common Stock.
LIMITATIONS OF REIT STATUS ON BUSINESS OF SUBSIDIARIES
Certain requirements for REIT qualification may in the future limit the Company's ability to increase fee development, management and leasing operations conducted, and related services offered, by the Company's subsidiaries without jeopardizing the Company's qualification as a REIT.
ADVERSE CONSEQUENCES OF FAILURE TO QUALIFY AS A REIT
The Company believes it has operated so as to qualify as a REIT under the Internal Revenue Code since its inception in 1988. Although management of the Company intends that the Company continue to operate so as to qualify as a REIT, no assurance can be given that the Company will remain qualified as a REIT. Qualification as a REIT involves the application and satisfaction of highly technical and complex Code requirements for which there are only limited judicial and administrative interpretations. Uncertainty in the application of such requirements, as well as circumstances not entirely within the Company's control, may affect the Company's ability to qualify as a REIT. In addition, no assurance can be given that legislation, new regulations, administrative interpretations or court decisions will not significantly change the tax laws with respect to qualification as a REIT or the federal income tax consequences of such qualification. The Company, however, is not aware of any pending tax legislation that would adversely affect the Company's ability to operate as a REIT.
POSSIBLE ENVIRONMENTAL LIABILITIES
Under various federal, state and local environmental laws, ordinances and regulations, a current or previous owner or operator of real estate may be required to investigate and clean up hazardous or toxic substances or petroleum product releases at such property and may be held liable to a governmental entity or to third parties for property damage and for
investigation and clean-up costs incurred by such parties in connection with the contamination. Such laws typically impose clean-up responsibility and liability without regard to whether the owner knew, or caused the presence, of the contaminants, and the liability under such laws has been interpreted to be joint and several unless the harm is divisible and there is a reasonable basis for allocation of responsibility. The costs of investigation, remediation or removal of such substances may be substantial, and the presence of such substances, or the failure to properly remediate the contamination on such property, may adversely affect the owner's ability to sell or rent such property or to borrow using such property as collateral. Any person who arranges for the disposal or treatment of hazardous or toxic substances at a disposal or treatment facility also may be liable for the costs of removal or remediation of a release of hazardous or toxic substances at such disposal or treatment facility, whether or not such facility is owned or operated by such person. In addition, some environmental laws create a lien on the contaminated site in favor of the government for damages and costs that it incurs in connection with the contamination. Finally, the owner of a site may be subject to common law claims by third parties based on damages and costs resulting from environmental contamination emanating from a site.
Certain federal, state and local laws, regulations and ordinances govern the removal, encapsulation or disturbance of asbestos-containing materials ("ACM") when such materials are in poor condition or in the event of construction, remodeling, renovation or demolition of a building. Such laws may impose liability for release of ACM and may provide for third parties to seek recovery from owners or operators of real properties for personal injury associated with ACM. In connection with its ownership and operation of its properties, the Company may be potentially liable for such costs. All ACM in the Company's buildings has been found to be in good condition and non-friable, and should not present a risk as long as it continues to be properly managed.
The Company's environmental assessments of its properties have not revealed any environmental liability that the Company believes would have a material adverse effect on its business, assets or results of operations taken as a whole, nor is the Company aware of any such material environmental liability. Nevertheless, it is possible that the Company's assessments do not reveal all environmental liabilities or that there are material environmental liabilities of which the Company is unaware. Moreover, there can be no assurance that future laws, ordinances or regulations will not impose any material environmental liability or the current environmental condition of the Company's properties will not be affected by tenants, by the condition of land or operations in the vicinity of such properties (such as the presence of underground storage tanks), or by third parties unrelated to the Company.
EFFECT OF MARKET INTEREST RATES ON PRICE OF COMMON STOCK
One of the factors that will influence the market price of the Company's common stock in public markets will be the annual dividend yield on the share price reflected by dividend distributions by the Company. An increase in market interest rates could reduce cash available for distribution by the Company to its shareholders and, accordingly, adversely affect the market price of the common stock.
INFORMATION SYSTEMS AND THE YEAR 2000
The inability of computers, software and other equipment utilizing microprocessors to recognize and properly process data fields containing a two-digit year is commonly referred to as the Year 2000 Compliance issue. As dates in the year 2000 are required, such systems may be unable to accurately process certain date-based information. All significant accounting applications used by the Company are packaged software products licensed from various computer software companies. During 1998, the Company began implementing its existing plan to upgrade its significant accounting applications from DOS-based software to Windows-based software. As of July 1999, all of the Company's significant accounting applications had been upgraded to either Windows-based software or versions of DOS-based software, which are Year 2000 compliant.
The Company completed an assessment of its critical building operating systems (HVAC, lighting, security and elevators) regarding Year 2000 Compliance. This assessment determined that the costs of dealing with timing devices which are not Year 2000 Compliant would not be material to the Company's financial position or results of operations. The
Company has experienced no material problems with its building operating systems during 2000. The total cost to the Company of these Year 2000 Compliance activities has not been and is not anticipated to be material to its financial position or results of operations in any given year.
ADDITIONAL INFORMATION
For additional disclosure of risk factors to which the Company is subject, see the other sections of "Management's Discussion and Analysis of Financial Condition and Results of Operations."
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
INTEREST RATE RISK
The Company currently has a $150 million secured revolving credit facility with variable interest rates. The Company may incur additional variable rate debt in the future to meet its financing needs. Increases in interest rates on such debt could increase the Company's interest expense, which would adversely affect the Company's cash flow and its ability to pay distributions to its shareholders. The Company has not entered into any interest rate hedge contracts in order to mitigate the interest rate risk with respect to the secured revolving credit facility. As of December 31, 1999, the Company had $94 million outstanding under the secured revolving credit facility. If the weighted average interest rate on this variable rate debt were 100 basis points higher or lower, annual interest expense would be increased or decreased by approximately $940,000.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Shareholders of Koger Equity, Inc. Jacksonville, Florida
We have audited the accompanying consolidated balance sheets of Koger Equity, Inc. and subsidiaries (the "Company") as of December 31, 1999 and 1998, and the related consolidated statements of operations, changes in shareholders' equity, and cash flows for each of the three years in the period ended December 31, 1999. Our audits also included the financial statement schedules listed in the Index at Item 8. These financial statements and financial statement schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and financial statement schedules based on our audits.
We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Koger Equity, Inc. and subsidiaries as of December 31, 1999 and 1998, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1999 in conformity with generally accepted accounting principles. Also, in our opinion, such financial statement schedules, when considered in relation to the basic consolidated financial statements taken as a whole, present fairly in all material respects the information set forth therein.
DELOITTE & TOUCHE LLP Certified Public Accountants
Jacksonville, Florida February 18, 2000
KOGER EQUITY, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS AS OF DECEMBER 31, 1999 AND 1998 (IN THOUSANDS EXCEPT SHARE DATA)
See Notes to Consolidated Financial Statements.
KOGER EQUITY, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1999 (IN THOUSANDS EXCEPT PER SHARE DATA)
See Notes to Consolidated Financial Statements.
KOGER EQUITY, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1999 (IN THOUSANDS)
See Notes to Consolidated Financial Statements.
KOGER EQUITY, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1999 (IN THOUSANDS)
See Notes to Consolidated Financial Statements.
KOGER EQUITY, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1999
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES.
ORGANIZATION. Koger Equity, Inc. ("KE") was incorporated in Florida on June 21, 1988. KE has two wholly-owned subsidiaries, which are Southeast Properties Holding Corporation ("Southeast"), a Florida corporation, and Koger Real Estate Services, Inc. ("KRES"), a Florida corporation. Koger-Vanguard Partners, L.P. ("KVP") is a Delaware limited partnership, for which KE is the general partner.
PRINCIPLES OF CONSOLIDATION. The consolidated financial statements include the accounts of KE, its wholly-owned subsidiaries and KVP (the "Company"). All material intercompany accounts have been eliminated in consolidation.
INVESTMENT IN KOGER REALTY SERVICES, INC. Koger Realty Services, Inc., a Delaware corporation ("KRSI"), provides leasing and property management services to owners of commercial office buildings. The Company owns all of the preferred stock of KRSI, which preferred stock represents at least 95 percent of the economic value of KRSI. Such preferred stock is non-voting and is not convertible into the common stock of KRSI while held by the Company. The Company has accounted for its investment in the preferred stock of KRSI using the equity method.
REAL ESTATE INVESTMENTS. Operating properties, properties under construction, furniture and equipment, and undeveloped land held for investment are stated at cost less accumulated depreciation. Undeveloped land held for sale is carried at the lower of cost or fair value less selling costs.
Periodically, management reviews its portfolio of operating properties, undeveloped land held for investment and related goodwill and in those instances where properties have suffered an impairment in value, the properties and related goodwill will be reduced to their fair value. This review includes a quarterly analysis of occupancy levels and rental rates for the Company's properties in order to identify properties, which may have suffered an impairment in value. Management prepares estimates of future cash flows for these properties to determine whether the Company will be able to recover its investment. In making such estimates, management considers the conditions in the commercial real estate markets in which the properties are located, current and expected occupancy rates, current and expected rental rates, and expected changes in operating costs. As of December 31, 1999, there were no such impairments in value. Maintenance and repairs are charged to operations. Acquisitions, additions, and improvements are capitalized.
MINORITY INTEREST. During October 1998, KE acquired a suburban office park for a purchase price of $52.3 million. The transaction was structured as a contribution of the property to KVP in exchange for limited partner units valued at $22.95 million. In connection with this transaction, KVP assumed $22.2 million of debt and received a contribution of $7.2 million from KE in exchange for general partner interests. The limited partner units are entitled to a cumulative preferred return, which approximates the average dividend rate on KE's shares. In addition, the limited partner units carry with them the right to redeem the units for common shares of KE on a one-unit-for-one-share basis or, at the option of KE, the units may be redeemed for cash. KE has reported KVP's assets, liabilities and operations in its consolidated financial statements. The limited partnership units and earnings thereon are reported as minority interests.
DEPRECIATION AND AMORTIZATION. The Company uses the straight-line method for depreciation and amortization. Acquisition costs, building improvements and tenant improvements are depreciated over the periods benefited by the expenditures which range from 3 to 40 years. Deferred tenant costs (leasing commissions and tenant relocation costs) are amortized over the term of the related leases. Deferred financing costs are amortized over the terms of the related agreements. Cost in excess of fair value of net assets acquired is being amortized over 15 years.
REVENUE RECOGNITION. Rentals are generally recognized as revenue over the lives of leases according to provisions of the lease agreements. However, the straight-line basis, which averages annual minimum rents over the terms of leases, is used to recognize minimum rental revenues under leases which provide for material varying rents over their terms. For 1999, 1998 and 1997, the recognition of rental revenues on this basis for applicable leases increased rental revenues by $1,764,000, $1,335,000 and $454,000, respectively, over the amount which would have been recognized based upon the contractual provisions of these leases. Interest revenue is recognized on the accrual basis for interest-earning investments.
FEDERAL INCOME TAXES. The Company is qualified and has elected tax treatment as a real estate investment trust under the Internal Revenue Code (a "REIT"). Accordingly, the Company distributes at least 95 percent of its REIT taxable income to its shareholders. To the extent that the Company pays dividends equal to 100 percent of REIT taxable income, the earnings of the Company are taxed at the shareholder level. However, the use of net operating loss carryforwards, which may reduce REIT taxable income to zero, are limited for alternative minimum tax purposes.
EARNINGS PER COMMON SHARE. Basic earnings per common share has been computed based on the weighted average number of shares of common stock outstanding for each period. Diluted earnings per common share is similar to basic earnings per share except that the weighted average number of common shares outstanding is increased to include the number of additional common shares that would have been outstanding if the dilutive common shares (options and warrants) had been issued. The treasury stock method is used to calculate dilutive shares which reduces the gross number of dilutive shares by the number of shares purchasable from the proceeds of the options and warrants assumed to be exercised. Following is a reconciliation of number of shares (in thousands) used in the computation of basic and diluted earnings per share.
FAIR VALUE OF FINANCIAL INSTRUMENTS. The Company believes that the carrying amount of its financial instruments (temporary investments, accounts receivable, accounts payable, and mortgages and loans payable) is a reasonable estimate of fair value of these instruments.
STATEMENTS OF CASH FLOWS. Cash in excess of daily requirements is invested in short-term monetary securities. Such temporary cash investments have an original maturity of less than three months and are deemed to be cash equivalents for purposes of the statements of cash flows.
During 1997, the Company contributed 23,657 shares of common stock to the Company's 401(k) Plan. These shares had a value of approximately $443,000 based on the closing price of the Company's common stock on the American Stock Exchange on December 31, 1996. During 1998, the Company contributed 9,197 shares of common stock to the Company's 401(k) Plan. These shares had a value of approximately $202,000 based on the closing price of the Company's common stock on the American Stock Exchange on December 31, 1997. The Company assumed certain mortgage loans with outstanding balances of $30.7 million in conjunction with certain property acquisitions during 1998. In addition, KVP issued $22,953,000 of limited partner units in conjunction with a property acquisition during 1998. During 1999, the Company contributed 15,603 shares of common stock to the Company's 401(k) Plan. These shares had a value of approximately $268,000 based on the closing price of the Company's common stock on the American Stock Exchange on December 31, 1998. In addition, the Company issued 19,695 shares of common stock as payment for certain 1998 bonuses for senior management. These shares had a value of approximately $285,000 based on the closing price of the Company's common stock on the American Stock Exchange on February 18, 1999.
For 1999, 1998 and 1997, total interest payments (net of amounts capitalized) were $21,353,000, $15,015,000 and $16,426,000, respectively, for the Company. Interest capitalized during 1999, 1998 and 1997 totaled $3,343,000, $2,974,000 and $914,000, respectively. For 1999, 1998 and 1997, payments for income taxes totaled $455,000, $1,233,000 and $690,000, respectively.
ESTIMATES. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during each reporting period. Actual results could differ from those estimates.
2. TRANSACTIONS WITH RELATED PARTIES.
Three directors were elected to the Company's Board of Directors under the terms of an agreement dated October 10, 1996 between the Company and an affiliate of Apollo Real Estate Investment Fund II, L.P. ("Apollo") pursuant to which Apollo purchased three million shares of common stock from the Company for $43.5 million ($14.50 per share). Such agreement granted to Apollo registration rights and a conditional exemption from certain of the Company's takeover defenses for a period of three years, which period ended on October 10, 1999.
In connection with a public offering of 3.5 million shares of the Company's common stock (the "Shares") which closed in December 1997, the Company entered a purchase agreement with AREIF II Realty Trust, Inc., an affiliate of Apollo, whereby the latter acquired 500,000 of the publicly offered Shares at a price of $19.14 per share or aggregate proceeds to the Company of $9.57 million. The price to the public of the remaining 3,000,000 Shares was $20.25 or an aggregate offering price of $60.75 million. The underwriting discount on these Shares was $1.11 making the per share proceeds to the Company of $19.14 or aggregate proceeds of $57.42 million.
3. MORTGAGES AND LOANS PAYABLE.
The Company has $235 million of non-recourse loans ($227.5 million of which was outstanding on December 31, 1999) with Northwestern Mutual Life Insurance Company ("Northwestern") which are secured by 11 office parks. These loans are divided into (i) a tranche in the amount of $100.5 million with a 10 year maturity and an average interest rate of 8.19 percent, (ii) a tranche in the amount of $89.5 million with a maturity of 12 years and an interest rate of 8.33 percent, (iii) a tranche in the amount of $14.7 million which matures on January 2, 2007 and an interest rate of 7.1 percent and (iv) a tranche in the amount of $30.3 million which matures on January 2, 2009 and an interest rate of 7.1 percent. Monthly payments on this loan include principal amortization based on a 25 year amortization period. This indebtedness requires the Company to maintain certain financial ratios and is collateralized by properties with a carrying value of approximately $324.1 million at December 31, 1999.
The Company has a $150 million secured revolving credit facility ($94 million of which was outstanding on December 31, 1999) provided by First Union National Bank of Florida, AmSouth Bank, N.A., Citizens Bank of Rhode Island, Compass Bank and Guaranty Federal Bank. Based on the Company's election, the interest rate on this revolving credit facility (8.0 percent at December 31, 1999) will be either (i) the lender's LIBOR rate plus either 130, 145 or 160 basis points (depending on the Company's leverage ratio) or (ii) the lender's prime rate. Interest payments will be due monthly on this credit facility which has a term of three years. This credit facility requires the Company to maintain certain financial ratios, which includes a limitation on dividends, and is collateralized by properties with a carrying value of approximately $226.7 million at December 31, 1999. This credit facility matures in December 2001.
During 1998, the Company assumed other non-recourse loans with outstanding balances of $30.7 million ($30 million of which was outstanding on December 31, 1999) in conjunction with certain property acquisitions. The contractual interest rates on these loans range from 7.25 percent to 8.2 percent. Amortization with respect to this indebtedness is based on equal monthly installments based on 25-year amortization periods. These three loans mature in 2002, 2006 and 2021.
The annual maturities of mortgages and loans payable, as of December 31, 1999, are summarized as follows:
4. LEASES.
The Company's operations consist principally of owning and leasing of office space. Most of the leases are for terms of three to five years. Generally, the Company pays all operating expenses, including real estate taxes and insurance. At December 31, 1999, approximately 96 percent of the Company's annualized rentals were 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 2014. Minimum future rental revenues from leases in effect at December 31, 1999, determined without regard to renewal options, are summarized as follows:
The above minimum future rental revenue does not include contingent rentals that may be received under provisions of the lease agreements. Contingent rentals amounted to $9,638,000, $4,724,000 and $2,850,000 for the years 1999, 1998, and 1997, respectively.
At December 31, 1999, annualized rental revenues totaled approximately $16,534,000 for the State of Florida, when all of its departments and agencies which lease space in the Company's buildings were combined.
5. STOCK OPTIONS AND RIGHTS.
1988 STOCK OPTION PLAN. The Company's Amended and Restated 1988 Stock Option Plan (the "1988 Plan") provides for the granting of options to purchase up to 500,000 shares of its common stock to key employees of the Company and its subsidiaries. To exercise the option, payment of the option price is required before the option shares are delivered. These options expire seven years from the date of grant and are generally exercisable beginning one year from the date of the grant at the rate of 20 percent per annum of the shares covered by each option on a cumulative basis being fully exercisable five years after the date of grant.
1993 STOCK OPTION PLAN. The Company's 1993 Stock Option Plan (the "1993 Plan") provides for the granting of options to purchase up to 1,000,000 shares of its common stock to key employees of the Company and its affiliates. To exercise the option, payment of the option price is required before the option shares are delivered. These options expire ten years from the date of grant and are generally exercisable beginning one year from the date of the grant at the rate of 20 percent per annum of the shares covered by each option on a cumulative basis being fully exercisable five years after the date of grant.
1996 STOCK OPTION PLAN. The Company's 1996 Stock Option Plan (the "1996 Plan") provides for the granting of options to purchase up to 650,000 shares of its common stock to key employees of the Company. To exercise the option, payment of the option price is required before the option shares are delivered. These options expire ten years from the date of grant and are exercisable beginning one year from the date of the grant at the rate of 20 percent per annum of the shares covered by each option on a cumulative basis being fully exercisable five years after the date of grant.
1998 EQUITY AND CASH INCENTIVE PLAN. The Company's 1998 Equity and Cash Incentive Plan (the "1998 Plan") provides for the issuance of up to 1,000,000 shares of its common stock pursuant to the grant of awards under this plan which may include stock options, stock appreciation rights, restricted stock, unrestricted stock, deferred stock and performance awards (in cash or stock or combinations thereof). Options granted pursuant to the 1998 Plan would expire ten years from the date of grant.
INFORMATION CONCERNING OPTIONS GRANTED. Substantially all of the options granted have been granted with an exercise price equal to the market value at the date of grant. If compensation cost for stock option grants had been determined based on the fair value at the grant dates for 1999, 1998 and 1997 consistent with the method prescribed by SFAS No. 123, the Company's net earnings and earnings per share would have been adjusted to the pro forma amounts indicated below:
Under SFAS No. 123, the fair value of each option grant is estimated on the date of grant using the binomial option-pricing model with the following weighted average assumptions used for grants in 1999, 1998 and 1997:
A summary of the status of fixed stock option grants as of December 31, 1999, 1998 and 1997, and changes during the years ending on those dates is presented below:
There were no options granted during 1999. The weighted average fair values of options granted during 1998 and 1997 were $2.71 and $4.35 per option, respectively.
The following table summarizes information about fixed stock options outstanding at December 31, 1999:
Remaining non-exercisable options as of December 31, 1999 become exercisable as follows:
SHAREHOLDER RIGHTS PLAN. Pursuant to a Shareholder Rights Plan (the "Rights Plan"), on September 30, 1990, the Board of Directors of the Company declared a dividend of one Common Stock Purchase Right for each outstanding share of common stock of the Company. Under the terms of the Rights Plan, the rights which were distributed to the shareholders of record on October 11, 1990, trade together with the Company's Shares and are not exercisable until the occurrence of certain events (none of which have occurred through December 31, 1999), including acquisition of, or commencement of a tender offer for, 15 percent or more of the Company's common stock. In such event, each right
entitles its holder (other than the acquiring person or bidder) to acquire additional shares of the Company's common stock at a fifty percent discount from the market price. The rights are redeemable under circumstances as specified in the Rights Plan. The Rights Plan was amended effective October 10, 1996 for a certain shareholder and its affiliates. See Note 2 for further discussion of this amendment.
6. STOCK INVESTMENT PLAN.
The Company has a monthly stock investment plan (the "SIP") which provides for regular purchases of the Company's Shares by all employees and directors. The SIP provides for monthly payroll and directors' fees deductions up to $1,700 per month with the Company making monthly contributions for the account of each participant as follows: (i) 25 percent of amounts up to $50; (ii) 20 percent of amounts between $50 and $100; and (iii) 15 percent of amounts between $100 and $1,700, which amounts are used by an unaffiliated Administrator to purchase Shares from the Company.
The Company has reserved a total of 200,000 Shares for issuance under the SIP. The Company's contribution and the expenses incurred in administering the SIP totaled approximately $54,700, $58,500 and $59,300 for 1999, 1998 and 1997, respectively. Through December 31, 1999, 115,349 Shares have been issued under the SIP.
7. EMPLOYEE BENEFIT PLANS.
The Company has a 401(k) plan (the "401(k) Plan") which permits contributions by employees. For 1997, the Company's Board of Directors approved a Company contribution to the 401(k) Plan in the form of the Company's Shares (9,197 Shares which had a value of approximately $202,000 on December 31, 1997). The contribution for 1997 was made during February 1998. For 1998, the Company's Board of Directors approved a Company contribution to the 401(k) Plan in the form of the Company's Shares (15,603 Shares which had a value of approximately $268,000 on December 31, 1998). The contribution for 1998 was made during February 1999. For 1999, the Company's Board of Directors approved a Company contribution to the 401(k) Plan in the form of the Company's Shares (15,358 Shares which had a value of approximately $259,000 on December 31, 1999). The contribution for 1999 was made on February 18, 2000.
The Company has a supplemental executive retirement plan (the "SERP"), an unfunded defined benefit plan. The purpose of the SERP is to facilitate the retirement of select key executive employees by supplementing their benefits under the Company's 401(k) Plan. The benefits are based on years of service and the employee's average base salary during the last three calendar years of employment.
Net periodic pension cost for the SERP for 1999, 1998 and 1997 was as follows (in thousands):
Assumptions used in the computation of net periodic pension cost for the SERP were as follows:
The following table provides a reconciliation of benefit obligations, the status of the unfunded SERP and the amounts included in accrued liabilities-other in the Consolidated Balance Sheet at December 31, 1999 and 1998 (in thousands):
8. DIVIDENDS.
During 1999, 1998 and 1997, the Company paid a total of $1.30, $1.10 and $0.35 per share of dividends, respectively. The Company intends that the quarterly dividend payout in the last quarter of each year will be adjusted to reflect the distribution of at least 95 percent of the Company's REIT taxable income as required by the Federal income tax laws. The Company's secured revolving credit facility requires the Company to maintain certain financial ratios, which includes a limitation on dividends. During December 1999, the Company's Board of Directors declared a quarterly dividend of $0.35 per share payable on February 3, 2000, to shareholders of record on December 31, 1999.
9. FEDERAL INCOME TAXES.
The Company is operated in a manner so as to qualify and has elected tax treatment as a REIT. For the year ended December 31, 1999, the Company's taxable income prior to the dividends paid deduction was approximately $34,661,000 (which equals the Company's 1999 dividends paid deduction). The Company's taxable income prior to the dividends paid deduction for the years ended December 31, 1998 and 1997 was approximately $28,910,000 and $7,473,000, respectively. The difference between net income for financial reporting purposes and taxable income results primarily from different methods of accounting for bad debts, depreciable lives related to the properties owned, advance rents received and net operating loss carryforwards. At December 31, 1999, the net book basis of the Company's assets and liabilities exceeded the net tax basis of assets and liabilities in the amount of approximately $37.3 million.
The Company utilized approximately $1,901,000 and $15,610,000 of net operating loss carryforwards to reduce REIT taxable income for 1998 and 1997, respectively. The Company's net operating loss carryforward available to offset REIT taxable income for 1999 is approximately $5,020,000. The use of net operating loss carryforwards and other tax attributes by the Company is subject to certain limitations imposed by Internal Revenue Code Sections 382 and 383. These limitations apply to both regular and alternative minimum taxes. These net operating loss carryforwards and other tax attributes can be used in varying degrees to offset REIT taxable income or tax through 2007. For 1998 and 1997, the Company incurred alternative minimum taxes of approximately $380,000 and $603,000, respectively, and recorded a provision for alternative minimum taxes of approximately $135,000 for 1999.
10. COMMITMENTS AND CONTINGENCIES.
At December 31, 1999, the Company had commitments for the construction of buildings and improvements to existing buildings of approximately $10 million.
11. SUBSEQUENT EVENTS (UNAUDITED).
On February 17, 2000, the Company's Board of Directors (the "Board") approved a program to lend up to $2.5 million to executive officers and department heads for the purpose of exercising options. The loans will have a term of 60 months and will bear interest at 150 basis points over the applicable LIBOR rate. These loans will be recourse loans and will be collateralized by the stock obtained from the option exercise. In addition, each loan may not exceed 75 percent of the value of the collateral.
On February 17, 2000, the Board adopted severance agreements for the three senior executive officers of the Company. These agreements provide for the following upon termination: (1) immediate vesting of all benefits under the Company's Supplemental Executive Retirement Plan; (2) immediate vesting of all options granted; and (3) severance payments (of approximately $3.7 million) based upon the formula of 300 percent of annual base salary plus the average annual bonus for the prior three years.
Effective March 1, 2000, Thomas J. Crocker was appointed Chief Executive Officer and Robert E. Onisko was appointed Chief Financial Officer. In addition, Mr. Crocker was elected to the Company's Board of Directors.
The Company granted options to purchase 1,146,000 shares of its common stock to certain key employees on February 17, 2000. All options were granted with an exercise price equal to the market value at the date of grant.
In conjunction with the Company's plan to repurchase up to 2.65 million shares of its common stock, the Board granted to Thomas Crocker, Chief Executive Officer, the right to purchase up to 500,000 Shares and to Robert Onisko, Chief Financial Officer, the right to purchase up to 150,000 Shares. These officers are entitled to make purchases of one Share of every three Shares purchased by the Company as part of this plan. The Shares may be purchased at the end of each month at the average price of the Shares repurchased by the Company during the month. In addition, the Company will loan up to 75 percent of the purchase price for these Shares to Mr. Crocker and Mr. Onisko. These loans will be collateralized by the Shares purchased and will be without recourse. The loan amount can not exceed 75 percent of the collateral value at any point in time. These loans will bear interest at 150 basis points over the applicable LIBOR rate.
12. INTERIM FINANCIAL INFORMATION (UNAUDITED).
Selected quarterly information for the two years in the period ended December 31, 1999 is presented below (in thousands except per share amounts):
(1) The results for the quarter ended September 30, 1999 were affected by a gain on the sale of assets, which totaled $3,861.
SCHEDULE II
KOGER EQUITY, INC. AND SUBSIDIARIES VALUATION AND QUALIFYING ACCOUNTS FOR THE THREE YEARS ENDED DECEMBER 31, 1999 (IN THOUSANDS)
(a) Receivable balance which was determined to be uncollectible and written-off in the applicable year. (b) Land parcel was sold for which valuation allowance had been recorded.
SCHEDULE III
KOGER EQUITY, INC. AND SUBSIDIARIES REAL ESTATE AND ACCUMULATED DEPRECIATION AS OF DECEMBER 31, 1999 (IN THOUSANDS)
SCHEDULE III
KOGER EQUITY, INC. AND SUBSIDIARIES REAL ESTATE AND ACCUMULATED DEPRECIATION AS OF DECEMBER 31, 1999 (IN THOUSANDS)
SCHEDULE III
KOGER EQUITY, INC. AND SUBSIDIARIES REAL ESTATE AND ACCUMULATED DEPRECIATION AS OF DECEMBER 31, 1999 (IN THOUSANDS)
(a) At December 31, 1999, the outstanding balance of mortgages payable was $257,528. In addition, the Company has a secured revolving credit facility with variable interest rates which is collaterialized by mortgages on a pool of buildings. At December 31, 1999, the outstanding balance of the secured revolving credit facility was $94,000. (b) Aggregate cost basis for Federal income tax purposes was $1,016,626 at December 31, 1999. (c) Reconciliation of total real estate carrying value for the years ended December 31, 1999, 1998 and 1997 is as follows:
(d) Reconciliation of accumulated depreciation for the years ended December 31, 1999, 1998 and 1997 is as follows:
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None. PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information about directors of the Company who are not executive officers is contained in the Company's Proxy Statement (the "2000 Proxy Statement") and is incorporated herein by reference.
The following tabulation lists the executive officers of the Company, their ages and their occupations for the past five years:
Mr. Hughes, age 64, was elected Chairman of the Board on June 21, 1996. He also served as Chief Executive Officer from June 21, 1996 to February 29, 2000. He held the position of Chief Financial Officer of the Company from March 31, 1991 to April 1, 1998, and the position of President from August 22, 1995 to November 14, 1997. Mr. Hughes also held the position of Senior Vice President of the Company from May 20, 1991 to August 21, 1995. Mr. Hughes was elected to the Board of Directors of the Company on July 27, 1992.
Mr. Crocker, age 46, became Chief Executive Officer of the Company on March 1, 2000, and was elected to the Board of Directors of the Company on February 17, 2000. He previously held the position of Chief Executive Officer of Crocker Realty Trust, Inc., a private real estate investment trust, from November 1997 to February 29, 2000, and Chief Executive Officer of Crocker & Associates, L.P., a private real estate limited partnership, from July 1996 to November 1997. Mr. Crocker served as Chairman and Chief Executive Officer of Crocker Realty Trust, Inc., a public real estate investment trust, from July 1, 1995 to June 30, 1996. Mr. Crocker also served as Chairman and Chief Executive Officer of Crocker Realty Investors, Inc., a public real estate investment trust, from September 30, 1993 to July 1, 1995. Mr. Crocker was Chief Executive Officer of Crocker & Sons, Inc., a private real estate company, from January 1, 1995 to June 30, 1995.
Mr. Teagle, age 58, was elected President on November 14, 1997, and has been Chief Operating Officer of the Company since June 21, 1996. He previously held the positions of Executive Vice President from June 21, 1996 to November 14, 1997, Senior Vice President from May 10, 1994 to June 21, 1996, and Vice President from December 21, 1993 to May 10, 1994. Mr. Teagle was elected to the Board of Directors of the Company on October 10, 1996.
Mr. Onisko, age 52, became Chief Financial Officer of the Company on March 1, 2000. He previously held the position of Secretary and Treasurer of Crocker Realty Trust, Inc., a private real estate investment trust, from November 1997 to February 29, 2000. From July 1996 to November 1997, Mr. Onisko served as Secretary and Treasurer of Crocker & Associates, L.P., a private real estate limited partnership. He was Executive Vice President, Chief Financial Officer and Secretary of Crocker Realty Trust, Inc., a public real estate investment trust, from July 1, 1995 to June 30, 1996. From January 1, 1995 to June 30, 1995, he served as Executive Vice President and Chief Financial Officer of Crocker Realty Investors, Inc., a private real estate investment trust, and as Executive Vice President of Crocker & Sons, Inc., a private real estate company.
Mr. Bridger, age 63, was elected Senior Vice President of Development on November 14, 1997. He had held the position of Vice President since May 10, 1994.
Mr. Jenkins, age 56, has been the Corporate Secretary of the Company since December 21, 1993, and Vice President of the Company since May 10, 1994.
Mr. Stephens, age 42, has been Vice President of the Company since May 7, 1996, and was the Treasurer of the Company from March 31, 1991 to May 7, 1996. He has served as Chief Accounting Officer of the Company since March 31, 1991.
Section 16(a) of the Securities Exchange Act of 1934 requires that the Company's directors and executive officers file with the Securities and Exchange Commission (the "SEC") and the American Stock Exchange initial reports of ownership and reports of changes in ownership of the Company's equity securities. Executive officers and directors are required by regulations of the SEC to furnish the Company with copies of all Section 16(a) forms they file.
To the Company's knowledge, based solely on review of the copies of such reports furnished to the Company and written representations that no other reports were required, during the fiscal year ended December 31, 1999, the Company's executive officers and directors complied with all Section 16(a) filing requirements.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
Information regarding executive compensation is incorporated by reference to the section headed "Executive Compensation" in the 2000 Proxy Statement (except for information contained under the headings "Compensation Committee Report on Executive Compensation" and "Shareholder Return Performance Presentation").
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The stock ownership of each person known to the Company to be the beneficial owner of more than five percent (5%) of its outstanding common stock is incorporated by reference to the section headed "Principal Holders of Voting Securities" of the 2000 Proxy Statement. The beneficial ownership of common stock of all directors of the Company is incorporated by reference to the section headed "Election of Directors" contained in the 2000 Proxy Statement.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Reference is made to Item 1. "Business," 2. "Properties," 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations" and Note 2 "Transactions With Related Parties" to the Notes to Consolidated Financial Statements contained in this Report and to the heading "Certain Relationships and Transactions" contained in the 2000 Proxy Statement for information regarding certain relationships and related transactions which information is incorporated herein by reference.
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K (a)(1) See "Item 8 - Financial Statements and Supplementary Data - Index to Consolidated Financial Statements and Financial Statement Schedules" for a list of the financial statements included in this report. (2) The consolidated supplemental financial statement schedules required by Regulation S-X are included on pages 40 through 43 in this Form. (b) Reports on Form 8-K: On November 17, 1999, the Company filed a Form 8-K (dated September 2, 1999) reporting under Item 5, Other Events, that the Company was filing copies of loan documents dated as of September 2, 1999 evidencing a $45 million secured loan with Northwestern Mutual Life Insurance Company and providing under Item 7, Financial Statements and Exhibits, copies of the loan documents evidencing the $45 million secured loan.
(c) The following exhibits are filed as part of this report:
*Filed with this Report.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant, Koger Equity, Inc., has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
KOGER EQUITY, INC.
By: Victor A. Hughes, Jr. --------------------- Victor A. Hughes, Jr. Chairman of the Board Date: March 20, 2000
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant in the capacities and on the dates indicated.