Item 1: Business
Overview
We are a fully integrated, self-administered and self-managed real estate investment trust, or "REIT." We are a Maryland corporation and one of the nation's largest owners of neighborhood and community shopping centers. We acquire, own, manage, lease and redevelop primarily grocer-anchored neighborhood and community shopping centers located in the Eastern, Midwestern and Southwestern United States. As of December 31, 2004, we had a shopping center portfolio consisting of 164 shopping centers, located in 29 states and totaling approximately 33.7 million square feet of total gross leasable area ("GLA"), of which approximately 28.0 million square feet was Company-owned GLA. Our shopping center portfolio was 93.3% leased as of December 31, 2004.
We are headquartered in Boston, Massachusetts and have sixteen regional offices located in the Eastern, Midwestern, and Southwestern United States. We also own three office buildings.
Heritage Property Investment Limited Partnership ("Heritage OP") and Bradley Operating Limited Partnership ("Bradley OP") are subsidiaries through which we conduct substantially all of our business and own (either directly or through subsidiaries) substantially all of our assets. As of December 31, 2004, we owned directly or indirectly all of the ownership interests in the Heritage OP and approximately 98.5% of the ownership interests in the Bradley OP, and we are the sole general partner of Heritage OP and, through a wholly owned subsidiary, of Bradley OP. This structure is commonly referred to as an umbrella partnership REIT or UPREIT.
We elected to be taxed as a REIT under Sections 856 through 860 of the Internal Revenue Code, commencing with our initial taxable year ended December 31, 1999. We believe that we are organized in conformity with the requirements for qualification as a REIT under the Internal Revenue Code, and that our manner of operation enables us to meet the requirements for taxation as a REIT for federal income tax purposes. To maintain our REIT status, we must meet a number of organizational and operational requirements, including a requirement that we distribute at least 90% of our REIT taxable income to our stockholders. As a REIT, we generally will not be subject to federal income tax on REIT taxable income we distribute to our stockholders. If we fail to qualify as a REIT in any taxable year, we will be subject to federal income tax at regular corporate rates. Even if we qualify for taxation as a REIT, we may be subject to some federal, state and local taxes on our income and property.
2004 Highlights and Recent Developments
Expansion of Shopping Center Portfolio
During 2004, we expanded our shopping center portfolio by acquiring four properties aggregating 1.1 million square feet of GLA, of which 0.9 million square feet was Company-owned. The aggregate investment for the four properties was $153 million, which was funded through borrowings under our line of credit, the assumption of mortgage debt, and the issuance of common units of limited partnership interest in Bradley OP.
Disposition of Non-Core Assets
During 2004, we also completed the disposition of two shopping centers, two shopping center parcels and one office building. The net proceeds from these dispositions was $30.1 million, resulting in an aggregate gain of $4.0 million. The proceeds from these sales were used to partially repay our line of credit. The sale of these properties was consistent with our policy to sell that do not meet our long-term ownership criteria assets and redeploy the capital into the acquisition of shopping centers.
Lakes Crossing Joint Venture
In May 2004, we completed our first joint venture for the development and construction of a shopping center located in Norton Shores (Muskegon), Michigan, a suburb of Grand Rapids. The joint venture is owned equally by the Company and Westwood Development Group, a regional developer based in Michigan. We made an initial equity investment of $3.3 million and provided a short-term bridge loan of approximately $9.2 million, which was repaid in November 2004.
The center, known as Lakes Crossing, began construction in late 2003 and is expected to be completed by the spring of 2006. Lakes Crossing is located on an approximately 58.5 acre site and is situated at the intersection of US Highway 31 and Harvey Street, directly across from Lakes Crossing Mall. The project will contain approximately 302,000 square feet of retail space, of which 210,000 square feet will be owned by the joint venture. Lakes Crossing is anchored by Kohl's Department Stores (which owns its 88,000 square foot location) and will feature a mix of national and local retailers. The joint venture has signed lease agreements with Circuit City, Catherine's, Shoe Carnival, Johnny Carino's, Logan's Roadhouse, Jo 2 Go and Quizno's totaling 67,000 square feet. The joint venture has also entered into letters of intent for leases with additional national retailers totaling 66,000 square feet.
In November 2004, the joint venture obtained a $22 million construction loan from Key Bank, National Association, a portion of which was used to pay off the $9.2 million bridge loan referred to above. The Key Bank loan matures in November 2006 (subject to extension) and has been fully guaranteed by the Company.
April Debt Offering
On April 1, 2004, we completed the issuance and sale of $200 million principal amount of unsecured 5.125% notes due April 15, 2014. These notes were priced to yield 5.236% at a spread of 135 basis points over the comparable U.S. Treasury note. The net proceeds from the offering were used to reduce the outstanding balance on our line of credit. Including all offering expenses, the original issuance discount and the settlement of forward swaps entered in advance of the issuance of the notes, the all-in effective interest rate of the unsecured notes is 5.33%.
On March 8, 2004, in anticipation of our note offering, we entered into forward starting interest rate swaps with a total notional amount of approximately $192.5 million. The purpose of these forward swaps was to mitigate the risk of changes in interest rates prior to the pricing of our offering. These
forward swaps were terminated subsequent to the pricing of the offering. We received a payment of $1.185 million in connection with the termination of these forward swaps.
October Debt Offering
On October 15, 2004, we completed the offering and sale of $150 million principal amount of unsecured 4.50% notes due October 15, 2009. These notes were priced to yield 4.521% at a spread of 118 basis points over the comparable U.S. Treasury note. The net proceeds from the offering were used to reduce the outstanding balance on our line of credit. Including all offering expenses and the settlement of the forward swaps in advance of the issuance of the notes, the all-in effective interest rate of the unsecured notes is 5.03%.
On August 24, 2004, in anticipation of our note offering, we entered into forward starting interest rate swaps with a total notional amount of $146.6 million. The purpose of these forward swaps was to mitigate the risk of changes in interest rates prior to the pricing of our offering. These forward swaps were terminated subsequent to the pricing of the offering. We made a payment of approximately $1.7 million in connection with the termination of these forward swaps.
Redemption of Series B Preferred Operating Partnership Units
On February 23, 2004, we redeemed all outstanding 8.875% Series B Cumulative Redeemable Perpetual Preferred Units of Bradley OP. All 2,000,000 of the outstanding Series B Preferred Units were redeemed at a redemption price of approximately $25.00 per unit. There were no unamortized issuance costs associated with the Series B Preferred Units, therefore, we did not incur a charge in connection with this redemption.
Redemption of Series C Preferred Operating Partnership Units
On September 7, 2004, we redeemed all outstanding 8.875% Series C Cumulative Redeemable Perpetual Preferred Units of Bradley OP. All 1,000,000 of the outstanding Series C Preferred Units were redeemed at a redemption price of approximately $25.00 per unit. There were no unamortized issuance costs associated with the Series C Preferred Units, therefore, we did not incur a charge in connection with this redemption. As a result of the redemption of the Series C Preferred Units, there are currently no preferred units of Bradley OP outstanding.
Repayment of Bradley OP Bonds
On November 15, 2004, we repaid upon maturity all $100 million aggregate principal amount of 7% Notes due 2004 of Bradley OP, which were issued in November 1997. We funded this repayment through borrowings under our line of credit.
Board of Director Changes
In June 2004, Michael J. Joyce joined our Board of Directors, following his retirement as an active partner from the public accounting firm, Deloitte & Touche LLP. Prior to his retirement, Mr. Joyce served as the New England Managing Partner of Deloitte. Mr. Joyce joined the predecessor firm of Deloitte in 1967 and became an accounting and auditing partner in 1975. Mr. Joyce also serves on our Audit Committee and has been designated as our Board's "audit committee financial expert." Mr. Joyce was appointed to complete a term of office expiring at the 2005 annual meeting of our stockholders. Our Board has nominated Mr. Joyce to stand for re-election at the upcoming annual meeting of our stockholders.
On September 10, 2004, our Board of Directors elected Ritchie Reardon to the Board effective immediately. Mr. Reardon was elected to our Board as the fourth designee of our largest stockholder,
Net Realty Holding Trust. Pursuant to the Second Amended and Restated Stockholders Agreement, dated as of April 29, 2002, among us, Net Realty Holding Trust and The Prudential Insurance Company of America, Net Realty Holding Trust has the right to appoint four directors to our Board as long as it continues to own at least 25% of our outstanding shares of common stock.
Mr. Reardon is President of Teamsters Local 25 of Boston, Massachusetts, and is a member of the Boards of Trustees of Net Realty Holding Trust and the New England Teamsters and Trucking Industry Pension Fund ("NETT"), the parent company of Net Realty Holding Trust. Mr. Reardon was elected to complete the term of office of Paul V. Walsh, who retired as of December 31, 2003. Mr. Reardon's term of office will expire at the annual meeting of our stockholders to be held in 2006.
Officer Changes
On May 13, 2004, we announced that Robert G. Prendergast, formerly Vice President, Property Management and Construction, had been appointed our Senior Vice President and Chief Operating Officer effective immediately. In his new role, Mr. Prendergast is responsible for overseeing our day-to-day operations. Mr. Prendergast has been with us since 1999.
In addition, we also announced that David C. Sweetser, Vice President, Business Development, was assuming direct responsibility for our property management and construction departments. Mr. Sweetser, who joined us in February 2004, has over 20 years experience in the real estate business.
Payment of Dividends
During 2004, we paid aggregate dividends on our common stock of $2.10 per share.
New Line of Credit
In February 2005, we obtained a commitment to establish a three-year, $350 million unsecured line of credit with Wachovia Bank, as agent. Wachovia has agreed to use its "best efforts" to syndicate this line of credit. This new line of credit, which we expect to enter into shortly, will replace our existing unsecured credit facility. We intend to use this new line of credit principally to fund growth opportunities and for working capital purposes. This new line of credit will bear interest at a floating rate based on a spread over LIBOR ranging from 62.5 basis points to 115 basis points, including a facility fee, depending upon our debt rating. Based on our current debt rating, we anticipate this new line of credit will bear interest at a floating rate over LIBOR of 100 basis points, including the facility fee.
Business and Growth Strategies
Our business strategy has been, and will continue to be, to generate stable and increasing cash flow and asset value by acquiring and managing a portfolio of real estate properties located in attractive markets with strong economic and demographic characteristics. Our business strategy consists of the following elements:
•Building and leveraging our long-term tenant relationships. An important priority in managing our business is establishing and developing strong, lasting relationships with our tenants. We believe that we have been successful in consistently meeting or exceeding the expectations and demands of our tenants. Over the years, this strategy has allowed us to forge mutually beneficial business relationships, enabling our tenants, through our broad geographic focus and contacts, to enter new markets and leverage opportunities to increase their presence in and across markets. We intend to continue to leverage our tenant relationships as we grow and expand our business.
•Maximizing cash flow from our properties by continuing to enhance the operating performance of each property. We manage our properties through a coordinated property management and
leasing program, which enables us to achieve operating, marketing and leasing efficiencies. We aggressively lease currently available space and space that becomes available, both to existing and new tenants. During 2004, we signed new leases and renewals of leases on 3.1 million square feet of space at an average base rental rate increase of 6.0% over the expired rates on a cash basis. As of December 31, 2004, leases on 1.9 million square feet of space were scheduled to expire in 2005, representing 7.2% of our total portfolio GLA.
•Targeting redevelopment and expansion projects that we believe will generate substantial returns. We seek to leverage our operating and redevelopment capabilities to capitalize on prospects within our existing portfolio. In particular, we are currently exploring opportunities to expand our existing centers, to reposition our tenant mix and, where appropriate, to lease parcels on our properties with minimal incremental cost.
•Increasing the number of anchor tenants to enhance the consumer traffic at our neighborhood and community shopping centers. We believe that securing multiple anchors at a property enhances the attractiveness of the center by increasing consumer traffic, which enhances the performance of our other tenants within the remaining available space of a center. We believe that there are additional opportunities to increase the number of anchor tenants at some of the existing properties in our portfolio.
•Pursuing opportunities to acquire multi-anchored, primarily by grocers, neighborhood and community shopping centers. We utilize our knowledge of key markets to pursue opportunistic acquisitions of primarily grocer-anchored shopping centers with a multi-anchored focus. We seek to establish a firm market presence by owning multiple properties in an area and employ a dual strategy that focuses our acquisition activities primarily in the top 50 Metropolitan Statistical Areas ("MSA's"). First, we target properties in geographic areas proximate to our existing shopping centers located in 29 states, which allows us to maximize our current resources and manage expenses. Second, we explore opportunities to expand into other geographic markets where the opportunity presented is a sizable portfolio that will allow us to reach an economy of scale. Our senior management team has developed long-standing relationships with institutional and other owners and operators of shopping center properties and has built a national broker network. These efforts have enhanced our ability to identify and capitalize on acquisition opportunities.
•Increasing our sources of capital and acquisition activities by pursuing joint ventures with local developers and institutional investors. As the acquisition environment has grown more competitive, we have begun to develop alternative sources of acquisition candidates and capital sources. Development joint ventures will allow us to leverage our operating expertise to create value, enhance our profitable growth and participate in areas of new developments. We are also actively pursuing other joint ventures whose goals are to provide us with an alternative source of capital. These joint ventures will allow us to use our management experience and infrastructure to expand our portfolio, generating solid returns for both our partners and ourselves.
Our Competitive Strengths
We seek to implement our strategy in a number of ways, including by our:
•Grocer-anchored neighborhood and community shopping center focus. As of December 31, 2004, approximately 72% of our centers were grocer-anchored and these centers accounted for approximately 71% of our total net operating income for the year. Grocers are, in our experience, more resistant to economic downturns by the nature of their business and generate continuous consumer traffic to our centers. This traffic enhances the quality and appeal of our centers and benefits our other tenants.
•Multi-anchored focus. Our shopping centers have an average of 2.8 anchor tenants. We consider an anchor tenant to be a tenant that occupies at least 15,000 square feet at one of our centers. In our experience, multiple anchors attract greater consumer flow through the entire shopping center and add to the economic stability of our shopping centers as a whole.
•Diverse tenant base. No single tenant currently represents more than approximately 5.5% of our annualized base rental revenue. As of December 31, 2004, we had approximately 3,300 separate leases with various tenants, including national and regional supermarket chains, drug stores, discount retail stores, other nationally or regionally known stores and a great variety of other regional and local retailers. We believe that this diversity of tenants will enable us to generate more stable cash flows over time.
•Geographic diversification. Our properties are located in 29 states, in the Eastern, Midwestern and Southwestern United States. As of December 31, 2004, the five largest concentrations of properties in our total portfolio, based on total annualized base rent, were located in Illinois, North Carolina, Minnesota, Indiana and New York, representing 12.2%, 9.9%, 9.7%, 7.1% and 6.9% respectively. We believe that geographic diversity helps mitigate the risks associated with localized economic downturns.
•Attractive locations with strong market demographics. The average population within a three-mile radius of our properties is approximately 64,000 and the average annual household income in such areas is $64,000, based upon 2000 census data provided by Applied Geographic Solutions. We believe these strong market demographics provide our properties with a consistent supply of shoppers who exhibit strong demand for goods and services.
•Seasoned management team. Our senior management team is comprised of executives with an average of over 20 years of experience in the acquisition, management, leasing, redevelopment and construction of real estate or retail properties. In particular, we believe the in-depth market knowledge and long-term tenant relationships developed by our senior management provide us with a key competitive advantage.
Financing Strategy
Our financing strategy is to maintain a strong financial position by maintaining a prudent level of leverage and managing our variable interest rate exposure. We have accomplished this by being flexible in selecting the best means available of financing our operations and growth, including accessing the public equity markets.
In April 2002, we completed our initial public offering and sold 14,080,556 shares of our common stock at a price of $25.00 per share resulting in net proceeds to us of $323 million. We used the net proceeds of our initial public offering to reduce our indebtedness.
In December 2003, we completed a secondary public offering of our common stock and sold a total of 3,932,736 shares at a net price of $28.27 per share resulting in net proceeds to us of $111 million. We used the net proceeds to repay indebtedness.
At December 31, 2004, we had approximately $1.3 billion of indebtedness consisting of a combination of our unsecured line of credit, unsecured notes issued by the Company and by one of our operating partnerships and mortgage indebtedness. This aggregate indebtedness has a weighted average interest rate of 6.19% with an average maturity of 5.0 years. As of December 31, 2004, our market capitalization was $2.8 billion, resulting in a debt-to-total market capitalization ratio of approximately 46.0%.
We have a three-year $350 million unsecured line of credit with a group of lenders and Bank of America (as successor to Fleet National Bank), as agent, expiring April 29, 2005. Our two operating partnerships are the borrowers under this line of credit and we, and certain of our other subsidiaries, have guaranteed this line of credit. This line of credit is being used principally to fund growth opportunities and for working capital purposes. At December 31, 2004, $196 million was outstanding under the line of credit.
In February 2005, we obtained a commitment to establish a new three-year, $350 million unsecured line of credit with Wachovia Bank, as agent. Wachovia has agreed to use its "best efforts" to syndicate this line of credit. This new line of credit, which we expect to enter into shortly, will replace our existing line of credit facility. We intend to use this new line of credit principally to fund growth opportunities and for working capital purposes.
Our ability to enter into this new line of credit is subject to final approval and satisfactory completion by the lender of its due diligence and preparation and execution of an acceptable credit agreement. We cannot assure you that we will enter into this new line of credit or that Wachovia will be successful in syndicating this line of credit up to $350 million. In the event we are unable to enter into this new line of credit on or before April 29, 2005, we would seek an extension of our existing line of credit for up to one year. In addition, in light of our investment grade credit ratings and prior capital markets activity, we believe there are sufficient alternative financing sources available to us to refinance our existing line of credit, including through a combination of one or more short-term bridge loans, public or private offerings of common stock, preferred stock or debt securities or the incurrence of additional indebtedness through secured or unsecured borrowings.
On April 1, 2004, we completed the issuance and sale of $200 million principal amount of unsecured 5.125% notes due April 15, 2014. These notes were priced to yield 5.236% at a spread of 135 basis points over the comparable U.S. Treasury note. The net proceeds from the offering were used to reduce the outstanding balance on our line of credit. Our two operating partnerships guaranteed these notes. Including all offering expenses, the original issuance discount and the settlement of forward swaps entered into in advance of the issuance of the notes, the all-in effective interest rate of the unsecured notes is 5.33%.
On October 15, 2004, the Company completed the offering and sale of $150 million principal amount of unsecured 4.50% notes due October 15, 2009. These notes were priced to yield 4.521% at a spread of 118 basis points over the comparable U.S. Treasury note. The net proceeds from the offering were used to reduce the outstanding balance on our line of credit. Our two operating partnerships guaranteed these notes. Including all offering expenses and the settlement of the forward swaps entered into in advance, the all-in effective interest rate of the unsecured notes is 5.03%.
We intend to finance future growth with the most advantageous source of capital available. These sources may include selling common stock, preferred stock or debt securities through public offerings or private offerings, incurring or assuming additional indebtedness through secured or unsecured borrowings, issuing units of limited partnership interests of one of our operating partnerships in exchange for contributed property, and reinvesting proceeds received upon the disposition of properties.
In addition, we expect to enter into joint ventures with institutions or developers to acquire properties or portfolios, reducing the amount of capital required by us to make those investments. Joint venturing of shopping centers also provides us with a capital source for new development, as well as the opportunity to earn fees for asset and property management services. As asset manager, we will be engaged by our partners to apply similar operating, investment, and capital strategies to the portfolios owned by the joint ventures.
During October 2003, we filed a shelf registration statement on Form S-3 for up to $500 million of debt securities, preferred stock, common stock and common stock warrants. This shelf registration statement will permit us to utilize the public debt and equity markets as a principal source of capital for our expansion and other needs. As of March 11, 2005, we had approximately $389 million available for issuance under this shelf registration statement.
We believe that our existing working capital and cash provided by operations should be sufficient to meet our short-term liquidity requirements, consisting primarily of funds necessary for operating expenses and other property expenditures, recurring maintenance capital expenditures, interest expense and scheduled principal payments on outstanding indebtedness and future distributions to our stockholders. In addition, we believe that our existing working capital, cash provided by operations, secured and unsecured indebtedness, our line of credit (or our new line of credit) and equity capital will continue to be available to us in the future to fund our long-term liquidity requirements consisting primarily of funds necessary to pay for scheduled debt maturities, renovations, expansions and other non-recurring capital expenditures that need to be made periodically to our properties, and the costs associated with acquisitions of properties that we pursue.
Growth Strategy
Acquisitions
We target multi-anchored, open-air neighborhood and community shopping centers generally containing greater than 125,000 square feet of GLA. In particular, we seek to acquire those shopping centers anchored by market-leading grocers or those regional operators who have dominant positions in their trade areas. In addition, we focus on the presence of, or the ability to add, other additional anchor(s) for these centers, including electronics, home improvement, off-price retailers, office superstores, and fabric and clothing retailers, all of whom we believe to be generally beneficial to the value of the center. In addition to those anchors, we also seek properties with a diverse tenant mix that includes service retailers, such as banks, florists, restaurants, and apparel and specialty shops. We seek a convenient and easily accessible location with abundant parking close to residential communities, with excellent visibility for our tenants and easy access for neighborhood shoppers.
With respect to our geographical focus, historically, our acquisition activities were focused primarily in the Eastern and Midwestern United States. We seek to establish a significant market presence by owning multiple properties in an area. As our portfolio has grown, we have employed and will, in the future, continue to employ, a dual strategy that focuses our acquisition activities primarily in the top 50 MSA's. The first part of our strategy is to target properties in geographic areas proximate to our existing neighborhood and community shopping centers, which allows us to maximize our current resources and manage expenses. In 2004, we acquired four additional shopping centers consistent with this strategy.
The second part of our strategy is to explore opportunities to expand into other geographic markets, particularly where the opportunity presented is a sizable portfolio that will allow us to reach an economy of scale. In 2003, we capitalized on just such an opportunity when we entered the Texas marketplace for the first time through our Trademark portfolio acquisition, consisting of eight properties. In connection with this transaction, we also established a regional office in Dallas, Texas, which will facilitate future growth in Texas. We anticipate that we will use this transaction to further expand in the Southwestern and/or Western United States marketplaces in the future.
With the emergence of Wal-Mart and increased consolidation within the traditional grocer industry, in the future, we expect that some of the shopping centers we may acquire will not contain a traditional grocer-anchor. These centers may, in some instances, contain a specialty grocer. However, we will continue to focus on acquiring our core property type-dominant, well-established grocer- and
multi-anchored centers located in densely populated communities in Top 50 MSAs within our core markets.
We will continue to evaluate all potential acquisitions on a property-by-property and market-by-market basis. We evaluate each market based on similar criteria, including: stable or growing population base; positive job growth; diverse economy, and other competitive factors.
Joint Ventures
In 2004, we added a new component to our growth strategy through our pursuit of strategic joint ventures. These joint ventures will provide us with greater access to potential acquisitions and alternative sources of capital to fund acquisitions. We expect such joint ventures to take one of two forms.
The first type of joint venture arrangement we are pursuing are arrangements with third party developers. In these joint ventures, we will partner with a local developer to develop and construct shopping centers in attractive markets. Fundamentally, this development joint venture strategy is simply an extension of our acquisition philosophy because these joint ventures will enable us to take advantage of attractive opportunities to "pre-purchase" quality assets. These properties will be substantially similar to those properties within our core portfolio. In addition, these joint ventures will provide us with the potential for generating fee income.
In May 2004, we completed our first joint venture for the development and construction of a 302,000 square foot shopping center located in Norton Shores (Muskegon), Michigan, a suburb of Grand Rapids. The joint venture is owned equally by the Company and Westwood Development Group, a regional developer based in Michigan. The Company made an initial equity investment of $3.3 million and provided a short-term bridge loan of approximately $9.2 million, which was repaid in November 2004.
The second type of joint venture arrangement we are pursuing are arrangements with institutional investors. These joint ventures allow us to use our management experience and infrastructure to expand our portfolio, generating solid returns for both our partners and ourselves and enabling us to earn steady fee income. We expect the types of properties we might acquire through these joint ventures to be substantially similar to those properties we seek to acquire for our core portfolio.
We expect to increase our joint venture activity in these areas in 2005.
Dispositions
We generally hold our properties for investment and the production of rental income and not for sale to buyers in the ordinary course of our business. However, we continually analyze each asset in our portfolio and will consider those properties that might be sold or exchanged for optimal sale prices or exchange values, given prevailing market conditions and the particular characteristics of each property.
In 2004, we also focused more closely on our capital recycling program as we continued to determine those properties that do not meet our long-term strategy due to their size, geographic location or lack of sufficient growth opportunities. In 2004, we completed the disposition of two shopping centers, two shopping center parcels and one office building. In the future, through our capital recycling program, we will dispose of additional properties that are not a strategic fit within our overall portfolio.
In-House Leasing and Property Management Program
We believe that effective leasing is the key to successful asset management. We maintain close relationships with our tenants, properties and markets by maintaining 16 regional offices in addition to
our corporate headquarters in Boston. A majority of these offices are staffed with leasing representatives. Our primary goal is for each leasing representative to become an expert in his or her marketplace by becoming familiar with current tenants as well as potential local, regional and national tenants who would complement our current tenant mix. The renewal and replacement of tenants is critical to our leasing and management performance.
Our full time property managers are located throughout our regional offices, which make them easily accessible to our properties. This enables our managers to remain in frequent contact with our tenants and to ensure the proper maintenance of our properties. We periodically renovate and improve our properties in order to keep them in top condition to enable us to attract and retain our tenants.
Our leasing and property management functions are supervised and administered by our senior officers at our Boston headquarters. Corporate management, leasing and property management personnel regularly visit all of our properties to support our regional personnel and to ensure implementation of our policies and directives.
Competition
We encounter competition for acquisitions of existing income-producing properties. We also face competition in leasing available space at our properties to prospective tenants. The actual competition for tenants varies depending upon the characteristics of each local market in which we own and manage property. We believe that the principal competitive factors in attracting tenants in our market areas are location, price, and the presence of anchor tenants and maintenance of properties.
We believe that competition for the acquisition and operation of retail shopping centers is highly fragmented. We face competition from institutional pension funds, other domestic and foreign institutional investors, other REITs and owner-operators engaged in the acquisition, ownership and leasing of shopping centers as well as from numerous local, regional and national real estate developers and owners in each of our markets. In recent years, competition for the acquisition of properties has grown more fierce.
Environmental Matters
Under various federal, state and local laws, ordinances and regulations, an owner or operator of real estate may be liable for the costs of removal or remediation of hazardous or toxic substances present at, on, under, in, or released from its property. We currently have approximately eighteen properties in our portfolio that are undergoing or have been identified as requiring or potentially requiring some form of remediation (including monitoring for compliance) to clean up contamination. In some cases, contamination has migrated into the groundwater beneath our properties from adjacent properties, such as service stations. In other cases, contamination has resulted from on-site uses by current or former owners or tenants, such as gas stations or dry cleaners, which have released pollutants such as gasoline or dry-cleaning solvents into soil and/or groundwater. Based on our experience with properties in our portfolio, we believe the cost of remediation for contamination resulting from dry-cleaning pollutants will range from approximately $15,000 to $450,000 per property, and the cost of remediation for contamination from gasoline pollutants will range from approximately $15,000 to $100,000 per property. Any failure to properly remediate the contamination at our properties may result in liability to federal, state or local governments for damages to natural resources or liability to third parties for property damage or personal injury and may adversely affect our ability to operate, lease or sell that property.
Of the approximately eighteen properties cited above, half of those properties were contributed to us by Net Realty Holding Trust, our largest stockholder. These contributed properties (together with approximately ten other contributed properties for which no remediation is currently taking place) are the subject of an indemnity arrangement under which Net Realty Holding Trust has agreed to
indemnify us against environmental liabilities up to $50 million in the aggregate. Since our formation in 1999, we have been reimbursed by Net Realty Holding Trust for approximately $2.1 million of environmental costs pursuant to this indemnity. Although we do not believe that the aggregate indemnity amount will be needed, we believe that Net Realty Holding Trust has the ability to perform under its indemnity up to the aggregate amount. In addition, each of the properties for which we are actively pursuing remediation to clean up contamination is covered by this indemnity.
With respect to the remaining properties cited above not covered by the Net Realty Holding Trust indemnity, no clean-up activities are currently taking place and our requisite on-going responsibilities are to monitor those properties for compliance and to determine if any remediation or other action may be required in the future. We believe that the costs of monitoring these properties are not material, individually or in the aggregate, to our financial condition and we have established reserves for such costs.
In addition to the costs of remediation described above, we may incur additional costs to comply with federal, state and local laws, ordinances and regulations relating to environmental protection and human health and safety generally. These laws, ordinances and regulations generally govern wastewater discharges, air emissions, the operation and removal of underground and above-ground storage tanks, the use, storage, treatment, transportation and disposal of solid and hazardous materials, the management of asbestos and the remediation of contamination. Some of these laws, ordinances and regulations may impose joint and several liabilities on current or former tenants, owners or operators for the costs of investigation or remediation of contaminated properties, regardless of fault or the legality of the actions that caused the contamination. Some of these laws and regulations require compliance with new or more stringent standards as of future dates. Compliance with new or more stringent laws or regulations, stricter interpretation of existing laws or the future discovery of environmental contamination may require material expenditures on our part. Future laws, ordinances or regulations may impose material environmental liability, or the current environmental condition of our properties may affect the operations of our tenants, the existing condition of the land, operations in the vicinity of the properties, such as the presence of underground storage tanks, or the activities of unrelated third parties. These laws typically allow liens to be placed on the affected property. In addition, there are various local, state and federal fire, health, life-safety and similar regulations which may be applicable to our operations, and which may subject us to liability in the form of fines or damages for noncompliance.
Employees
At December 31, 2004, we had 156 total employees. Our employees included 26 leasing and support personnel, 57 property management and support personnel, 9 legal and support personnel, and 64 corporate management and support personnel. We believe that our relations with our employees are good. None of our employees are unionized.
Available Information
A copy of this Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and any amendments to those reports are available free of charge on our Internet website, www.heritagerealty.com, as soon as reasonably practicable after we electronically file those reports or amendments with, or furnish those reports to, the Securities and Exchange Commission. The information contained on our website does not constitute incorporation by reference of the information contained on the website and should not be considered part of this document. We will also furnish
copies of those reports free of charge upon written request to our Investor Relations department at the following address:
Heritage Property Investment Trust, Inc.
Investor Relations
131 Dartmouth Street
Boston, MA 02116
(617) 247-2200
Also posted on our web site, and available in print upon request of any stockholder to our Investor Relations department, are the charters for our Audit Committee, Compensation Committee and Nominating and Corporate Governance Committee, our Corporate Governance Guidelines, our Code of Ethics for Financial Professionals, our Code of Business Conduct and Ethics governing our directors, officers and employees and our Whistleblower Policy. Within the time period required by the SEC and the New York Stock Exchange, we will disclose on our web site any amendment to, or waiver from, a provision of our Code of Ethics for Financial Professionals and our Code of Business Conduct and Ethics. In addition, our web site includes information concerning purchases and sales of our equity securities by our executive officers and directors, as well as disclosure relating to certain non-GAAP financial measures (as defined in the SEC's Regulation G) that we may make public orally, telephonically, by webcast, by broadcast or by similar means from time to time.
The SEC also maintains an Internet website that contains reports, proxy and information statements, and other information regarding issuers, including the Company, that file electronically with the SEC. The public can obtain any documents that we file with the SEC at http://www.sec.gov.
Risk Factors
An investment in our common stock involves significant risks, which should be considered in addition to other information set forth elsewhere in this Form 10-K.
Adverse market conditions affect our results of operations.
The economic performance and value of our real estate assets is subject to all of the risks associated with owning and operating real estate, including risks related to adverse changes in national, regional and local economic and market conditions. Our properties currently are located in 29 states, primarily in the East and the Midwest. The economic condition of each of our markets may be dependent on one or more industries. An economic downturn generally or in one of these industry sectors may result in an increase in tenant bankruptcies, which may harm our performance in the affected market. Economic and market conditions also may impact the ability of our tenants to make lease payments. If our properties do not generate sufficient income to meet our operating expenses, including future debt service, our income and results of operations would be significantly harmed.
Downturns or changes in the retailing industry will have a direct impact on our performance.
Our properties consist of neighborhood and community shopping centers. Our performance, therefore, is linked to economic conditions in the market for retail space generally. The market for retail space has been, and could in the future be, adversely affected by weakness in the national, regional and local economies, the adverse financial condition of some large retailing companies, the ongoing consolidation in the retail sector, the increasing market strength of Wal-Mart, including its continued growth as a grocer, the excess amount of retail space in a number of markets, and increasing consumer purchases through catalogues or the Internet. In particular, consolidation within the retail industry has reduced the number of prospective tenants to lease our available space. Furthermore, many national tenants have increased their overall buying power as a result of consolidation, thereby increasing their leverage in negotiating lease terms with us. To the extent that any of these conditions occur or continue, they are likely to impact market rents for retail space.
A downturn in our tenants' businesses, tenant bankruptcies, leasing delays we encounter, particularly with respect to our anchor tenants, will affect our ability to collect balances due from tenants and would seriously harm our operating results.
At any time, our tenants may experience a downturn in their businesses that may weaken their financial condition. As a result, our tenants may delay lease commencement, fail to make rental payments when due, or declare bankruptcy. We are subject to the risk that these tenants may be unable to make their lease payments or may decline to extend a lease upon its expiration. Any tenant bankruptcies, leasing delays, or failure to make rental payments when due could result in the termination of the tenant's lease and material losses to our company and would harm our operating results.
Any bankruptcy filings by or relating to one of our tenants or a lease guarantor would bar all efforts by us to collect pre-bankruptcy debts from that tenant, the lease guarantor or their property, unless we receive an order permitting us to do so from the bankruptcy court. A tenant or lease guarantor bankruptcy could delay our efforts to collect past due balances under the relevant leases, and could ultimately preclude full collection of these sums. If a tenant assumes the lease while in bankruptcy, all pre-bankruptcy balances due under the lease must be paid to us in full. However, if a tenant rejects the lease while in bankruptcy, we would have only a general unsecured claim for pre-petition damages. Any unsecured claim we hold may be paid only to the extent that funds are available and only in the same percentage as is paid to all other holders of unsecured claims. It is
possible that we may recover substantially less than the full value of any unsecured claims we hold, which may harm our financial condition.
Certain provisions of our leases with our tenants may harm our operating performance.
We have entered into leases with our tenants that allow the tenant to terminate their lease or to pay reduced rent from us if an anchor tenant in the same shopping center terminates its lease with us or fails to occupy the premises. In that event, we may be unable to re-lease the vacated space. Similarly, the leases of some anchor tenants may permit the anchor tenant to transfer its lease to another retailer. The transfer to a new anchor tenant could cause customer traffic in the retail center to decrease, which would reduce the income generated by that retail center. A transfer of a lease to a new anchor tenant could also allow other tenants to make reduced rental payments or to terminate their leases at the retail center.
In addition, in many cases, our tenant leases contain provisions giving the tenant the exclusive right to sell particular types of merchandise or provide specific types of services within the particular retail center, or limit the ability of other tenants within that center to sell that merchandise or provide those services. When re-leasing space after a vacancy by one of these other tenants, these provisions may limit the number and types of prospective tenants for the vacant space. The failure to re-lease or to re-lease on satisfactory terms could harm our operating results.
We face considerable competition in the leasing market and may not be able to renew leases or re-let space as leases expire.
We face competition from similar retail centers within the trade areas of each of our centers when renewing leases or releasing space as leases expire. In addition, any new competitive properties that are developed within the trade areas of our existing properties may result in increased competition. Even if our tenants do re-new or we are successful in re-letting space, it is possible that the terms of renewal or re-letting may be less favorable than existing lease terms.
For example, increased competition for tenants may require us to make capital improvements to properties that we would not have otherwise planned to make. Any unbudgeted capital expenditures we undertake may divert cash that would otherwise be available for distributions to stockholders. Ultimately, to the extent we are unable to renew leases or re-lease space as leases expire, cash flow from tenants would be decreased resulting in lower operating results.
We face increasing competition in the acquisition of additional real estate properties and other assets.
We face competition in making acquisitions of additional real estate properties and other assets. Integral to our business strategy is our ability to expand through acquisitions, which requires us to identify suitable acquisition candidates or investment opportunities that meet our criteria and are comparable with our growth strategy. We compete with many other entities engaged in real estate investment activities for acquisitions of retail shopping centers, including institutional pension funds, other domestic and foreign institutional investors, other REITs and other owner-operators of shopping centers. These competitors may drive up the price we must pay for the real estate properties, other assets and other companies we seek to acquire, or may succeed in acquiring those companies or assets themselves. In addition, our potential acquisition targets may find our competitors to be more attractive suitors because they may have greater resources, may be willing to pay more, or may have a more compatible operating philosophy. In particular, larger REITs may enjoy significant competitive advantages that result from, among other things, a lower cost of capital and enhanced operating efficiencies.
In addition, during 2004, the number of entities and the amount of funds competing for suitable investment properties continued to increase. This resulted in increased demand for these assets and
therefore increased prices paid for them. If we pay higher prices for properties, our profitability will be reduced.
Future acquisitions of properties may not yield the results we expect.
We intend to continue acquiring shopping centers. We face the risk that newly acquired properties may fail to perform as we anticipate. For instance, acquired properties may not perform as well as we anticipate because of changes in demand for retail space that negatively impact our ability to renew leases or re-let space. In addition, our management may underestimate the costs necessary to integrate acquired properties within our portfolio.
We anticipate that our working capital reserves and cash flow from operations may not be adequate to cover all of our cash needs and we will have to obtain financing from other sources.
We anticipate that our working capital reserves will not be adequate to cover all of our cash needs. In order to cover those needs, we may have to obtain financing from other sources. Sufficient financing may not be available or, if available, may not be available on economically feasible terms or on terms acceptable to us. Additional borrowings for working capital purposes will increase our interest expense, and therefore may harm our financial condition and results of operations.
We have over $1.3 billion of debt, a portion of which is variable rate debt, which may impede our business and operating performance.
We have over $1.3 billion of outstanding indebtedness, approximately $211 million of which bears interest at a variable rate, and we have the ability to borrow $154 million of additional variable rate debt under our line of credit. Increases in interest rates on our existing indebtedness would increase our interest expense, which could harm our cash flow and our ability to pay distributions.
As we anticipate that our internally generated cash will be adequate to repay only a portion of our indebtedness prior to maturity, we expect that we will be required to repay debt through refinancings and/or equity offerings. In particular, we have outstanding indebtedness, principally our line of credit, which matures on April 29, 2005, that will require principal amortization and balloon payments of $241 million in 2005. It is likely that we will not have sufficient funds on hand to repay these balloon amounts at maturity and that we will have to borrow additional funds to make these payments. The amount of our existing indebtedness may adversely affect our ability to repay debt through refinancings. If we are unable to refinance our indebtedness on acceptable terms, or at all, we might be forced to dispose of one or more of our properties on disadvantageous terms, which might result in losses to us and which might adversely affect cash available for distributions. If prevailing interest rates or other factors at the time of refinancing result in higher interest rates on refinancing, our interest expense would increase, which would adversely affect our operating results.
We also intend to incur additional debt in connection with future acquisitions of real estate. We may, in some instances, borrow under our line of credit or borrow new funds to acquire properties. In addition, we may incur or increase our mortgage debt by obtaining loans secured by a portfolio of some or all of the real estate properties we acquire. We may also borrow funds, if necessary, to satisfy the requirement that we distribute to stockholders as distributions at least 90% of our annual REIT taxable income, or otherwise as is necessary or advisable to ensure that we maintain our qualification as a REIT for federal income tax purposes.
Our substantial debt may harm our business and operating results, including:
•Requiring our company to use a substantial portion of our funds from operations to pay interest, which reduces the amount available for distributions;
•Placing us at a competitive disadvantage compared to our competitors that have less debt;
•Making our company more vulnerable to economic and industry downturns and reducing our flexibility in responding to changing business and economic conditions; and
•Limiting our ability to borrow more money for operations, capital or to finance acquisitions in the future.
Our financial covenants may restrict our operating or acquisition activities.
The mortgages on our properties contain customary negative covenants such as those that limit our ability, without the prior consent of the lender, to further mortgage the applicable property or to discontinue insurance coverage. In addition, our outstanding unsecured debt contains customary restrictions, requirements and other limitations on our ability to incur indebtedness, including total debt to assets ratios, secured debt to total asset ratios, debt service coverage ratios and minimum ratios of unencumbered assets to unsecured debt, which we must maintain. Our ability to borrow under our line of credit is subject to compliance with these financial and other covenants.
We rely on borrowings under our line of credit to finance acquisitions and redevelopment activities and for working capital, and if we were unable to borrow under our line of credit or to refinance existing indebtedness, our financial condition and results of operations would likely be adversely impacted. Our line of credit and the indentures under which we have previously issued unsecured public debt also contain limitations on our ability to incur future secured and unsecured debt. If we need to pledge properties in order to borrow additional funds, these covenants could reduce our flexibility in conducting our operations by limiting our ability to borrow and may create a risk of default on our debt if we cannot continue to satisfy these covenants. If we breach covenants in our debt agreements, the lender can declare a default and require us to repay the debt immediately and, if the debt is secured, can immediately take possession of the property securing the loan.
We could become too highly leveraged because our organizational documents do not contain any limitation on the amount of debt we may incur.
Our organizational documents do not limit the amount of indebtedness that we, or our two operating partnerships, may incur. Although we intend to maintain a balance between our total outstanding indebtedness and the value of our portfolio, we could alter this balance at any time. If we become highly leveraged, then the resulting increase in debt service could adversely affect our ability to make payments on our outstanding indebtedness and harm our financial condition.
A downgrade in our credit rating could negatively impact us.
The floating rate of interest applicable to our line of credit is determined based on the credit ratings of our debt provided by independent rating agencies. Thus, if these credit ratings are downgraded, our interest expense will be, and our ability to raise additional debt may be, negatively impacted.
We do not have exclusive control over our joint venture investments, so we are unable to ensure that our objectives will be pursued.
We have invested in some cases as a co-venturer or partner in the development or redevelopment of new properties, instead of developing projects directly. These investments involve risks not present in a wholly owned development or redevelopment project. In these investments, we do not have exclusive control over the development, financing, leasing, management and other aspects of the project. As a result, the co-venturer or partner might have interests or goals that are inconsistent with our interests or goals, take action contrary to our interests or otherwise impede our objectives. The co-venturer or partner also might become insolvent or bankrupt.
Compliance with changing regulation of corporate governance and public disclosure may result in additional expenses.
Changing laws, regulations and standards relating to corporate governance and public disclosure, including the Sarbanes-Oxley Act of 2002, new SEC regulations and New York Stock Exchange rules, are creating uncertainty for companies such as ours. These new or changed laws, regulations and standards are subject to varying interpretations in many cases due to their lack of specificity, and as a result, their application in practice may evolve over time as new guidance is provided by regulatory and governing bodies, which could result in continuing uncertainty regarding compliance matters and higher costs necessitated by ongoing revisions to disclosure and governance practices.
We are committed to maintaining high standards of corporate governance and public disclosure. As a result, our efforts to comply with evolving laws, regulations and standards have resulted in, and are likely to continue to result in, increased general and administrative expenses and a diversion of management time and attention from revenue-generating activities to compliance activities. In particular, our ongoing efforts to comply with Section 404 of the Sarbanes-Oxley Act of 2002 and the related regulations regarding our required assessment of our internal controls over financial reporting and our external auditors' audit of that assessment has required the commitment of significant financial and managerial resources. We expect these efforts to require the continued commitment of significant resources. Further, our board members, chief executive officer and chief financial officer could face an increased risk of personal liability in connection with the performance of their duties. As a result, we may have difficulty attracting and retaining qualified board members and executive officers, which could harm our business. If our efforts to comply with new or changed laws, regulations and standards differ from the activities intended by regulatory or governing bodies due to ambiguities related to practice, our reputation may be harmed.
The costs of compliance with laws and changes in laws may harm our operating results.
Costs associated with complying with laws and changes in laws may adversely affect our financial condition and operating results. We have incurred increases in expenses as a result of regulatory changes and the costs of compliance at the corporate level associated with maintaining our status as a public company. These expenses are generally not passed through to our tenants under our leases. As a result, these increased expenses may adversely affect our cash flow and our ability to service our debt and make distributions to our stockholders.
In addition, our properties are subject to various federal, state and local regulatory requirements, such as the requirements of the Americans with Disabilities Act of 1990 and state and local fire and life safety requirements. Failure to comply with these requirements could result in the imposition of fines by regulatory agencies and governmental authorities or awards of damages to private litigants. In addition, these requirements are subject to change and new requirements could be imposed that would require significant unanticipated expenditures by us. Any of these events could adversely affect our cash flow and distribution to stockholders.
If we suffer losses that are not covered by insurance or that are in excess of our insurance coverage limits, we could lose invested capital and anticipated profits.
Catastrophic losses, such as losses due to wars, terrorist attacks, earthquakes, floods, hurricanes, pollution or environmental matters, generally are either uninsurable or not economically insurable, or may be subject to insurance coverage limitations, such as large deductibles or co-payments. If one of these events occurred to, or caused the destruction of, one or more of our properties, we could lose both our invested capital and anticipated profits from that property.
Liquidity of real estate investments could significantly impede our ability to respond to adverse changes in the performance of our properties.
Because real estate investments are relatively illiquid, our ability to promptly sell one or more properties in our portfolio in response to changing economic, financial and investment conditions is limited. The real estate market is affected by many factors, such as general economic conditions, availability of financing, interest rates and other factors, including supply and demand, that are beyond our control. We cannot predict whether we will be able to sell any property for the price or on the terms set by us, or whether any price or other terms offered by a prospective purchaser would be acceptable to us. We also cannot predict the length of time needed to find a willing purchaser and to complete the sale of a property. In addition, in recent years, some national anchor tenants have purchased their own parcels within our centers, which could reduce the value of our centers.
We may be required to expend funds to correct defects or to make improvements before a property can be sold. We may not have funds available to correct those defects or to make those improvements. In acquiring a property, we may agree to lockout provisions that materially restrict us from selling that property for a period of time or impose other restrictions, such as a limitation on the amount of debt that can be placed or repaid on that property. These lockout provisions would restrict our ability to sell a property. These factors and any others that would impede our ability to respond to adverse changes in the performance of our properties could significantly harm our financial condition and operating results.
Further issuances of equity securities may be dilutive to current security holders.
The interest of our existing security holders could be diluted if additional equity securities are issued to finance future acquisition and other working capital needs as an alternative to incurring additional indebtedness. Our ability to execute our business strategy depends on our access to an appropriate blend of debt financing, including unsecured lines of credit and other forms of secured and unsecured debt, and equity financing, including common and preferred equity.
Our largest stockholder owns approximately 42% of our common stock, exercises significant control of our company and may delay, defer or prevent us from taking actions that would be beneficial to our other stockholders.
Our largest stockholder, Net Realty Holding Trust, a wholly-owned subsidiary of NETT, owns approximately 42% of the outstanding shares of our common stock and has the right to nominate four of our directors. Accordingly, Net Realty Holding Trust is able to exercise significant control over the outcome of substantially all matters required to be submitted to our stockholders for approval, including decisions relating to the election of our board of directors, and the determination of our day-to-day corporate and management policies. In addition, Net Realty Holding Trust is able to exercise significant control over the outcome of any proposed merger or consolidation of our company under Maryland law. Net Realty Holding Trust's ownership interest in our company may discourage third parties from seeking to acquire control of our company, which may adversely affect the market price of our common stock.
Provisions of the company's charter and bylaws could inhibit changes in control of the company, and could prevent stockholders from obtaining a premium price for our common stock.
Our organizational documents contain provisions which may have the effect of delaying, deferring or preventing a change in control of our company or the removal of existing management and, as a result, could prevent our stockholders from being paid a premium for their shares of common stock over the then-prevailing market prices. These provisions include staggered terms for our directors, advance notice requirements for stockholder proposals and the absence of cumulative voting rights. In
addition, our organizational documents permit our board of directors to issue up to 50,000,000 shares of preferred stock, having those preferences, conversion or other rights, voting powers, restrictions, limitations as to distributions, qualifications, or terms or conditions of redemption as determined by our board. Thus, our board could authorize the issuance of preferred stock with terms and conditions which could have the effect of discouraging a takeover or other transaction in which holders of some or a majority of our shares might receive a premium for their shares over the then-prevailing market price of our shares.
Our board of directors has adopted the limitations available in Maryland law on changes in control that could prevent transactions in the best interests of stockholders.
Certain provisions of Maryland law applicable to us prohibit "business combinations," including certain issuances of equity securities, with any person who beneficially owns 10% or more of the voting power of outstanding shares, or with an affiliate of ours who, at any time within the two-year period prior to the date in question, was the beneficial owner of 10% or more of the voting power of the outstanding voting shares (which is referred to as a so-called "interested stockholder"), or with an affiliate of an interested stockholder. These prohibitions last for five years after the most recent date on which the interested stockholder became an interested stockholder. After the five-year period, a business combination with an interested stockholder must be approved by two super-majority stockholder votes unless, among other conditions, our common stockholders receive a minimum price for their shares and the consideration is received in cash or in the same form as previously paid by the interested stockholder for its shares of common stock.
Our share ownership limit may discourage a takeover of the company and depress our stock price.
In order for us to qualify as a REIT, no more than 50% of the value of outstanding shares of our capital stock may be owned, actually or constructively, by five or fewer individuals at any time during the last half of each taxable year. To make sure that we will not fail to qualify as a REIT under this test, subject to some exceptions, our articles prohibit any stockholder from owning actually or constructively more than 9.8% of the value or number of outstanding shares of our capital stock. Our board of directors may exempt a person from the 9.8% ownership limit if the board determines, in its sole discretion that exceeding the 9.8% ownership limit as to any proposed transferee would not jeopardize our qualification as a REIT. This restriction may: discourage a tender offer or other transactions or a change in management or control that might involve a premium price for our shares or otherwise be in the best interests of our stockholders; or compel a stockholder who had acquired more than 9.8% of our stock to dispose of the additional shares and, as a result, to forfeit the benefits of owning the additional shares.
If we fail to remain qualified as a REIT, our distributions will not be deductible by us, and our income will be subject to taxation, reducing our earnings available for distribution.
We intend to remain qualified as a REIT under the Internal Revenue Code, which will afford us significant tax advantages. The requirements for this qualification, however, are complex. If we fail to meet these requirements, our distributions will not be deductible by us and we will have to pay a corporate level tax on our income. This would substantially reduce our cash available to pay distributions. In addition, such a tax liability might cause us to borrow funds, liquidate some of our investments or take other steps, which could negatively affect our operating results. Moreover, if our REIT status is terminated because of our failure to meet a technical REIT requirement or if we voluntarily revoke our election, we would generally be disqualified from electing treatment as a REIT for the four taxable years following the year in which REIT status is lost.
Even REITs are subject to federal and state income taxes.
Even if we qualify and maintain our status as a REIT, we may become subject to federal income taxes and related state taxes. For example, if we have net income from a "prohibited transaction," that income will be subject to a 100% tax. A "prohibited transaction" is, in general, the sale or other disposition of inventory or property, other than foreclosure property, held primarily for sale to customers in the ordinary course of business. We may not be able to make sufficient distributions to avoid excise taxes applicable to REITs. We may also decide to retain income we earn from the sale or other disposition of our property and pay income tax directly on that income. In that event, our stockholders would be treated as if they earned that income and paid the tax on it directly. However, stockholders that are tax-exempt, such as charities or qualified pension plans would have no benefit from their deemed payment of that tax liability.
We may also be subject to state and local taxes on our income or property, either directly or at the level of our operating partnerships or at the level of the other companies through which we indirectly own our assets. We may not be able to continue to satisfy the REIT requirements, or it may not be in our best interests to continue to do so.
The lower tax rate on dividends from non-REIT C corporations may adversely affect the value of our stock.
While corporate dividends have traditionally been taxed at ordinary income rates, dividends received by individuals through December 31, 2008 from domestic corporations generally will be taxed at the maximum capital gains tax rate of 15% as opposed to the maximum ordinary income tax rate of 35%. This reduces substantially the so-called "double taxation" (that is, taxation at both the corporate and stockholder levels) that generally applies to non-REIT corporations but does not apply to REITs because REITs that distribute all of their taxable income generally do not pay any corporate income tax. REIT dividends are not eligible for the lower capital gains rates, except in certain circumstances where the dividends are attributable to income that has been subject to corporate-level tax. The application of capital gains rates to non-REIT C corporation dividends could cause individual investors to view stock in non-REIT C corporations as more attractive than stock in REITs, which may negatively affect the value of our common stock. We cannot predict what effect, if any, the application of the capital gains tax rate to dividends paid by non-REIT C corporations may have on the value of our stock, either in terms of price or relative to other potential investments.
Item 2:
Item 2: Properties
Shopping Centers
As of December 31, 2004, we had a shopping center portfolio consisting of 164 shopping centers, located in 29 states and totaling approximately 33.7 million square feet of total GLA, of which approximately 28.0 million square feet is company-owned GLA. Our shopping center portfolio was approximately 93.3% leased as of December 31, 2004. We believe that our shopping center properties are adequately covered by insurance.
Other Properties
As of December 31, 2004, the Company owned three office buildings, one in New York and two in Boston, totaling 222,000 square feet. We believe that our office buildings are adequately covered by insurance.
Offices
Our corporate headquarters are located at 131 Dartmouth Street, Boston, Massachusetts, a new office building located in the Back Bay constructed and owned by a joint venture that we entered into with our largest stockholder. We lease our new corporate headquarters space from the joint venture. Under this lease, which contains a term of eleven years, we lease approximately 31,000 square feet. We began to pay rent under this lease in February 2005. The Company pays $1.1 million per year in minimum rent through 2009 and $1.2 million per year from 2010 through 2014.
In addition, we also manage our properties through 16 regional offices, strategically located throughout our portfolio states. We own 15 of our 16 regional offices, some of which are located in our shopping center properties. We believe that our current and anticipated facilities are adequate for our present and future operations.
The following tables provide information about our properties, our tenants and lease expirations as of December 31, 2004.
(1)Represents the year the property originally opened for business and, if applicable, the year in which a substantial renovation was completed. These dates do not include years in which tenant improvements were made to the properties.
(2)Represents gross leasable area owned by us, including 1,423,834 square feet of gross leaseable area subject to ground leases and excludes 5,660,199 square feet of non-owned gross leasable area.
(3)Some of our shopping centers contain space not owned by us and space leased to tenants under ground leases. In addition to Company Owned GLA, Total GLA includes approximately 5.7 million square feet of this non-owned gross leasable area, which generally is owned directly by the anchor occupying this space, and 1.4 million square feet of ground leased gross leaseable area.
(4)Represents square feet of gross leasable area at a property that an anchor tenant either leases or owns.
(5)We define anchor tenants as single tenants which lease 15,000 square feet or more at a property. We define major tenants at our office buildings as tenants which lease 10% or more of the rentable square footage at a property.
(6)We calculate Annualized Base Rent for all leases in place in which tenants are in occupancy at December 31, 2004 as follows: total base rent to be received during the entire term of each lease, divided by the terms in months for such leases, multiplied by 12. For any leases relating to properties we acquired from NETT's real estate company upon our formation or relating to properties acquired from Bradley, we calculate total base rent to be received beginning from the date we acquired the property.
(7)Represents Annualized Base Rent divided by Company Owned GLA at December 31, 2004.
(8)Property contains 11,627 square feet of office space.
(9)Property is comprised of two shopping centers.
(10)Property contains 32,665 square feet of office space.
(11)We hold a leasehold interest in this property pursuant to a ground lease that expires in 2088.
(12)Williamson Square is owned by a joint venture of which we own 60%.
(13)We hold a leasehold interest in this property pursuant to a ground lease that expires in 2037.
Top Tenants by Annualized Base Rent
(1)We calculate annualized base rent for all leases in place in which tenants are in occupancy at December 31, 2004 as follows: total base rent to be received during the entire term of each lease, divided by the terms in months for such leases, multiplied by 12. For any leases relating to properties we acquire, we calculate total base rent to be received beginning from the date we acquired the property.
(2)Represents total Tenant Annualized Base Rent divided by Total Annualized Base Rent of $255,232,163.
(3)TJX Companies include: TJ Maxx (22), Marshalls (17), A.J. Wright (6), Homegoods (4) and Bob's Stores (2).
(4)The Kroger Co. includes: Kroger (11), Pay Less Supermarket (1) and Dillons (1).
(5)Supervalu Inc. includes: Cub Foods (5), Shop n' Save (1), Shop Rite (1) and Ray's Supermarket (1). Supervalu Inc. also includes (2) Cub Foods locations leased by a limited liability corporation of which Supervalu Inc. is a member.
(6)Associated Wholesale Grocers includes: Price Chopper (6), Russ' IGA (2), Super Saver (1) and Falley's Food 4 Less (1).
(7)Charming Shoppes includes: Fashion Bug (28), Lane Bryant (7) and Catherine's (4).
(8)Roundy's, Inc. includes: Pick N Save (4) and Rainbow Foods (4).
(9)Safeway includes: Dominick's (2), Randall's Food Market (2) and Tom Thumb (1).
(10)Ahold USA includes: Giant Foods (2), Bi-Lo (1), Bruno's (1) and Stop & Shop (1).
Total Lease Expiration Roll Out-December 31, 2004
(1)Represents the last 12 months of rent payable immediately prior to the expiration of the lease.
(2)Represents Expiring Base Rent divided by Expiring Square Feet.
(3)Includes tenants on a month-to-month agreement.
Item 3:
Item 3: Legal Proceedings
On October 31, 2001, a complaint was filed against us in the Superior Court of Suffolk County of the Commonwealth of Massachusetts by Weston Associates and its president, Paul Donahue, alleging that we owe Mr. Donahue and his firm a fee in connection with services he claims he performed on our behalf in connection with our acquisition of Bradley Real Estate Inc. On September 18, 2000, we acquired Bradley, a publicly traded REIT based in Illinois with nearly 100 shopping center properties located primarily in the Midwest, at an aggregate cost of approximately $1.2 billion. Through his personal relationships with the parties involved, at our request, Mr. Donahue introduced us to Bradley and its senior management team. Mr. Donahue alleges, however, that he played an instrumental role in the negotiation and completion of our acquisition of Bradley beyond merely introducing the parties. For these alleged efforts, Mr. Donahue demands that he receive a fee equal to 2% of the aggregate consideration we paid to acquire Bradley, or a fee of approximately $24 million. In addition, Mr. Donahue also seeks treble damages based on alleged unfair or deceptive business practices under Massachusetts law.
On November 29, 2002, the court granted our motion to dismiss Mr. Donahue's claims. Mr. Donahue subsequently filed an appeal of the court's decision and on March 4, 2004, an oral argument was heard with respect to Mr. Donahue's appeal. On July 14, 2004, the Massachusetts Appellate Court reversed the lower court's decision dismissing Mr. Donahue's claims. The Appellate Court's decision reverts the case back to the Superior Court for discovery and additional proceedings. It is not possible at this time to predict the outcome of this litigation and we intend to vigorously defend against these claims.
Except as set forth above, we are not involved in any material litigation nor, to our knowledge, is any material litigation threatened against us, other than routine litigation arising in the ordinary course of business, which is generally expected to be covered by insurance. In the opinion of our management, based upon currently available information, this litigation is not expected to have a material adverse effect on our business, financial condition or results of operations.
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, Related Stockholder Matters and Issuer Purchases of Equity Securities
Our common stock began trading on the New York Stock Exchange on April 24, 2002, under the symbol "HTG". As of March 4, 2005, we had approximately 3,600 common stockholders of record.
The following table sets forth, for the periods indicated and on a per-share basis, the high and low closing prices as reported by the New York Stock Exchange and per-share distributions declared during the last two fiscal years:
We intend to continue to declare quarterly distributions. No assurance, however, can be provided as to the amounts or timing of future distributions, as the maintenance of those distributions is subject to various factors, including the discretion of our Board of Directors, limitations contained in our debt instruments, the ability to pay dividends under Maryland law, the availability of cash to make the necessary dividend payments and the effect of REIT distribution requirements. In order to qualify for the beneficial tax treatment accorded to REITs under the Internal Revenue Code, we are required to make distributions to holders of our shares in an amount equal to 90% of our "real estate investment trust taxable income," as defined in Section 857 of the Internal Revenue Code.
In August 2004, we issued 7,814 shares of our common stock to an individual in a transaction exempt from the registration requirements of the Securities Act of 1933, as amended (the "Securities Act"), pursuant to (i) Section 4(2) of the Securities Act and Regulation D promulgated thereunder ("Regulation D"), and (ii) the status of the individual as an "accredited investor" as defined in Rule 501(a) of Regulation D. These shares were issued in exchange for 7,814 units of limited partnership interest in Bradley OP, which units were redeemable pursuant to Bradley OP's partnership agreement for cash or, at our option, shares of our common stock, on a one-to-one basis (subject to adjustment in the event of stock splits, stock dividends and similar events). In August 2004, this individual notified us of his desire to require Bradley OP to redeem his units by delivering a notice of redemption. We then exercised our right to issue shares of our common stock for such redeemed units and issued 7,814 shares of our common stock (the number of units redeemed) to this individual upon redemption of its units of limited partnership interest Bradley OP.
Item 6:
Item 6: Selected Financial Data
The following selected historical consolidated financial and operating data should be read together with "Management's Discussion and Analysis of Financial Condition and Results of Operations" and our consolidated financial statements on page of this Form 10-K. Our historical financial information has been presented on an accrual basis in accordance with generally accepted accounting principles, ("GAAP"), applicable to real estate investment trusts for all periods presented.
(1)Includes approximately 3.5 months of operations of the properties acquired from Bradley Real Estate, Inc. on September 18, 2000.
(2)Represents the total gross leasable area of all Company-owned and operated shopping center square footage.
(3)Net operating income, or "NOI," is a non-GAAP financial measure equal to net income available to common shareholders (the most directly comparable GAAP financial measure), plus accretion of redeemable equity, preferred stock distributions, minority interest in Bradley Operating Limited Partnership, net derivative losses (gains), losses (gains) on investments in securities, losses from prepayment of debt, general and administrative expense, depreciation and amortization, and interest expense, less income from discontinued operations, gains (losses) on sales of real estate investments and marketable securities, and interest and other income. We use NOI internally, and believe NOI provides useful information to investors, as a performance measure in evaluating the operating performance of our real estate assets. This is because NOI reflects only those income and expense items that are incurred at the property level and excludes certain components from net income in order to provide results that are more closely related to a property's results of operations. Our presentation of NOI may not be comparable to NOI reported by other REITs that define NOI differently. We believe that in order to obtain a clear understanding of our operating results, NOI should be examined in conjunction with net income as presented in our consolidated financial statements. NOI should not be considered as an alternative to net income as an indication of our performance or to cash flows as a measure of liquidity or ability to make distributions.
(4)We calculate Funds from Operations in accordance with the best practices described in the April 2001 National Policy Bulletin of the National Association of Real Estate Investment Trusts, referred to as NAREIT, and NAREIT's 1995 White Paper on Funds from Operations. The White Paper defines Funds From Operations as net income (loss) (computed in accordance with GAAP), excluding gains (or losses) from extraordinary items and sales of property, plus real estate related depreciation and amortization and after adjustments for unconsolidated partnerships and joint ventures. Given the nature of our business as a real estate owner and operator, we believe that FFO is helpful to investors as a starting point in measuring our operational performance because it excludes various items included in net income that do not relate to, or are not indicative of, our operating performance, such as gains (or losses) from sales of real estate investments and depreciation and amortization, which can make periodic and peer analyses of operating performance more difficult. However, FFO (i) should not be considered as an alternative to net income (determined in accordance with GAAP) as an indicator of our financial performance, (ii) is not an alternative to cash flow from operating activities (determined in accordance with GAAP) as a measure of our liquidity, and (iii) is not indicative of funds available to fund our cash needs, including our ability to make distributions. Our computation of FFO may differ from the methodology utilized by other equity REITs to calculate FFO and, therefore, may not be comparable to other REITs.
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 historical consolidated financial statements and related notes thereto.
Overview
We are a fully integrated, self-administered and self-managed real estate investment trust, or "REIT." We are one of the nation's largest owners of neighborhood and community shopping centers. As of December 31, 2004, we had a shopping center portfolio consisting of 164 shopping centers, located in 29 states and totaling approximately 33.7 million square feet of GLA, of which approximately 28.0 million square feet was Company-owned GLA. Our shopping center portfolio was approximately 93.3% leased as of December 31, 2004.
Our operating strategy is to own and manage a quality portfolio of community and neighborhood shopping centers that will provide stable cash flow and investment returns. Our focus is to own primarily grocer-anchored centers with a diverse and multi-anchored tenant base in attractive geographic locations with strong demographics. We derive substantially all of our revenues from rentals and recoveries received from tenants under existing leases on each of our properties. Our operating results therefore depend primarily on the ability of our tenants to make required rental payments.
Generally, we do not expect that our net operating income, a non-GAAP measure, will deviate significantly in the short-term. This is because our leases with our tenants provide us a stable cash flow over the long-term. In addition, other than in circumstances such as higher than anticipated snow removal costs, utility expenses, insurance costs or real estate taxes, our operating expenses generally remain predictable.
However, as an owner of community and neighborhood shopping centers, our performance is linked to economic conditions in the retail industry in those markets in which our centers are located. The retail sector continues to change dramatically as a result of continued industry consolidation due to the continuing strength of Wal-Mart and large retail bankruptcies in the recent past resulting in an excess amount of available retail space, fewer national tenants, and greater competition. We believe that the nature of the properties that we primarily own and invest in-grocer-anchored neighborhood and community shopping centers-provides a more stable revenue flow in uncertain economic times, as they are more resistant to economic down cycles. This stability is due to the fact that consumers still need to purchase food and other goods found at grocers, even in difficult economic times.
In the face of these challenging market conditions, we follow a dual growth strategy. First, we continue to focus on increasing our internal growth by leveraging our existing tenant relationships to improve the performance of our existing shopping center portfolio. We believe that there are meaningful opportunities to increase our cash flow from our existing properties because of their desirable locations. For instance, during 2002, 2003, and the first quarter of 2004, we were adversely affected by large retail bankruptcies that created vacant space within our portfolio and by the increasingly competitive leasing environment resulting from the economic downturn during the early part of this decade. However, as a result of our efforts to re-let space, including space recovered from bankrupt tenants, as well as the improvement in the overall performance of our portfolio and improving economic conditions within our markets, we experienced an increase of approximately 2.4% in our same property net operating income during 2004 (excluding lease termination activity). We anticipate our same property net operating income during 2005 will be consistent with our performance during 2004.
During 2004, in order to re-let vacant space within our portfolio, we incurred higher non-recurring capital expenditures than in prior periods as we re-positioned several of our centers for future growth. In addition, we anticipate incurring additional non-recurring capital expenditures during 2005 as we seek further opportunities to reposition vacant space.
Secondly, we focus on achieving external growth by the expansion of our portfolio and we will continue to pursue targeted acquisitions of multi-anchored, primarily by grocers, neighborhood and community shopping centers in attractive markets with strong economic and demographic characteristics. We will pursue acquisitions in our existing markets as well as in new markets, including where a portfolio of properties might be available to enable us to establish a platform for further growth. In recent years, the market for acquisitions has been particularly competitive with a greater number of potential buyers pursuing fewer properties. The low interest rate environment and reduced costs of funds have further served to dramatically increase prices paid for shopping center properties. As a result, during 2004, our effort to expand our portfolio through acquisition was adversely affected. We expect that as long as the interest rate environment continues to be favorable to buyers, this competitive acquisition environment will continue.
As a means of increasing our access to potential acquisitions and alternative sources of capital to fund future acquisitions, we are pursuing joint venture arrangements with third party developers and institutional investors. We completed our first joint venture arrangement with a third party developer during the second quarter of 2004. However, with respect to joint venture arrangements with third party developers, in most cases, we do not anticipate that we will recognize the full economic benefit of such arrangements for 2-3 years. In 2005, as a means of increasing our external growth, we also expect to aggressively pursue additional growth capital for acquisitions through strategic joint ventures with institutional investors.
In the near future, to take advantage of favorable market conditions, we intend to dispose of properties that are not a strategic fit within our overall portfolio. The disposition of shopping center properties may lead to short-term decreases in net operating income. However, we intend to offset any such decreases by re-investing the proceeds of such sales to grow our existing portfolio, whether through acquisition or joint venture. We may also use these sale proceeds to reduce our overall outstanding indebtedness, improving the quality of our balance sheet.
During 2004, as reflected below, our general and administrative expenses have been higher than anticipated as a result of increased staffing, various business initiatives aimed at future growth, the increased costs associated with being a public company and unanticipated severance costs. In particular, the costs associated with the Company's review of its internal controls to ensure compliance with Section 404 of the Sarbanes-Oxley Act have been significantly higher than expected. We expect these increased non-severance general and administrative costs to continue during 2005.
We currently expect to incur additional debt in connection with future acquisitions of real estate. As of December 31, 2004, we had $1.3 billion of indebtedness, of which approximately $645.8 million was unsecured indebtedness. Although we expect to assume additional secured debt in connection with the acquisition of real estate, in the future, we intend to finance our operations and growth primarily through borrowings under our line of credit facility, unsecured private or public debt offerings or by additional equity offerings. We may also pursue joint venture arrangements aimed at providing alternative sources of capital.
In addition, our existing unsecured line of credit matures on April 29, 2005. In February 2005, we obtained a commitment to establish a new three-year, $350 million unsecured line of credit with Wachovia Bank, as agent. Wachovia has agreed to use its "best efforts" to syndicate this new line of credit. This new line of credit, which we expect to enter into shortly, will replace our existing unsecured credit facility. In the event we are unable to enter into this new line of credit on or before April 29, 2005, we would seek an extension of our existing line of credit for up to one year. In addition, in light of our investment grade credit ratings and prior capital markets activity, we believe there are sufficient alternative financing sources available to us to refinance our existing line of credit, including through a combination of one or more short-term bridge loans, public or private offerings of common stock, preferred stock or debt securities or the incurrence of additional indebtedness through secured or unsecured borrowings.
Critical Accounting Policies
We have identified the following critical accounting policies that affect our more significant estimates and judgments used in the preparation of our consolidated financial statements. The preparation of our consolidated financial statements in conformity with GAAP requires us to make estimates and judgments that affect the reported amounts of assets and liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities.
On an ongoing basis, we evaluate our estimates, including those related to revenue recognition and the allowance for doubtful accounts receivable, real estate investments (including purchase price allocations) and asset impairment, and derivatives used to hedge interest-rate risks. We state these accounting policies in the notes to our consolidated financial statements and at relevant sections in this discussion and analysis. Our estimates are based on information that is currently available to us and on various other assumptions that we believe are reasonable under the circumstances. Actual results could differ from those estimates and those estimates could be different under varying assumptions or conditions.
Revenue Recognition
Rental income with scheduled rent increases is recognized using the straight-line method over the term of the leases commencing when the tenant takes possession of the space. The aggregate excess of rental revenue recognized on a straight-line basis over cash received under applicable lease provisions is included in accounts receivable. In addition, leases for both retail and office space generally contain provisions under which the tenants reimburse us for a portion of property operating expenses and real estate taxes incurred by us, requiring us to estimate the amount of revenue from these recoveries. Such recoveries revenue is recorded based on management's estimate of its recovery of certain operating expenses and real estate tax expenses, pursuant to the terms contained in related leases. In addition, certain of our operating leases for retail space contain contingent rent provisions under which tenants are required to pay a percentage of their sales in excess of a specified amount as additional rent. We defer recognition of contingent rental income until those specified targets are met.
We must make estimates of the uncollectibility of our accounts receivable related to minimum rent, deferred rent, expense reimbursements and other revenue or income. We specifically analyze accounts receivable and historical bad debts, tenant concentrations, tenant creditworthiness, current economic trends and changes in our tenant payment terms when evaluating the adequacy of the allowance for doubtful accounts receivable. These estimates have a direct impact on our net income, because a higher bad debt allowance would result in lower net income.
Real Estate Investments
At our formation in July 1999, contributed real estate investments were recorded at the carry-over basis of our predecessor, which was fair market value of the assets in conformity with GAAP applicable to pension funds. Subsequent acquisitions of real estate investments, including those acquired in connection with our acquisition of Bradley in September 2000 and other acquisitions since our formation, are recorded at cost. Expenditures that substantially extend the useful life of a real estate investment are capitalized. Expenditures for maintenance, repairs and betterments that do not materially extend the useful life of a real estate investment are charged to operations as incurred.
The provision for depreciation and amortization has been calculated using the straight-line method over the following estimated useful lives:
We are required to make subjective assessments as to the useful lives of our properties for purposes of determining the amount of depreciation to reflect on an annual basis with respect to our properties. These assessments have a direct impact on our net income because if we were to shorten the expected useful life of our properties or improvements, we would depreciate them over fewer years, resulting in more depreciation expense and lower net income on an annual basis during these periods.
We apply Statement of Financial Accounting Standards (SFAS) No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, to recognize and measure impairment of long-lived assets. We review each real estate investment for impairment whenever events or circumstances indicate that the carrying value of a real estate investment may not be recoverable. The review of recoverability is based on an estimate of the future undiscounted cash flows, excluding interest charges, expected to result from the real estate investment's use and eventual disposition. These cash flows consider factors such as expected future operating income, trends and prospects, as well as the effects of leasing demand, competition and other factors. If impairment exists due to the inability to recover the carrying value of a real estate investment, an impairment loss is recorded to the extent that the carrying value exceeds estimated fair market value, resulting in a lower net income. No such impairment losses have been recognized to date.
Real estate investments held for sale are carried at the lower of carrying amount or fair value, less cost to sell. Depreciation and amortization are suspended during the period held for sale.
We apply Statement of Financial Accounting Standards No. 141, Business Combinations, to property acquisitions. Accordingly, the fair value of the real estate acquired is allocated to the acquired tangible assets, and identified intangible assets and liabilities, consisting of the value of above-market and below-market leases, other value of in-place leases and value of tenant relationships, based in each case on their fair values.
The fair value of the tangible assets of an acquired property is determined by valuing the property as if it were vacant, and the "as-if-vacant" value is then allocated based on management's determination of the relative fair values of these assets. Management determines the as-if-vacant fair value of a property using methods similar to those used by independent appraisers. Factors considered by management in performing these analyses include an estimate of carrying costs during the expected lease-up periods considering current market conditions and costs to execute similar leases. In estimating carrying costs, management includes real estate taxes, insurance and other operating expenses and estimates of lost rental revenue during the expected lease-up periods based on current market demand. Management also estimates costs to execute similar leases including leasing commissions, legal and other related costs. The "as-if-vacant" value is then allocated amongst land, land improvements, building, and building improvements based on the Company's estimate of replacement costs.
In allocating the fair value of the identified intangible assets and liabilities of an acquired property, above-market and below-market in-place lease values are recorded based on the present value (using an interest rate which reflects the risks associated with the leases acquired) of the difference between (i) the contractual amounts to be paid pursuant to the in-place leases and (ii) management's estimate of fair market lease rates for the corresponding in-place leases, measured over a period equal to the remaining non-cancelable term of the lease. The capitalized above-market lease values are amortized as a reduction of rental income over the remaining non-cancelable terms of the respective leases. The capitalized below-market lease values are amortized as an increase to rental income over the initial term and any fixed rate renewal periods in the respective leases.
The aggregate value of other acquired intangible assets, consisting of in-place leases and tenant relationships, is measured by the excess of (i) the purchase price paid for a property after adjusting existing in-place leases to market rental rates over (ii) the estimated fair value of the property as if vacant, determined as set forth above. This aggregate value is allocated between in-place lease values and tenant relationships, if any, based on management's evaluation of the specific characteristics of
each tenant's lease; however, the value of tenant relationships has not been separated from in-place lease value for the additional interests in real estate entities because such value and its consequence to amortization expense is estimated to be immaterial for these particular acquisitions. Should future acquisitions of properties result in allocating material amounts to the value of tenant relationships, an amount would be separately allocated and amortized over the estimated life of the relationship. The value of in-place leases exclusive of the value of above-market and below-market in-place leases is amortized to expense over the remaining non-cancelable periods of the respective leases. If a lease were to be terminated prior to its stated expiration, all unamortized amounts relating to that lease would be written off.
Hedging Activities
From time to time, we use derivative financial instruments to limit our exposure to changes in interest rates. We were not a party to any hedging agreement with respect to our floating rate debt as of December 31, 2004 or 2003. We have in the past used derivative financial instruments to manage, or hedge, interest rate risks related to our borrowings, from lines of credit to medium and long-term financings. We require that hedging derivative instruments are effective in reducing the interest rate risk exposure that they are designed to hedge. We do not use derivatives for trading or speculative purposes and only enter into contracts with major financial institutions based on their credit rating and other factors.
If interest rate assumptions and other factors used to estimate a derivative's fair value or methodologies used to determine hedge effectiveness were different, amounts reported in earnings and other comprehensive income and losses expected to be reclassified into earnings in the future could be affected.
Results of Operations
The following discussion is based on our consolidated financial statements for the years ended December 31, 2004, 2003, and 2002.
From January 1, 2002 through December 31, 2004, we increased our total portfolio of properties (after reflecting dispositions) from 166 properties to 167 properties and from 26.2 million Company-owned GLA to 28.2 million Company-owned GLA. As a result of this growth of our total portfolio, the financial data presented below with respect to the Total Portfolio shows significant changes in revenues and expenses from period-to-period and, as a result, we do not believe our period-to-period financial data, with respect to the Total Portfolio are comparable in any meaningful way. Therefore, the comparison of operating results for the years ended December 31, 2004, 2003, and 2002 show changes resulting from net operating income for properties that we owned for each period compared (we refer to this comparison as our "Same Property Portfolio" for the applicable period) and the changes for income before net gains attributable to our Total Portfolio. Unless otherwise indicated, increases in revenue and expenses attributable to the Total Portfolio are due to the acquisition of properties during the years being compared. In addition, amounts classified as discontinued operations in the accompanying consolidated financial statements are excluded from the Total Portfolio information.
Comparison of the year ended December 31, 2004 to the year ended December 31, 2003
The table below shows selected operating information for our total portfolio and the 152 properties acquired prior to January 1, 2003 that remained in the total portfolio through December 31,
2004, which constitute the Same Property Portfolio for the years ended December 31, 2004 and 2003 (in thousands):
*For a detailed discussion of net operating income, including the reasons management believes NOI is useful to investors, and a reconciliation of NOI to a GAAP measure, see page 66. The increase in rental revenue, including termination fees, for our Same Property Portfolio is primarily the result of a decrease in the provision for allowance for doubtful accounts of $1.6 million and an increase in minimum rent of $0.5 million offset by a decrease of $0.8 million from termination fee income net of termination buyout costs. A lower provision was required for the year ended December 31, 2004 as compared with the year ended December 31, 2003 as a result of a decrease in large tenant bankruptcies and recoveries of amounts previously written off. Minimum rent increased as a result of new leases and rollovers of existing tenants at higher rental rates. Although our weighted average actual occupancy on a same property basis declined slightly to 92.2% as of December 31, 2004 from 92.7% as of December 31, 2003, the new leasing activity offset any loss of rental income related to the decrease in weighted average occupancy.
Percentage rent revenue decreased for our Same Property Portfolio primarily due to the loss of four anchor tenants with significant percentage rent components comprising $0.2 million as well as the uncertainty of realization that certain tenant sales thresholds have been met.
Recoveries revenue increased for our Same Property Portfolio primarily due to an overall increase in real estate tax recovery income of $2.6 million, a decrease in the provision for allowance for doubtful accounts of $0.4 million and an increase in property operating expense recovery income and other reimbursement income of $0.3 million. Real estate recovery income increased primarily as a result of an increase in real estate tax expense as well as an increase in the real estate tax expense recovery rates due to true-ups related to the improved annual reconciliation process. Property operating expense recovery income increased primarily as a result of an increase in the property operating expense recovery rates due to true-ups related to the annual reconciliation process offset by a decrease in reimbursable property operating expenses.
Property operating expenses decreased primarily as a result of a $0.5 million lease buy-out expense recorded in the prior year, a $0.5 million decrease in insurance expense, and a $0.3 million decrease in snow removal and related costs. These decreases were partially offset by a $0.2 million increase in maintenance and supervision expense and a $0.2 million increase in utility expense.
Real estate tax expense increased primarily as a result of increased valuations assessed for certain properties primarily located in the Mid-West.
Interest expense increased due to the issuance of $350 million of unsecured notes payable, higher average balances under the Company's line of credit, and an increase in mortgage loans payable as a result of the assumption of debt from various property acquisitions offset by a decrease due to the repayment of $100.0 million of bonds payable. Overall, the weighted average interest rate remained relatively constant in 2004 as compared with 2003. The Company's weighted average effective interest rate was 6.19% at December 31, 2004 as compared with 6.24% at December 31, 2003.
Our general and administrative expenses, consisting primarily of salaries, incentive compensation, employee benefits, insurance and other corporate-level expenses increased for the year ended December 31, 2004 as compared with the year ended December 31, 2003. This increase resulted from higher salary and incentive compensation expense due to a larger workforce, including the retention of two additional senior officers responsible for joint venture initiatives and as corporate counsel, and the replacement of stock options to be issued to senior management by the issuance of additional restricted shares of substantially equal value. The Company also incurred higher expenses associated with being a public company, including compliance with the Sarbanes-Oxley Act. In addition, office expenses increased due to the Company's relocation of its corporate office in February 2004. These increased costs were partially offset by $1.3 million less severance costs for the year ended December 31, 2004 as compared with the year ended December 31, 2003.
Comparison of the year ended December 31, 2003 to year ended December 31, 2002
The table below shows selected operating information for our Total Portfolio and the 153 properties acquired prior to January 1, 2002 that remained in our Total Portfolio through December 31, 2002 (which constitute the Same Property Portfolio for the years ended December 31, 2003 and 2002). Certain 2003 and 2002 amounts for the Total Portfolio have been reclassified to conform to the current presentation of discontinued operations (in thousands):
*For a detailed discussion of net operating income, including the reasons management believes NOI is useful to investors, and a reconciliation of NOI to a GAAP measure, see page 66.
The increase in rental revenue, including termination fees, for our Same Property Portfolio is primarily the result of new leases and rollovers of existing tenants at higher rental rates and an increase in termination fees of $1.6 million. Although our actual occupancy on a same property basis declined to 91.7% as of December 31, 2003 from 93.3% as of December 31, 2002, this new leasing activity offset any loss of rental income related to (i) new vacancies and bankruptcies, primarily Ames, Kmart and Fleming and (ii) additional charges to bad debts of $0.6 million.
Percentage rent revenue decreased for our Same Property Portfolio primarily due to the loss of three anchor tenants with significant percentage rent components comprising $0.7 million as well as the difference from the prior year timing of notification that sales thresholds have been met.
Recoveries revenue remained relatively flat for our Same Property Portfolio primarily due to an overall increase in property operating and real estate tax expenses offset by lower recovery rates resulting from higher vacancies. Recovery rates for recoverable property operating expenses decreased to 82.0% from 85.0% and recovery rates for real estate taxes decreased to 82.7% from 85.2%. The decrease in recovery rates for property operating expenses and real estate taxes is due to higher vacancies, including the loss of anchor tenants whose parcels were separately assessed and paid by the former tenants directly to the taxing authority.
Other property revenue decreased primarily as a result of the timing of notification that sales thresholds have been met for tax incentive financing revenue.
Property operating expenses increased primarily as a result of $1.5 million of snow removal costs associated with heavy snowfall across the portfolio during the first few calendar months of 2003 and December 2003 and $0.5 million of lease buyout expense incurred in 2003.
Real estate tax expense increased primarily as a result of an increase in tax rates across the portfolio, particularly those properties located in Illinois as well as additional tax expense related to the vacancy of certain anchor tenants who paid their property taxes directly to the taxing authorities.
Interest expense decreased due to lower average interest rates throughout the year as the Company's weighted average effective interest rate decreased to 6.24% at December 31, 2003 from 6.45% at December 31, 2002. This decrease was offset by an increase in mortgage loans payable as result of the assumption of debt from various property acquisitions.
General and administrative expenses decreased primarily as a result of lower stock compensation expense incurred in 2003 than in 2002. During 2003, we incurred $6.6 million of stock compensation expense from the amortization of stock grants made by the Company in 2002 and 2003 and anticipated to be made by the Company in 2004, which included the reimbursement of taxes paid by one employee and $0.6 million of accelerated stock compensation expense in connection with the departure of a former senior officer. In 2003, we also incurred $1.1 million of additional compensation expense related to the departure of a former senior officer. During 2002, we incurred $11.0 million of stock compensation expense from the amortization of stock grants made by the Company, which included the reimbursement of taxes paid by two employees. Included in 2002 stock compensation expense was $6.8 million of expense incurred by us as a result of the accelerated vesting of all previously granted restricted shares upon completion of our IPO. Excluding stock compensation expense and severance costs, our general and administrative expenses, consisting primarily of salaries, incentive compensation, employee benefits, insurance and other corporate-level expenses increased by $0.9 million in 2003. This increase consisted primarily of higher salary and incentive compensation expense due to a larger workforce and higher expenses associated with being a public company for the entire 2003 fiscal year.
Liquidity and Capital Resources
At December 31, 2004, we had $6.7 million in available cash and cash equivalents. As a REIT, we are required to distribute at least 90% of our taxable income to our stockholders on an annual basis. Therefore, as a general matter, it is unlikely that we will have any substantial cash balances that could be used to meet our liquidity needs. Instead, these needs must be met from cash generated from operations and external sources of capital.
At December 31, 2004, we had $1.3 billion of indebtedness. This indebtedness has a weighted average interest rate of 6.19% with an average maturity of 5.0 years. As of December 31, 2004, our market capitalization was $2.8 billion, resulting in a debt-to-total market capitalization ratio of approximately 46.0%.
Short-Term Liquidity Requirements
Our short-term liquidity requirements consist primarily of funds necessary to pay for operating expenses and other expenditures directly associated with our properties, including:
•Recurring maintenance capital expenditures necessary to properly maintain our properties;
•Interest expense and scheduled principal payments on outstanding indebtedness;
•Capital expenditures incurred to facilitate the leasing of space at our properties, including tenant improvements and leasing commissions; and
•Future distributions paid to our stockholders.
We incur maintenance capital expenditures at our properties, which include such expenses as parking lot improvements, roof repairs and replacements and other non-revenue enhancing capital expenditures. Maintenance capital expenditures were approximately $7.0 million, or $0.25 per square foot, for the year ended December 31, 2004. We have also incurred and expect to continue to incur revenue enhancing capital expenditures such as tenant improvements and leasing commissions in connection with the leasing or re-leasing of retail space.
We believe that we qualify and we intend to continue to qualify as a REIT under the Internal Revenue Code. As a REIT, we are allowed to reduce taxable income by all or a portion of our distributions paid to shareholders. We believe that our existing working capital and cash provided by operations will be sufficient to allow us to pay distributions necessary to enable us to continue to qualify as a REIT.
However, under some circumstances, we may be required to pay distributions in excess of cash available for those distributions in order to meet these distribution requirements, and we may need to borrow funds, most likely under our line of credit, to pay distributions in the future.
Historically, we have satisfied our short-term liquidity requirements through our existing working capital and cash provided by our operations as well as with borrowings under the Company's line of credit facility. We believe that our existing working capital and cash provided by operations should be sufficient to meet our short-term liquidity requirements. Cash flows provided by operating activities decreased to $123.0 million for the year ended December 31, 2004 from $148.7 million for the year ended December 31, 2003. The decrease in cash flows from operations is primarily attributable to the combined effect of a $15.6 million increase in accounts receivable due to the timing of completion of the annual reconciliation process and a $10.9 million increase in prepaid and other assets, offset by a $4.0 million increase in net income.
There are a number of factors that could adversely affect our cash flow. The continuation of an economic downturn in one or more of our markets may impede the ability of our tenants to make lease payments and may impact our ability to renew leases or re-lease space as leases expire. In addition, an
economic downturn or recession could also lead to an increase in tenant bankruptcies, increases in our overall vacancy rates or declines in rents we can charge to re-lease properties upon expiration of current leases. In all of these cases, our cash flow would be adversely affected.
As of December 31, 2004, the Company had six tenants operating under bankruptcy protection, the largest of which is Rhodes Furniture. The leases directly impacted by these bankruptcy filings totaled approximately 0.5% of our annualized base rent for all leases in which tenants were in occupancy at December 31, 2004. In addition, subsequent to December 31, 2004, one additional tenant, Winn-Dixie Stores Inc., representing 0.3% of our annualized base rent filed for bankruptcy protection.
On April 1, 2003, Fleming filed for bankruptcy protection. As part of this bankruptcy, Fleming's motion to reject leases at three of our 13 Fleming store locations was allowed by the Bankruptcy Court on that date. The three rejected leases aggregated approximately 178,000 square feet and represented approximately 0.6% of total annualized base rent for all leases in which tenants were in occupancy on March 31, 2003.
In June 2003, leases at four of our store locations aggregating 234,000 square feet were assumed by Fleming and assigned to Roundy's, Inc., as part of Roundy's acquisition of Rainbow Foods. In December 2003, a fifth lease was assumed by Knowlan's Food. A motion filed with the Bankrupcty Court to permit three leases to be assumed by Fleming and assigned to a third party independent grocer was allowed in September 2004. The two remaining leases, aggregating 95,000 square feet were rejected on March 25, 2004. During the fourth quarter of 2004, we sold one of the remaining Fleming locations and leased two other Fleming locations to a national tenant. We are actively pursuing tenants to lease the two remaining locations.
Any future bankruptcies of tenants in our portfolio, particularly major or anchor tenants, may have additional negative impact on our operating results and cash flows.
Long-Term Liquidity Requirements
Our long-term liquidity requirements consist primarily of funds necessary to pay for scheduled debt maturities, renovations, expansions and other non-recurring capital expenditures that need to be made periodically to our properties, and the costs associated with acquisitions of properties that we pursue. Historically, we have satisfied our long-term liquidity requirements through various sources of capital, including our existing working capital, cash provided by operations, long-term property mortgage indebtedness, our credit facility, bridge financing, and through the issuance of debt and equity securities. We believe that these sources of capital will continue to be available to us in the future to fund our long-term liquidity requirements. In addition, we also intend to pursue additional capital for acquisitions through strategic joint ventures with institutional investors. However, there are certain factors that may have a material adverse effect on our access to these capital sources.
Our ability to incur additional debt is dependent upon a number of factors, including our degree of leverage, the value of our unencumbered assets, our credit rating and borrowing restrictions imposed by existing lenders. Currently, we have a credit rating from three major rating agencies-Standard & Poor's, which has given us a rating of BBB-, Moody's Investor Service, which has given us a rating of Baa3, and Fitch, which has given us a rating of BBB-, all three have stated the outlook as stable. A downgrade in outlook or rating by a rating agency can occur at any time if the agency perceives adverse change in our financial condition, results of operations or ability to service our debt.
In addition, our existing unsecured line of credit matures on April 29, 2005. In February 2005, we obtained a commitment to establish a new three-year, $350 million unsecured line of credit with Wachovia Bank, as agent. This new line of credit, which we expect to enter into shortly, will replace our existing unsecured credit facility. In the event we are unable to enter into this new line of credit on or before April 29, 2005, we would seek an extension of our existing line of credit for up to one year. In
addition, in light of our investment grade credit ratings and prior capital markets activity, we believe there are sufficient alternative financing sources available to us to refinance our existing line of credit, including through a combination of one or more short-term bridge loans, public or private offerings of common stock, preferred stock or debt securities or the incurrence of additional indebtedness through secured or unsecured borrowings.
Based on our internal evaluation of our properties, the estimated value of our properties exceeds the outstanding amount of mortgage debt encumbering those properties as of December 31, 2004. Therefore, at this time, we believe that additional funds could be obtained, either in the form of mortgage debt or additional unsecured borrowings. In addition, we believe that we could obtain additional financing without violating the financial covenants contained in our unsecured public notes.
Our ability to raise funds through the issuance of equity securities is dependent upon, among other things, general market conditions for REITs and market perceptions about us. We will continue to analyze which source of capital is most advantageous to us at any particular point in time, but the equity markets may not be consistently available on terms that are attractive or at all.
Environmental Matters
We currently have approximately eighteen properties in our portfolio that are undergoing or have been identified as requiring some form of remediation (including monitoring for compliance) to clean up contamination. In some cases, contamination has migrated into the groundwater beneath our properties from adjacent properties, such as service stations. In other cases, contamination has resulted from on-site uses by current or former owners or tenants, such as gas stations or dry cleaners, which have released pollutants such as gasoline or dry-cleaning solvents into soil and/or groundwater. Based on our experience with properties in our portfolio, we believe the cost of remediation for contamination resulting from dry-cleaning pollutants will range from approximately $15,000 to $450,000 per property, and the cost of remediation for contamination from gasoline pollutants will range from approximately $15,000 to $100,000 per property. Any failure to properly remediate the contamination at our properties may result in liability to federal, state or local governments for damages to natural resources or liability to third parties for property damage or personal injury and may adversely affect our ability to operate, lease or sell that property.
Of the approximately eighteen properties cited above, half of those properties were contributed to us by Net Realty Holding Trust, our largest stockholder, upon our formation in July 1999. These contributed properties (together with approximately ten other contributed properties for which no remediation is currently taking place) are the subject of an indemnity arrangement under which Net Realty Holding Trust has agreed to indemnify us against environmental liabilities up to $50 million in the aggregate. Since our formation, we have been reimbursed by Net Realty Holding Trust for approximately $2.1 million of environmental costs pursuant to this indemnity. Although we do not believe that the aggregate indemnity amount will be needed, we believe that Net Realty Holding Trust has the ability to perform under its indemnity up to the aggregate amount. In addition, each of the properties for which we are actively pursuing remediation to clean up contamination is covered by this indemnity.
With respect to the remaining properties cited above not covered by the Net Realty Holding Trust indemnity, no clean-up activities are currently taking place and our requisite on-going responsibilities are to monitor those properties for compliance and to determine if any remediation or other action may be required in the future. We believe that the costs of monitoring these properties are not material, individually or in the aggregate, to our financial condition and we have established reserves for such costs.
Contractual Obligations, Contingent Liabilities, and Off-Balance Sheet Arrangements
All of our indebtedness is disclosed in our consolidated financial statements, and the notes thereto, appearing elsewhere in this report. The following table summarizes our repayment obligations under our indebtedness outstanding as of December 31, 2004 (in thousands):
Debt Analysis
(1)The aggregate repayment amount of $635,579 does not reflect the unamortized mortgage loan premiums totaling $13,461 related to the assumption of fifteen mortgage loans with above-market contractual interest rates.
(2)Property is encumbered by two mortgage loans maturing in July 2007.
(3)The aggregate repayment amount of $451,490 does not reflect the unamortized original issue discounts of $1,727 related to the April and October 2004 bond issuances.
The indebtedness described in the table above, including our line of credit, will require principal amortization and balloon payments, of $241 million in 2005. It is likely that we will not have sufficient funds on hand to repay these balloon amounts at maturity. We currently expect to refinance this debt by obtaining a new line of credit, through unsecured private or public debt offerings, through additional debt financings secured by individual properties or groups of properties or through additional equity offerings. We may also refinance future balloon payments through borrowings under our unsecured credit facility.
As of December 31, 2004, we have future contractual payment obligations relating to construction contracts, ground leases, and leases for the rental of office space as follows (in thousands):
We have various existing service contracts with vendors and utility contracts related to our property management. We enter into these contracts in the ordinary course of business, which vary based on usage and may extend beyond one year. These contracts are generally for one year or less and include terms that provide for termination with insignificant or no cancellation penalties.
We have entered into one off-balance sheet arrangement. During the second quarter of 2004, we entered into a joint venture agreement with a third party for the development and construction of a shopping center. Under the joint venture agreement, at any time subsequent to the second anniversary of the completion of the shopping center, which is estimated to occur in the spring of 2006, we may be required to purchase the third party's joint venture interest. The purchase price for this interest would be at the estimated fair market value. This contingent obligation is not reflected in the table above.
The repayment obligations reflected in the above table do not reflect interest payments on debt. In addition, we have obligations under a retirement benefit plan, which are more fully described in Note 13 of the "Notes to Consolidated Financial Statements" included under Item 8 of this Annual Report, and which are not included in the above table. Funding requirements for retirement benefits after 2004 cannot be estimated due to the significant variability in the assumptions required to project the timing of future cash payments.
We have fully guaranteed the repayment of a $22 million construction loan obtained by the joint venture from Key Bank, National Association. The Key Bank loan matures in November 2006 (subject to extension). As of December 31, 2004, $13.0 million is outstanding under the construction loan. Such amount is recorded on the books and records of the joint venture. In the event we are obligated to repay all or a portion of the construction loan pursuant to the guarantee, we (i) may remove the manager of the joint venture for cause and terminate all agreements with the manager, (ii) would receive a promissory note from the joint venture for the amount paid by us together with a first priority mortgage on the shopping center, and (iii) may prohibit all distributions from the joint venture or payment of fees by the joint venture until the principal and accrued interest on the loan is repaid. The estimated fair value of the guarantee as of December 31, 2004 is not material to our financial position. Accordingly, no liability or additional investment has been recorded related to the fair value of the guarantee.
Existing Line of Credit
On April 29, 2002, the Company entered into a three-year $350 million unsecured line of credit with a group of lenders and Fleet National Bank, as agent. Our two operating partnerships are the
borrowers under the line of credit and we, and certain of our other subsidiaries, have guaranteed this line of credit. This line of credit is being used principally to fund growth opportunities and for working capital purposes. At December 31, 2004, $196 million was outstanding under the line of credit.
Our ability to borrow under this line of credit is subject to our ongoing compliance with a number of financial and other covenants. This line of credit, except under some circumstances, limits our ability to make distributions in excess of 90% of our annual funds from operations. In addition, this line of credit bears interest at either the lender's base rate or a floating rate based on a spread over LIBOR ranging from 80 basis points to 135 basis points, depending upon our debt rating. In addition, this line of credit has a facility fee based on the amount committed ranging from 15 to 25 basis points, depending upon our debt rating, and requires quarterly payments. The variable rate in effect at December 31, 2004, including the lender's margin of 105 basis points and borrowings outstanding at the base rate was 3.55%.
We believe we are in compliance with all of the financial covenants under this line of credit. However, if our properties do not perform as expected, or if unexpected events occur that require us to borrow additional funds, compliance with these covenants may become difficult and may restrict our ability to pursue some business initiatives. In addition, these financial covenants may restrict our ability to pursue particular acquisition transactions, including for example, acquiring a portfolio of properties that is highly leveraged. These constraints on acquisitions could significantly impede our growth.
New Line of Credit
In February 2005, we obtained a commitment to establish a three-year, $350 million unsecured line of credit with Wachovia Bank, as agent. Wachovia has agreed to use its "best efforts" to syndicate this line of credit. This new line of credit, which we expect to enter into shortly, will replace our existing unsecured credit facility, which matures on April 29, 2005. We intend to use this new line of credit principally to fund growth opportunities and for working capital purposes. This new line of credit will bear interest at a floating rate based on a spread over LIBOR ranging from 62.5 basis points to 115 basis points, including a facility fee, depending upon our debt rating. Based on our current debt rating, we anticipate this new line of credit will bear interest at a floating rate over LIBOR of 100 basis points, including the facility fee.
Our ability to enter into this new line of credit is subject to final approval and satisfactory completion by the lender of its due diligence and preparation and execution of an acceptable credit agreement. We cannot assure you that we will enter into this new line of credit or that Wachovia will be successful in syndicating this line of credit up to $350 million. In the event we are unable to enter into this new line of credit on or before April 29, 2005, we would seek an extension of our existing line of credit for up to one year. In addition, in light of our investment grade credit ratings and prior capital markets activity, we believe there are sufficient alternative financing sources available to us to refinance our existing line of credit, including through a combination of one or more short-term bridge loans, public or private offerings of common stock, preferred stock or debt securities or the incurrence of additional indebtedness through secured or unsecured borrowings.
Debt Offerings
Heritage Notes
We have outstanding two series of unsecured notes. These notes were issued pursuant to the terms of two separate but substantially identical indentures we entered into with LaSalle National Bank, as trustee. These indentures contain various covenants, including covenants that restrict the amount of indebtedness that may be incurred by us and our subsidiaries. Specifically, for as long as the debt securities issued under these indentures are outstanding:
•We are not permitted to incur additional indebtedness if the aggregate principal amount of all indebtedness of the Company and its subsidiaries would be greater than 60% of the total assets, as defined, of the Company and its subsidiaries.
•We are not permitted to incur any indebtedness if the ratio of our consolidated income available for debt service to the annual debt service charge for the four consecutive fiscal quarters most recently ended prior to the date the additional indebtedness is to be incurred would be less than 1.5:1 on a pro forma basis.
•We are not permitted to incur additional indebtedness if, after giving effect to any additional indebtedness, the total secured indebtedness of the Company and its subsidiaries is greater than 40% of the total assets, as defined, of the Company and its subsidiaries.
•We and our subsidiaries may not at any time own total unencumbered assets equal to less than 150% of the aggregate outstanding principal amount of unsecured indebtedness of the Company and its subsidiaries.
These debt securities have been guaranteed by our two operating partnerships, Heritage OP and Bradley OP.
Notes due 2009. On October 15, 2004, we completed the issuance and sale of $150 million principal amount of 4.50% notes due 2009, or the 2009 Notes. The 2009 Notes bear interest at a rate of 4.50% and mature on October 15, 2009. The 2009 Notes may be redeemed at any time at our option, in whole or in part, at a redemption price equal to the sum of (1) the principal amount of the notes being redeemed plus accrued interest on the notes to the redemption date and (2) a make-whole amount, if any, with respect to the notes that is designed to provide yield maintenance protection to the holders of these notes.
In August 2004, in anticipation of completing an unsecured debt financing, we entered into forward starting interest rate swaps with a total notional amount of $146.6 million. The purpose of these forward swaps was to mitigate the risk of changes in interest rates prior to the pricing of our debt offering. These forward swaps terminated subsequent to the pricing of the debt offering and we made a payment to the counterparties of $1.7 million in connection with the termination of these swaps.
Notes due 2014. On April 1, 2004, we completed the issuance and sale of $200 million principal amount of 5.125% notes due 2014, or the 2014 Notes. The 2014 Notes bear interest at a rate of 5.125% and mature on April 15, 2014. The 2014 Notes may be redeemed at any time at our option, in whole or in part, at a redemption price equal to the sum of (1) the principal amount of the notes being redeemed plus accrued interest on the notes to the redemption date and (2) a make-whole amount, if any, with respect to the notes that is designed to provide yield maintenance protection to the holders of these notes.
In March 2004, in anticipation of completing an unsecured debt financing, we entered into forward starting interest rate swaps with a total notional amount of $192.5 million. The purpose of these forward swaps was to mitigate the risk of changes in interest rates prior to the pricing of our debt offering. These forward swaps terminated subsequent to the pricing of the debt offering and we received a payment from the counterparties of $1.2 million in connection with the termination of these swaps.
We believe we are in compliance with all applicable covenants.
Bradley Notes
Prior to our acquisition of Bradley Real Estate, Inc. ("Bradley"), Bradley OP completed the sale of three series of senior, unsecured debt securities. We repaid in full one of these series of Bradley OP debt securities upon maturity in November 2004. These debt securities were issued pursuant to the terms of an indenture and three supplemental indentures entered into by Bradley OP with LaSalle National Bank, as trustee, beginning in 1997. The indenture and two supplemental indentures contain various covenants, including covenants which restrict the amount of indebtedness that may be incurred by Bradley OP and those of our subsidiaries which are owned directly or indirectly by Bradley OP. Specifically, for as long as these debt securities are outstanding:
•Bradley OP is not permitted to incur additional indebtedness if the aggregate principal amount of all indebtedness of Bradley OP and its subsidiaries would be greater than 60% of the total assets, as defined, of Bradley OP and its subsidiaries.
•Bradley OP is not permitted to incur any indebtedness if the ratio of Bradley OP's consolidated income available for debt service to the annual debt service charge for the four consecutive fiscal quarters most recently ended prior to the date the additional indebtedness is to be incurred would be less than 1.5:1 on a pro forma basis.
•Bradley OP is not permitted to incur additional indebtedness if, after giving effect to any additional indebtedness, the total secured indebtedness of Bradley OP and its subsidiaries is greater than 40% of the total assets, as defined, of Bradley OP and its subsidiaries.
•Bradley OP and its subsidiaries may not at any time own total unencumbered assets equal to less than 150% of the aggregate outstanding principal amount of unsecured indebtedness of Bradley OP and its subsidiaries.
For purposes of these covenants, any indebtedness incurred by Heritage, Heritage OP or any of the Company's subsidiaries that are owned directly or indirectly by Heritage OP is not included as indebtedness of Bradley OP.
Notes due 2006. In March 2000, Bradley OP completed the offering of $75 million aggregate principal amount of its 8.875% Notes due 2006, or the 2006 Notes. The 2006 Notes bear interest at 8.875% per year and mature on March 15, 2006. The 2006 Notes may be redeemed at any time at the option of Bradley OP, in whole or in part, at a redemption price equal to the sum of (1) the principal amount of the 2006 Notes being redeemed plus accrued interest on the 2006 Notes to the redemption date and (2) a make-whole amount, if any, with respect to the 2006 Notes that is designed to provide yield maintenance protection to the holders of these notes. In connection with the Bradley acquisition, we repurchased approximately $73.5 million of the 2006 Notes at a purchase price equal to the principal and accrued interest on the 2006 Notes as of the date of purchase, so that approximately $1.5 million of the 2006 Notes were outstanding as of December 31, 2004.
Notes due 2008. In January 1998, Bradley OP completed the offering of $100 million aggregate principal amount of its 7.2% Notes due 2008, or the 2008 Notes. The 2008 Notes bear interest at 7.2% per year and mature on January 15, 2008. The 2008 Notes may be redeemed at any time at the option of Bradley OP, in whole or in part, at a redemption price equal to the sum of (1) the principal amount of the 2008 Notes being redeemed plus accrued interest on the 2008 Notes to the redemption date and (2) a make-whole amount, if any, with respect to the 2008 Notes that is designed to provide yield maintenance protection to the holders of these notes.
We believe Bradley OP is in compliance with all applicable covenants.
Equity Financings
In April 2002, we completed our initial public offering and sold 14,080,556 shares of our common stock at a price of $25.00 per share resulting in net proceeds to us of $323 million. We used the net proceeds of the IPO to repay outstanding indebtedness. In connection with our IPO, all shares of our Series A Cumulative Convertible Preferred Stock and redeemable equity then outstanding converted automatically into shares of our common stock on a one for one basis.
In December 2003, we completed a secondary public offering of our common stock and sold a total of 3,932,736 shares at a net price of $28.27 per share, resulting in net proceeds to us of $111 million. We used the net proceeds of this offering to repay outstanding indebtedness.
Funds From Operations
We calculate Funds from Operations in accordance with the best practices described in the April 2002 National Policy Bulletin of the National Association of Real Estate Investment Trusts, referred to as NAREIT, and NAREIT's 1995 White Paper on Funds from Operations. The White Paper defines Funds From Operations as net income (loss) (computed in accordance with GAAP), excluding gains (or losses) from extraordinary items and sales of property, plus real estate related depreciation and amortization and after adjustments for unconsolidated partnerships and joint ventures. Given the nature of our business as a real estate owner and operator, we believe that FFO is helpful to investors as a starting point in measuring our operational performance because it excludes various items included in net income that do not relate to, or are not indicative of, our operating performance, such as gains (or losses) from sales of real estate investments and depreciation and amortization, which can make periodic and peer analyses of operating performance more difficult. However, FFO (i) should not be considered as an alternative to net income (determined in accordance with GAAP) as an indicator of our financial performance, (ii) is not an alternative to cash flow from operating activities (determined in accordance with GAAP) as a measure of our liquidity, and (iii) is not indicative of funds available to fund our cash needs, including our ability to make distributions. Our computation of FFO may differ from the methodology utilized by other equity REITs to calculate FFO and, therefore, may not be comparable to other REITs.
The following table reflects the calculation of Funds from Operations and a reconciliation of Funds from Operations to net income, the most directly comparable GAAP measure, for the periods indicated (in thousands):
(*)Funds from Operations for the year ended December 31, 2002 have been restated to exclude the $6.7 million loss on prepayment of debt, which was previously reported as an extraordinary item, from the reconciliation pursuant to the adoptions of FASB No. 145, Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections, in 2003.
Related Party Transactions
We have in the past engaged in and currently engage in a number of transactions with related parties. The following is a summary of ongoing transactions with related parties that may significantly impact our future operating results.
The TJX Companies
In July 1999, Bernard Cammarata became a member of our board of directors. Mr. Cammarata is Chairman of the Board of TJX Companies, Inc., our largest tenant, and was President and Chief Executive Officer of TJX until June 1999. We received annualized base rent from the TJX Companies of $14.0 million in 2004, which represented approximately 5.5% of our total annualized base rent for all leases in which tenants were in occupancy at December 31, 2004. TJX pays us rent in accordance with 51 written leases at our properties.
Ahold USA
In July 1999, William M. Vaughn, III became a member of our board of directors. Mr. Vaughn is Senior Vice President, Labor Relations of Ahold USA, Inc., the parent company of Giant Foods, Bi-Lo, Bruno's and Stop & Shop. Mr. Vaughn is also a member of the Board of Trustees of our largest stockholder, Net Realty Holding Trust. We received annualized base rent from Ahold and its subsidiary companies of $2.3 million in 2004, which represented approximately 0.9% of our total annualized base rent for all leases in which tenants were in occupancy at December 31, 2004. Ahold USA and its subsidiary companies pay us rent in accordance with 5 written leases at our properties. Subsequent to December 31, 2004, Ahold USA sold Bi-Lo and Bruno's representing $0.9 million of annualized base rent in 2004.
Equity Offering
In December 2003, we completed a secondary public offering of our common stock and sold a total of 3,932,736 shares. Net Realty Holding Trust exercised its contractual preemptive right and purchased approximately 40% of the shares we sold in the offering on the same terms as third parties purchased shares.
131 Dartmouth Street Joint Venture
In November 1999, we entered into a joint venture with NETT for the acquisition and development of a 365,000 square foot commercial office building at 131 Dartmouth Street, Boston, Massachusetts. This joint venture is owned 94% by NETT and 6% by us. We were issued this interest as part of a management arrangement with the joint venture pursuant to which we will manage the building. We have no ongoing capital contribution requirements with respect to this office building, which was completed in January 2003. The first tenants began occupying this office building in January 2004. We account for our interest in this joint venture using the cost method and we have not expended any amounts on the office building through December 31, 2004.
In February 2004, we entered into an eleven-year lease with our joint venture with NETT for the lease of approximately 31,000 square feet of space and we moved our corporate headquarters to this space during the first quarter of 2004. Under the terms of this lease, which were negotiated on an arms-length basis, we began paying rent to the joint venture in February 2005. We pay $1.1 million per year in minimum rent through 2009 and $1.2 million per year from 2010 through 2014.
Boston Office Lease
In 1974, NETT and Net Realty Holding Trust entered into an agreement providing for the lease by NETT of 14,400 square feet of space in an office building at 535 Boylston Street for its Boston offices. Net Realty Holding Trust assigned this lease to us as part of our formation. The current term of this
lease expires on March 31, 2005 and under this lease, NETT pays us $648,000 per year in minimum rent. NETT has informed us that they are not renewing this lease.
Contingencies
Legal and Other Claims
We are subject to legal and other claims incurred in the normal course of business. Based on our review and consultation with counsel of those matters known to exist, including those matters described on page 41, we do not believe that the ultimate outcome of these claims would materially affect our financial position or results of operations.
Recourse Loan Guarantees
In addition to our unsecured line of credit and unsecured debt securities we and Bradley OP have issued, we have fully guaranteed the repayment of a $22 million construction loan obtained by our Lakes Crossing joint venture from Key Bank, National Association. The Key Bank loan matures in November 2006 (subject to extension).
Non-Recourse Loan Guarantees
In connection with the Bradley acquisition, we entered into a special securitized facility with Prudential Mortgage Capital Corporation ("PMCC") pursuant to which $244 million of collateralized mortgage-backed securities were issued by a trust created by PMCC. The trust consists of a single mortgage loan due from a subsidiary we created, Heritage SPE LLC, to which we contributed 29 of our properties. This loan is secured by all 29 properties we contributed to the borrower.
In connection with the securitized financing with PMCC, we entered into several indemnification and guaranty agreements with PMCC under the terms of which we agreed to indemnify PMCC for various bad acts of Heritage SPE LLC and with respect to specified environmental liabilities with respect to the properties contributed by us to Heritage SPE LLC.
We also have agreed to indemnify other mortgage lenders for bad acts and environmental liabilities in connection with other mortgage loans that we have obtained.
Inflation
Inflation has had a minimal impact on the operating performance of our properties. However, many of our leases contain provisions designed to mitigate the adverse impact of inflation. These provisions include clauses enabling us to receive payment of additional rent calculated as a percentage of tenants' gross sales above pre-determined thresholds, which generally increase as prices rise, and/or escalation clauses, which generally increase rental rates during the terms of the leases. These escalation clauses often are at fixed rent increases or indexed escalations (based on the consumer price index or other measures). Many of our leases are also for terms of less than ten years, which permits us to seek to increase rents to market rates upon renewal. In addition, most of our leases require the tenant to pay an allocable share of operating expenses, including common area maintenance costs, real estate taxes and insurance. This reduces our exposure to increases in costs and operating expenses resulting from inflation.
New Accounting Standards
In December 2004, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standard ("SFAS") No. 123R, Share-Based Compensation ("SFAS No. 123R"). SFAS No. 123R supersedes APB Opinion No. 25, Accounting for Stock Issued to Employees, and amends SFAS No. 95, Statement of Cash Flows. Statement No. 123R requires all share-based payments to employees, including grants of employee stock options, to be recorded as an expense based on their fair values. The grant-date fair value of employee share options and similar instruments will be estimated using an option-pricing model adjusted for any unique characteristics of a particular instrument. If an equity award is modified after the grant date, incremental compensation cost will be recognized in an amount equal to the excess of the fair value of the modified award over the fair value of the original award immediately before the modification. The Company does not expect the adoption of SFAS No. 123R to have a material impact on the Company's results of operations, financial position, or liquidity.
In December 2004, the FASB issued SFAS No. 153, Exchange of Nonmonetary Assets, an amendment of APB Opinion No. 29, ("SFAS No. 153"). The amendments made by SFAS No. 153 are based on the principle that exchanges of nonmonetary assets should be measured on the fair value of assets exchanged. SFAS No. 153 eliminates the exception for nonmonetary exchanges of similar productive assets and replaces it with a broader exception for exchanges of nonmonetary assets that do not have commercial substance. SFAS No. 153 is effective for nonmonetary exchanges occurring in fiscal periods beginning after June 15, 2005. The Company does not expect the adoption of SFAS No. 153 to have a material impact on the Company's results of operations, financial position, or liquidity.
Net Operating Income
Net operating income, or "NOI," is a non-GAAP financial measure equal to net income available to common shareholders (the most directly comparable GAAP financial measure), plus accretion of redeemable equity, preferred stock distributions, income allocated to minority interests in Bradley OP, net derivative losses (gains), losses from prepayment of debt, general and administrative expense, depreciation and amortization, and interest expense, less income from discontinued operations, gains (losses) on sales of real estate investments and marketable securities, interest and other income, preferred stock distributions and accretion of redeemable equity.
We use NOI internally, and believe NOI provides useful information to investors, as a performance measure in evaluating the operating performance of our real estate assets. This is because NOI reflects only those income and expense items that are incurred at the property level and excludes certain components from net income in order to provide results that are more closely related to a property's results of operations. Our presentation of NOI may not be comparable to NOI reported by other REITs that define NOI differently. We believe that in order to obtain a clear understanding of our operating results, NOI should be examined in conjunction with net income as presented in our consolidated financial statements. NOI should not be considered as an alternative to net income as an indication of our performance or to cash flows as a measure of liquidity or ability to make distributions.
The following sets forth a reconciliation of NOI to net income available to common shareholders for the fiscal years 2000 through 2004 (dollars in thousands).
Item 7A:
Item 7A: Quantitative and Qualitative Disclosures About Market Risk
Market risk is the exposure to loss resulting from adverse changes in market prices, interest rates, foreign currency exchange rates, commodity prices and equity prices. The primary market risk to which we are exposed is interest rate risk, which is sensitive to many factors, including governmental monetary and tax policies, domestic and international economic and political considerations and other factors that are beyond our control. Our future income, cash flows and fair values relevant to financial instruments are dependent upon prevalent market interest rates.
The following table presents our fixed rate debt obligations, at their carrying values, sorted by maturity date and our variable rate debt obligations sorted by maturity date (in thousands):
If market rates of interest on our variable rate debt outstanding at December 31, 2004 increase by 10%, or 36 basis points, the increase in interest expense would decrease future earnings and cash flows by $0.8 million annually.
We were not a party to any hedging agreements with respect to our floating rate debt as of December 31, 2004. We have, in the past, used derivative financial instruments to manage, or hedge, interest rate risks related to our borrowings, from lines of credit to medium-and long-term financings. We require that hedging derivative instruments be effective in reducing the interest rate risk exposure that they are designed to hedge. We do not use derivatives for trading or speculative purposes and only enter into contracts with major financial institutions based on their credit rating and other factors. We do not believe that the interest rate risk represented by our floating rate debt is material as of December 31, 2004 in relation to total assets and our total market capitalization.
Item 8:
Item 8: Financial Statements
See "Index to Consolidated Financial Statements and Financial Statement Schedule" on page of this Form 10-K
Item 9:
Item 9: Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
Item 9A:
Item 9A: Controls and Procedures
Evaluation of Disclosure Controls and Procedures
An evaluation was carried out by the Company's management, with the participation of our Chief Executive Officer and Chief Financial Officer, of the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934) as of the end of the period covered by this report. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that these disclosure controls and procedures were effective as of the end of the period covered by this report.
Changes in Internal Control over Financial Reporting
No change in our internal controls over financial reporting (as defined in Rule 13a-15(f) under the Securities Exchange Act of 1934) occurred during the fourth quarter of our fiscal year ended December 31, 2004 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
Management's Report on Internal Control over Financial Reporting
Management's Report on Internal Control over Financial Reporting and the Report of Independent Registered Public Accounting Firm thereon are set forth in Part II, Item 8 of this Annual Report on Form 10-K.
Item 9B:
Item 9B: Other Information
None.
PART III
Item 10:
Item 10: Directors and Executive Officers of the Registrant
The information contained in the sections captioned "Proposal One: Election of Directors" and "Section 16(a) Beneficial Ownership Reporting Compliance" of the Proxy Statement is incorporated herein by reference.
Item 11:
Item 11: Executive Compensation
The information contained in the sections captioned "Proposal One: Election of Directors" and "Executive Compensation" of the Proxy Statement is incorporated herein by reference.
Item 12:
Item 12: Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
The information contained in the section captioned "Security Ownership of Certain Beneficial Owners and Management" of the Proxy Statement is incorporated herein by reference.
The following table summarizes the equity compensation plans under which common stock may be issued as of December 31, 2004:
(1)Of the 2,724,418 shares to be issued upon exercise of outstanding options, warrants, or rights, (a) 2,418,418 are subject to outstanding stock options, and (b) 306,000 have been issued as restricted stock awards.
(2)Computed only with respect to outstanding stock options. Restricted stock awards under the plan are issued without an exercise price.
Item 13:
Item 13: Certain Relationships and Related Transactions
The information contained in the section captioned "Certain Relationships and Related Transactions" of the Proxy Statement is incorporated herein by reference.
Item 14:
Item 14: Principal Accounting Fees and Services
The information contained in the section captioned "Principal Accounting Fees and Services" of the Proxy Statement is incorporated herein by reference.
PART IV
Item 15:
Item 15: Exhibits and Financial Statement Schedules
See page for the index of the financial statements included in the Form 10-K.
Financial Statement Schedule.
See page for the index of the financial statement schedule included in the Form 10-K.
Exhibits.
3.1
Articles of Amendment and Restatement (Third) of Heritage Property Investment Trust, Inc.(1)
3.2
Amended and Restated Bylaws of Heritage Property Investment Trust, Inc.(1)
4.1
Form of Common Stock Certificate of Heritage Property Investment Trust, Inc.(1)
4.2
Indenture, dated as of November 24, 1997, by and between Bradley Operating Limited Partnership and LaSalle National Bank relating to the Senior Debt Securities of Bradley Operating Limited Partnership(1)
4.3
(Intentionally omitted)
4.4
Supplemental Indenture No. 2, dated as of January 28, 1998, between Bradley Operating Limited Partnership and LaSalle National Bank(1)
4.5
Supplemental Indenture No. 3, dated as of March 10, 2000, between Bradley Operating Limited Partnership and LaSalle National Bank(1)
4.6
Supplemental Indenture No. 4, dated as of May , 2004, between Bradley Operating Limited Partnership and LaSalle National Bank(8)
4.7
Indenture, dated as of April 1, 2004, by and between Heritage Property Investment Trust, Inc., Heritage Property Investment Limited Partnership, Bradley Operating Limited Partnership and LaSalle National Bank relating to 5.125% Notes due 2014 of Heritage Property Investment Trust, Inc.(8)
4.8
Form of 5.125% Note due 2014 (Included in Exhibit 4.7)(8)
4.9
Guarantee of 5.125% Notes due 2014, dated as of April 1, 2004, by Heritage Property Investment Limited Partnership(8)
4.10
Guarantee of 5.125% Notes due 2014, dated as of April 1, 2004, by Bradley Operating Limited Partnership(8)
4.11
Registration Rights Agreement, dated as of April 1, 2004, by and between Heritage Property Investment Trust, Inc., Heritage Property Investment Limited Partnership, Bradley Operating Limited Partnership and the Initial Purchasers relating to 5.125% Notes due 2014 and Guarantees of 5.125% Notes due 2014(8)
4.12
Indenture, dated as of October 15, 2004, by and between Heritage Property Investment Trust, Inc,, Heritage Property Investment Limited Partnership, Bradley Operating Limited Partnership and LaSalle National Bank relating to 4.50% Notes due 2009 of Heritage Property Investment Trust, Inc.(10)
4.13
Form of 4.50% Note due 2009 (Included in Exhibit 4.12)
4.14
Guarantee of 4.50% Notes due 2009, dated as of October 15, 2004, by Heritage Property Investment Limited Partnership(10)
4.15
Guarantee of 4.50% Notes due 2009, dated as of October 15, 2004, by Bradley Operating Limited Partnership(10)
4.16
Registration Rights Agreement, dated as of October 15, 2004, by and between Heritage Property Investment Trust, Inc., Heritage Property Investment Limited Partnership, Bradley Operating Limited Partnership and the Initial Purchasers relating to 4.50% Notes due 2009 and Guarantees of 4.50% Notes due 2009(10)
10.1
Amended and Restated Limited Partnership Agreement of Heritage Property Investment Limited Partnership, dated as of April 29, 2003(1)
10.2
Second Amended and Restated Agreement of Limited Partnership of Bradley Operating Limited Partnership dated as of September 2, 1997(1)
10.3
(Intentionally omitted)
10.4
(Intentionally omitted)
10.5
(Intentionally omitted)
10.6
Amendment, dated as of September 18, 2000, to Second Restated Agreement of Limited Partnership of Bradley Operating Limited Partnership(1)
10.7
Amendment, dated as of April 29, 2002, to Second Restated Agreement of Limited Partnership of Bradley Operating Limited Partnership(1)
10.8
Amendment, dated as of May 17, 2002, to Second Restated Agreement of Limited Partnership of Bradley Operating Limited Partnership(2)
10.9
Amended and Restated 2000 Equity Incentive Plan, as amended(7)
10.10
Form of restricted stock and stock option agreements(1)
10.11
Supplemental Executive Retirement Plan(1)
10.12
Revolving Credit and Guaranty Agreement, dated as of April 29, 2002, among Heritage Property Investment Limited Partnership, Bradley Operating Limited Partnership, Heritage Property Investment Trust, Inc. and the lending institutions named therein(2)
10.13
Loan Agreement, dated as of September 18, 2000, between Heritage SPE LLC and Prudential Mortgage Capital Company, LLC(1)
10.14
Promissory Note, dated as of December 14, 1999, by and among Heritage Property Investment Limited Partnership, NH Heritage Limited Partnership and Metropolitan Life Insurance Company, as amended(1)
10.15
Promissory Note, dated as of September 13, 2000, by Heritage Property Investment Limited Partnership in favor of The Variable Annuity Life Insurance Company(1)
10.16
Employment Agreement with Thomas C. Prendergast, President and Chief Executive Officer, as amended by the First Amendment, dated as of April 3, 2000(1)
10.17
Amendment, dated July 24, 2002, to Employment Agreement with Thomas C. Prendergast(3)
10.18
Change in Control/Severance Agreements with Bruce Anderson, Vice President, Acquisitions, Stephen Faberman, Vice President, Corporate Counsel, David Gaw, Senior Vice President, Chief Financial Officer, Patrick O'Sullivan, Vice President, Finance and Accounting, Robert Prendergast, Senior Vice President, Chief Operating Officer, Barry Rodenstein, Vice President, Leasing, David Sweetser, Vice President, Property Management, Construction and Business Development, and Louis Zicht, Vice President, General Counsel(9)
10.19
PIMS Indemnification Letter, dated as of July 9, 1999, by and between Heritage Property Investment Trust, Inc. and Prudential Investment Management Services, LLC(1)
10.20
Separation Agreement dated as of June 16, 2003, between Heritage Property Investment Trust, Inc. and Gary Widett, former Senior Vice President and Chief Operating Officer(4)
10.21
Second Amended and Restated Stockholders Agreement, by and among Heritage Property Investment Trust, Inc., Net Realty Holding Trust and The Prudential Insurance Company of America(5)
10.22
Registration Rights, Lock-Up and Redemption Agreement, dated as of May 17, 2002, by and among Heritage Property Investment Trust, Inc., Bradley Operating Limited Partnership and the holders named therein(6)
10.23
Separation Agreement dated as of April 28, 2004, between Heritage Property Investment Trust, Inc. and Mary Kate Herron, former Vice President, Lease Management(9)
21.1
List of Subsidiaries of the Registrant
23.1
Consent of KPMG LLP
31.1
Certification of Chief Executive Officer of the Company Pursuant to Securities Exchange Act Rules 13a-14(a) and 15d-14(a)
31.2
Certification of Chief Financial Officer of the Company Pursuant to Securities Exchange Act Rules 13a-14(a) and 15d-14(a)
32.1
Chief Executive Officer's Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of The Sarbanes-Oxley Act of 2003.
32.2
Chief Financial Officer's Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of The Sarbanes-Oxley Act of 2003.
Denotes a management contract or compensatory plan, contract or arrangement.
(1)Incorporated by reference to the Registrant's Registration Statement on Form S-11 (File No. 333-69118).
(2)Incorporated by reference to the Registrant's Quarterly Report on Form 10-Q for the quarter ended March 31, 2002
(3)Incorporated by reference to the Registrant's Quarterly Report on Form 10-Q for the quarter ended June 30, 2002.
(4)Incorporated by reference to the Registrant's Quarterly Report on Form 10-Q for the quarter ended June 30, 2003.
(5)Incorporated by reference to the Registrant's Registration Statement on Form S-3 (File No. 333-109538)
(6)Incorporated by reference to the Registrant's Registration Statement on Form S-3 (File No. 333-109537)
(7)Incorporated by reference to the Registrant's Annual Report on Form 10-K for the year ended December 31, 2003
(8)Incorporated by reference to the Registrant's Registration Statement on Form S-4 (File No. 333-116298)
(9)Incorporated by reference to the Registrant's Current Report on Form 8-K dated October 12, 2004
(10)Incorporated by reference to the Registrant's Registration Statement on Form S-4 (File No. 333-121578) Reports on Form 8-K.
On October 1, 2004, the Company filed an amended Current Report on Form 8-K to correct certain clerical errors contained in a Current Report on Form 8-K filed on September 15, 2004.
On October 12, 2004, the Company filed a Current Report on Form 8-K with respect to severance agreements previously entered into by the Company with its senior officers.
On October 12, 2004, the Company filed a Current Report on Form 8-K to correct certain clerical errors contained in its Quarterly Report on Form 10-Q for the quarter ended June 30, 2004.
On October 13, 2004, the Company filed a Current Report on Form 8-K with respect to its execution of a purchase agreement to sell $150 million of its unsecured Notes due 2009.
On October 15, 2004, the Company filed a Current Report on Form 8-K with respect to the completion of its issuance and sale of $150 million unsecured Notes due 2009.
On November 2, 2004, the Company furnished to the Securities and Exchange Commission under Item 12 of Form 8-K a copy of the Company's Press Release, dated November 2, 2004, as well as supplemental operating and financial data regarding the Company for the third quarter of 2004.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this Annual Report on Form 10-K to be signed on its behalf by the undersigned, thereunto duly authorized.
HERITAGE PROPERTY INVESTMENT TRUST, INC.
By:
/s/ THOMAS C. PRENDERGAST Thomas C. Prendergast
President and Chief Executive Officer
Dated: March 10, 2005
Pursuant to the requirements of the Securities Act of 1934, this Annual Report on Form 10-K has been signed below by the following persons in the capacities and on the dates indicated:
Signature
Title
Date
/s/ THOMAS C. PRENDERGAST Thomas C. Prendergast
President and Chief Executive Officer, Director (principal executive officer)
March 10, 2005
/s/ DAVID G. GAW David G. Gaw
Senior Vice President, Chief Financial Officer and Treasurer (principal financial officer)
March 10, 2005
/s/ PATRICK H. O'SULLIVAN Patrick H. O'Sullivan
Vice President, Finance and Accounting and Assistant Treasurer (principal accounting officer)
March 10, 2005
/s/ JOSEPH L. BARRY Joseph L. Barry
Director
March 10, 2005
/s/ BERNARD CAMMARATA Bernard Cammarata
Director
March 10, 2005
/s/ RICHARD C. GARRISON Richard C. Garrison
Director
March 10, 2005
/s/ MICHAEL J. JOYCE Michael J. Joyce
Director
March 10, 2005
/s/ DAVID W. LAUGHTON David W. Laughton
Director
March 10, 2005
/s/ KEVIN C. PHELAN Kevin C. Phelan
Director
March 10, 2005
/s/ KENNETH K. QUIGLEY, JR. Kenneth K. Quigley, Jr.
Director
March 10, 2005
/s/ RICH REARDON Rich Reardon
Director
March 10, 2005
/s/ WILLIAM M. VAUGHN William M. Vaughn
Director
March 10, 2005
/s/ ROBERT J. WATSON Robert J. Watson
Director
March 10, 2005
HERITAGE PROPERTY INVESTMENT TRUST, INC.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULE
All other schedules for which a provision is made in the applicable accounting regulations of the Securities and Exchange Commission are not required under the related instructions or are inapplicable, and therefore have been omitted.
REPORT OF MANAGEMENT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
Management of Heritage Property Investment Trust, Inc. is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rules 13a-15(f) and 15d -15(f) under the Securities Exchange Act of 1934. Heritage Property Investment Trust, Inc.'s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with accounting principles generally accepted in the United States of America. Internal control over financial reporting includes those written policies and procedures that:
•pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of Heritage Property Investment Trust, Inc.;
•provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with accounting principles generally accepted in the United States of America;
•provide reasonable assurance that receipts and expenditures of Heritage Property Investment Trust, Inc. are being made only in accordance with authorizations of management and directors of Heritage Property Investment Trust, Inc.; and
•provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of assets that could have a material effect on the consolidated financial statements of Heritage Property Investment Trust, Inc.
Internal control over financial reporting includes the controls themselves, monitoring and internal auditing practices and actions taken to correct deficiencies as identified.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Management assessed the effectiveness of Heritage Property Investment Trust, Inc.'s internal control over financial reporting as of December 31, 2004. Management based this assessment on criteria for effective internal control over financial reporting described in "Internal Control-Integrated Framework" issued by the Committee of Sponsoring Organizations of the Treadway Commission. Management's assessment included an evaluation of the design of Heritage Property Investment Trust, Inc.'s internal control over financial reporting and testing of the operational effectiveness of its internal control over financial reporting. Management reviewed the results of its assessment with the Audit Committee of our Board of Directors.
Based on its assessment, management determined that, as of December 31, 2004, Heritage Property Investment Trust, Inc. maintained effective internal control over financial reporting.
KPMG LLP, an independent registered public accounting firm that audited and reported on the consolidated financial statements of Heritage Property Investment Trust, Inc. included in this report, has issued an attestation report on management's assessment of internal control over financial reporting. This attestation report appears on page of this report.
Report of Independent Registered Public Accounting Firm
The Board of Directors and Stockholders
Heritage Property Investment Trust, Inc.:
We have audited the accompanying consolidated balance sheets of Heritage Property Investment Trust and subsidiaries as of December 31, 2004 and 2003, and the related consolidated statements of operations, comprehensive income (loss), shareholders' equity, and cash flows for each of the years in the three-year period ended December 31, 2004. In connection with our audits of the consolidated financial statements, we also have audited the financial statement schedule III listed in the accompanying index to consolidated financial statements and financial statement schedule. These consolidated financial statements and financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements and financial statement schedule based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the 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, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2004 and 2003, and the results of its operations and its cash flows for each of the years in the three-year period ended December 31, 2004, in conformity with U.S. generally accepted accounting principles. Also in our opinion, the related financial statement schedule III, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of the Company's internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated March 7, 2005 expressed an unqualified opinion on management's assessment of, and the effective operation of, internal control over financial reporting.
/s/ KPMG LLP
Boston, Massachusetts
March 7, 2005
Report of Independent Registered Public Accounting Firm
The Board of Directors and Stockholders
Heritage Property Investment Trust, Inc.:
We have audited management's assessment, included in the accompanying Report of Management on Internal Control over Financial Reporting, that Heritage Property Investment Trust, Inc. and subsidiaries (the Company) maintained effective internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Company's management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management's assessment and an opinion on the effectiveness of the Company's internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management's assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company's internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, management's assessment that the Company maintained effective internal control over financial reporting as of December 31, 2004, is fairly stated, in all material respects, based on COSO. Also, in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2004, based on COSO.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of the Company as of December 31, 2004 and 2003, and the related consolidated statements of operations, comprehensive income (loss), shareholders' equity and cash flows for each of the years in the three-year period ended December 31, 2004, and the financial statement schedule III listed in the index to the consolidated financial statements and financial statement schedule as of December 31, 2004, and our report dated March 7, 2005 expressed an unqualified opinion on those consolidated financial statements and schedule.
/s/ KPMG LLP
Boston, Massachusetts
March 7, 2005
HERITAGE PROPERTY INVESTMENT TRUST, INC.
Consolidated Balance Sheets
December 31, 2004 and 2003
(In thousands, except for share amounts)
See accompanying notes to consolidated financial statements.
HERITAGE PROPERTY INVESTMENT TRUST, INC.
Consolidated Statements of Operations
Years ended December 31, 2004, 2003 and 2002
(In thousands, except per-share data)
See accompanying notes to consolidated financial statements.
HERITAGE PROPERTY INVESTMENT TRUST, INC.
Consolidated Statements of Comprehensive Income (Loss)
Years ended December 31, 2004, 2003 and 2002
(In thousands)
See accompanying notes to consolidated financial statements.
HERITAGE PROPERTY INVESTMENT TRUST, INC.
Consolidated Statements of Changes in Shareholders' Equity
Years ended December 31, 2004, 2003 and 2002
(In thousands, except per-share data)
See accompanying notes to consolidated financial statements.
HERITAGE PROPERTY INVESTMENT TRUST, INC.
Consolidated Statements of Cash Flows
Years ended December 31, 2004, 2003 and 2002
(In thousands)
See accompanying notes to consolidated financial statements.
HERITAGE PROPERTY INVESTMENT TRUST, INC.
Notes to Consolidated Financial Statements
Years ended December 31, 2004, 2003 and 2002
1. Organization
Background
Heritage Property Investment Trust, Inc. ("Heritage" or the "Company") is a Maryland corporation organized as a real estate investment trust ("REIT"). Heritage was formed on July 1, 1999 and commenced operations on July 9, 1999 through the contribution of $550 million of real estate investments and related assets, net of liabilities, by Net Realty Holding Trust, a wholly-owned subsidiary of the New England Teamsters & Trucking Industry Pension Fund ("NETT"), and $25 million of cash from the Prudential Insurance Company of America ("Prudential"). Heritage qualifies as a REIT under Sections 856-860 of the Internal Revenue Code of 1986, as amended (the "Code").
Heritage is a fully-integrated, self-administered and self-managed REIT and is focused on the acquisition, ownership, management, leasing and redevelopment of primarily grocer-anchored neighborhood and community shopping centers principally in the Eastern and Midwestern United States. In 2003, the Company expanded its operations to include the Southwestern U.S. with its Trademark Portfolio Acquisition consisting of 8 properties. At December 31, 2004, the Company owned 164 shopping centers and three office buildings.
Heritage Property Investment Limited Partnership ("Heritage OP") and Bradley Operating Limited Partnership ("Bradley OP") are subsidiaries through which the Company conducts substantially all of its business and owns (either directly or through subsidiaries) substantially all of its assets. As of December 31, 2004, the Company owned directly or indirectly all of the ownership interests in the Heritage OP and approximately 98.5% of the voting interests in the Bradley OP, and is the sole general partner of Heritage OP and through a wholly owned subsidiary, of Bradley OP. This structure is commonly referred to as an umbrella partnership REIT or UPREIT.
Initial Public Offering
On April 29, 2002, the Company completed its initial public offering ("IPO") of its common stock and, when combined with the exercise of the Underwriter's overallotment, sold a total of 14,080,556 shares of its common stock in the IPO at a price of $25.00 per share.
The net proceeds from the IPO, after deducting the underwriters' discount and offering expenses, were $322.5 million and were used by the Company to repay $215.7 million of the outstanding indebtedness under its prior line of credit facility, to repay in full the $100.0 million of subordinated debt then outstanding, and to pay the $6.8 million fee associated with terminating the collar previously in place with respect to the $150.0 million term loan under the prior line of credit facility.
In connection with the IPO, all shares of Series A Cumulative Convertible Preferred Stock and redeemable equity outstanding converted automatically into shares of the Company's common stock on a one for one basis.
Issuance of Public Equity
In December 2003, the Company completed a secondary public offering of its common stock and sold a total of 3,932,736 shares, including the underwriter's over-allotment of 432,736 shares, at a net price of $28.27 per share. The net proceeds of $111 million from this offering were used to repay indebtedness, including the $60 million bridge loan incurred in connection with the Trademark Portfolio
Acquisition. The Company's two largest stockholders at the time, Net Realty Holding Trust, a subsidiary of NETT, and Prudential, also took part in the offering. Prudential sold approximately $61 million of stock in the offering, reducing its then ownership percentage to approximately 6.6%. In addition, NETT exercised its contractual preemptive right and purchased approximately 40%, or $44 million, of the shares sold in the offering.
2. Summary of Significant Accounting Policies
Basis of Presentation
The consolidated financial statements are prepared on the accrual basis in accordance with accounting principles generally accepted in the United States of America ("GAAP"). Management of the Company has made a number of estimates and assumptions relating to the reporting of assets and liabilities and the disclosure of contingent assets and liabilities at the dates of the consolidated financial statements and the reporting of revenue and expenses during the periods presented to prepare these consolidated financial statements in conformity with GAAP. The Company bases its estimates on historical experience and other assumptions believed to be reasonable under the circumstances. Actual results could differ from those estimates under different assumptions or conditions.
Management considers certain estimates and assumptions to be most important to the portrayal of the Company's financial condition and results of operations, in that they require management's most subjective judgments, to form the basis for the accounting policies deemed to be most critical to the Company. These critical estimates and assumptions include the useful lives used to calculate depreciation and amortization expense on real estate investments, judgments regarding the recoverability or impairment of each real estate investment, estimates regarding the recoverability of certain operating expenses, judgments regarding the ultimate collectibility of accounts receivable, and assumptions used in accounting for and disclosures of the Company's interest rate hedging activities.
If the useful lives of real estate investments were different, future operating results would be affected. Future adverse changes in market conditions or poor operating results could result in an inability to recover real estate investment carrying values that may not be reflected in current carrying values and could require an impairment charge in the future. Future adverse changes in market conditions could also impact the Company's tenants thereby impacting the adequacy of the allowance for doubtful accounts receivable. If the methodologies and assumptions used to estimate the fair value of the Company's interest rate hedging instruments or to determine hedge effectiveness were different, amounts reported in earnings and other comprehensive income, and amounts expected to be recognized in earnings in the future could be affected.
The consolidated financial statements of the Company include the accounts and operations of the Company and its subsidiaries. All significant intercompany accounts and transactions have been eliminated in consolidation.
Real Estate Investments
Real estate investments contributed in July 1999 were recorded at the carry-over basis of the Company's predecessor, which was fair market value of the assets in conformity with GAAP applicable to pension funds. Subsequent acquisitions of real estate investments, including those acquired in the
Bradley acquisition in 2000 are recorded at cost. The cost of buildings and improvements includes the purchase price of property, legal fees and other acquisition costs.
Real estate investments held for sale are carried at the lower of carrying amount or fair value less costs to sell. Depreciation and amortization are suspended during the period a property is held for sale. There were no properties classified as held for sale at December 31, 2004 or 2003.
Statement of Financial Accounting Standards ("SFAS") No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, ("SFAS No. 144") requires the Company to periodically perform reviews of its properties to determine if their carrying amounts will be recovered from future operating cash flows. If the Company determines that impairment has occurred, those assets shall be reduced to their fair value. No such impairment losses have been recognized to date.
In addition, SFAS No. 144 retains the basic provisions of Opinion No. 30, Reporting the Results of Operations-Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions, for presenting discontinued operations in the statement of operations but broadens that presentation to include a component of an entity (rather than a segment of a business). The Company adopted SFAS No. 144 on January 1, 2002 and accordingly, the operating results of real estate sold during the years ended December 31, 2004 and 2003, have been reclassified and reported as discontinued operations for the years ended December 31, 2004, 2003 and 2002.
The Company applies Statement of Financial Accounting Standards No. 141, Business Combinations, to property acquisitions. Accordingly, under the guidance provided by SFAS No. 141, Business Combinations, the fair value of the real estate acquired is allocated to the acquired tangible assets and identified intangible assets and liabilities. Identified intangible assets and liabilities may consist of the value of above-market and below-market leases, other value of in-place leases and value of tenant relationships, based in each case on their fair values.
The fair value of the tangible assets of an acquired property is determined by valuing the property as if it were vacant, and the "as-if-vacant" value is then allocated based on management's determination of the relative fair values of these assets. Management determines the as-if-vacant fair value of a property using methods similar to those used by independent appraisers. Factors considered by management in performing these analyses include an estimate of carrying costs during the expected lease-up periods considering current market conditions and costs to execute similar leases. In estimating carrying costs, management includes real estate taxes, insurance and other operating expenses and estimates of lost rental revenue during the expected lease-up periods based on current market demand. Management also estimates costs to execute similar leases including leasing commissions, legal and other related costs.
In allocating the fair value of the identified intangible assets and liabilities of an acquired property, above-market and below-market in-place lease values are recorded based on the present value (using an interest rate which reflects the risks associated with the leases acquired) of the difference between (i) the contractual amounts to be paid pursuant to the in-place leases and (ii) management's estimate of fair market lease rates for the corresponding in-place leases, measured over a period equal to the remaining non-cancelable term of the lease. The capitalized above-market lease values are amortized as a reduction of rental income over the remaining non-cancelable terms of the respective leases. The
capitalized below-market lease values are amortized as an increase to rental income over the initial term and any fixed rate renewal periods in the respective leases.
The aggregate value of other acquired intangible assets, consisting of in-place leases and tenant relationships, is measured by the excess of (i) the purchase price paid for a property after adjusting existing in-place leases to market rental rates over (ii) the estimated fair value of the property as if vacant, determined as set forth above. This aggregate value is allocated between in-place lease values and tenant relationships, if any, based on management's evaluation of the specific characteristics of each tenant's lease; however, the value of tenant relationships has not been separated from in-place lease value for the additional interests in real estate entities because such value and its consequence to amortization expense is estimated to be immaterial for these particular acquisitions consummated to date. The value of in-place leases exclusive of the value of above-market and below-market in-place leases is amortized to expense over the remaining non-cancelable periods of the respective leases. If a lease were to be terminated prior to its stated expiration, all unamortized amounts relating to that lease would be written off. For the years ended December 31, 2004 and 2003, the Company recognized upon acquisition, additional intangible assets and liabilities as follows:
The Company incurred amortization expense pertaining to acquired in-place lease intangibles of $2.5 million, $0.2 million and $0 during the years ended December 31, 2004, 2003, and 2002, respectively. Amortization of $0.1 million, $0, and $0, pertaining to acquired above market leases was applied as a reduction of rental income during the years ended December 31, 2004, 2003, and 2002, respectively. Amortization of $0.2 million, $0, and $0, pertaining to acquired below market leases was applied as an increase to rental income during the years ended December 31, 2004, 2003, and 2002, respectively.
The table below presents the expected amortization related to the acquired in-place lease value and acquired above and below market leases at December 31, 2004:
Expenditures for maintenance, repairs and betterments that do not materially extend the useful life of a real estate investment are charged to operations as incurred and amounted to $6.6 million, $6.3 million and $6.0 million for the years ended December 31, 2004, 2003 and 2002, respectively. Expenditures that substantially extend the useful life of a real estate investment are capitalized. Upon sale or other disposition of the real estate investment, the cost and related accumulated depreciation and amortization are removed and the resulting gain or loss, if any, is reflected in income from discontinued operations. Interest on significant construction projects is capitalized as part of the cost of real estate investments. Interest capitalized for the years ended December 31, 2004, 2003 and 2002 was $0.2 million, $0, and $0.2 million, respectively.
The provision for depreciation and amortization has been calculated using the straight-line method over the following estimated useful lives:
The Company recognizes gains from sales of real estate at the time of sale using the full accrual method, provided that various criteria related to the terms of the transactions are met and no subsequent involvement is required. If the criteria are not met, or if subsequent involvement is required, the Company defers the gains and recognizes them when the criteria are met or subsequent involvement is completed.
Cash and Cash Equivalents
Cash and cash equivalents consist of cash in banks and short-term investments with maturities at the date of purchase of three months or less. The majority of the Company's cash and cash equivalents are held at major commercial banks. The Company has not experienced any losses on its invested cash.
Marketable Securities
The Company received shares of a publicly traded company during 2004 in settlement of the rejection of certain leases in connection with bankruptcy proceedings of the publicly traded company. The Company accounts for investments in securities of publicly traded companies in accordance with Statement of Financial Accounting Standard ("SFAS") No. 115, Accounting for Certain Investments in Debt and Equity Investments, and classified the securities as available-for-sale. The Company recorded a gain on sale of approximately $0.5 million from the sale of all of these securities during the year ended December 31, 2004.
Deferred Leasing and Financing Costs and Other Assets
Deferred leasing and financing costs and other assets include costs incurred in connection with securing financing for, or leasing space in, the Company's real estate investments. Such charges are capitalized and amortized over the terms of the related financing or lease agreements. Unamortized deferred charges are charged to expense upon prepayment of the financing or early termination of the related lease.
The Company capitalizes internal leasing costs in accordance with SFAS No. 91, Nonrefundable Fees & Costs Associated with Originating or Acquiring Loans and Initial Direct Costs of Leases. These costs amounted to $3.6 million and $2.9 million during the years ended December 31, 2004 and 2003, respectively.
Investments in Unconsolidated Joint Venture
Upon entering into a joint venture agreement, the Company assesses whether the joint venture is considered a variable interest entity in accordance with FASB Interpretation No. 46R, Consolidation of Variable Interest Entities ("FIN 46R"). The Company has no interests in variable interest entities as of December 31, 2004. The Company accounts for its investment in joint ventures that are not deemed to be variable interest entities pursuant to Statement of Position No. 78-9, Accounting for Investments in Real Estate Ventures ("SOP No. 78-9") and APB No. 18, The Equity Method of Accounting for Investments in Common Stock.
As of December 31, 2004, the Company accounts for its sole joint venture under the equity method of accounting because it exercises significant influence over, but does not control, this entity. This investment was recorded initially at cost, as Investment in Unconsolidated Joint Ventures, and subsequently adjusted for an allocation of equity in earnings, plus cash contributions, and less cash distributions. Under the equity method of accounting, the net equity investment of the Company is reflected on the consolidated balance sheets, and the Company's allocation of net income or loss from the joint ventures is included on the consolidated statements of operations as other income. The Company's allocation of joint venture income or loss follows the joint venture's distribution priorities.
In accordance with the provisions of SOP No. 78-9, the Company recognizes fees and interest received from the joint ventures relating solely to the extent of the outside partner's interest.
Revenue Recognition
Management has determined that all of the Company's leases with its various tenants are operating leases. Rental income from such leases with scheduled rent increases is recognized using the straight-line method over the terms of the leases commencing when the tenant takes possession of the space. The aggregate excess of rental revenue recognized on a straight-line basis over cash received under applicable lease provisions amounted to $21.1 million and $16.5 million at December 31, 2004 and 2003, respectively, and is included in accounts receivable, net of allowance for doubtful accounts. Rental revenue recognized over cash received is included in revenue from rental and recoveries for the years ended December 31, 2004, 2003 and 2002 and amounted to $5.2 million, $6.0 million and $4.2 million, respectively.
Leases for both retail and office space generally contain provisions under which the tenants reimburse the Company for a portion of property operating expenses and real estate taxes incurred by the Company. Such recoveries revenue is recorded based on management's estimate of its recovery of certain operating expenses and real estate tax expenses pursuant to the terms contained in related leases. In addition, certain of the Company's operating leases for retail space contain contingent rent provisions under which tenants are required to pay a percentage of their sales in excess of a specified amount as additional rent. The Company defers recognition of contingent rental income until such
specified targets are met. Reimbursements for both operating expenses and real estate taxes as well as contingent rental income during the years ended December 31, 2004, 2003 and 2002 were $79.3 million, $71.3 million and $68.1 million, respectively. These items are included in revenue from rentals and recoveries in the consolidated statements of operations.
The Company makes estimates of the uncollectibility of its accounts receivable related to minimum rent, deferred rent, expense reimbursements and other revenue or income. The Company specifically analyzes accounts receivable and historical bad debts, tenant concentrations, tenant creditworthiness, current economic trends and changes in tenant payment terms when evaluating the adequacy of the allowance for doubtful accounts. These estimates have a direct impact on the Company's net income.
Allowances for uncollectible receivables are charged against revenue from rentals and recoveries and amounted to $2.8 million, $4.8 million and $3.8 million for the years ended December 31, 2004, 2003 and 2002, respectively.
Gain Recognition on Sale of Real Estate
The Company performs evaluations of each real estate sale to determine if full gain recognition is appropriate in accordance with SFAS No. 66, Accounting for Sales of Real Estate. The application of SFAS No. 66 can be complex and requires the Company to make assumptions including an assessment of whether the risks and rewards of ownership have been transferred, the extent of the purchaser's investment in the property being sold, whether the Company's receivables, if any, related to the sale are collectible and are subject to subordination, and the degree of the Company's continuing involvement with the real estate asset after the sale. If full gain recognition is not appropriate, the Company accounts for the sale under an appropriate deferral method.
Credit Risk
The Company operates in one industry, which is the acquisition, ownership, management, leasing and redevelopment of real estate, and no single tenant accounts for more than 10% of total revenue. Financial instruments potentially subjecting the Company to concentrations of credit risk consist principally of (1) temporary cash and equivalent instruments, which are held at financial institutions of high credit quality; and (2) tenant receivables, whose credit risk is distributed among tenants in different industries and across several geographical areas.
Fair Value of Financial Instruments
SFAS No. 107, Disclosures about Fair Value of Financial Instruments, requires the Company to disclose fair value information about all financial instruments, whether or not recognized in the balance sheets, for which it is practicable to estimate fair value. The Company's financial instruments, other than debt, are generally short-term in nature and consist of cash and cash equivalents, rents and other receivables, and accounts payable. The carrying values of these assets and liabilities, which are recorded at net realizable value in the consolidated balance sheets, are assumed to be at fair value.
The fair value of the Company's fixed rate mortgage loans and unsecured notes payable, which is based on estimates made by management for rates currently prevailing for comparable loans and notes of comparable maturities, exceeds the aggregate carrying value by approximately $47 million and
$47 million at December 31, 2004 and 2003, respectively. The Company's line of credit facility is at variable rates, resulting in a carrying value that approximates fair value at December 31, 2004 and 2003.
Hedging Activities
From time to time, the Company uses derivative financial instruments to limit its exposure to changes in interest rates. The Company was not a party to any hedging agreement with respect to its floating rate debt as of December 31, 2004 or 2003. The Company has in the past used derivative financial instruments to manage, or hedge, interest rate risks related to its borrowings, from lines of credit to medium and long-term financings. The Company requires that hedging derivative instruments are effective in reducing the interest rate risk exposure that they are designed to hedge. The Company does not use derivatives for trading or speculative purposes and only enter into contracts with major financial institutions based on their credit rating and other factors.
If interest rate assumptions and other factors used to estimate a derivative's fair value or methodologies used to determine hedge effectiveness were different, amounts reported in earnings and other comprehensive income and losses expected to be reclassified into earnings in the future could be affected.
Stock-Based Compensation
The Company adopted the disclosure provisions of SFAS No. 148, Accounting for Stock-Based Compensation-Transition and Disclosure, during the year ended December 31, 2002. At December 31, 2004 and 2003, the Company had one stock-based employee compensation plan, which is described more fully in Note 12. The Company accounts for this plan under the recognition and measurement principles of APB Opinion No. 25, Accounting for Stock Issued to Employees, and related Interpretations. No stock-based employee compensation cost related to stock option grants is reflected in the Company's reported results, as all options granted under the plan have an exercise price equal to the market value of the underlying common stock on the date of grant. The following table illustrates the effect on net income and earnings per share as if the Company had applied the fair value
recognition provisions of SFAS No. 123, Accounting for Stock-Based Compensation, to stock-based employee compensation (in thousands, except per-share data):
Earnings Per Share
In accordance with SFAS No. 128, Earnings Per Share, basic earnings per common share is computed by dividing net income attributable to common shareholders (defined as net income less paid and accrued preferred stock distributions and accretion of redeemable equity) by the weighted average number of common shares outstanding during the period. Diluted earnings per share reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock and shared in the earnings of the Company.
Income Taxes
The Company has elected to be treated as a REIT under the Internal Revenue Code. In order to qualify as a REIT for income tax purposes, the Company must, among other things, distribute to shareholders at least 90% of its taxable income. It is the Company's policy to distribute 100% of its taxable income to shareholders; accordingly, no provision has been made for federal income taxes.
Reclassifications
Certain prior year balances have been reclassified to conform to the current year presentation.
3. Real Estate Investments
Summary
A summary of real estate investments follows as of December 31 (in thousands):
Acquisitions
During the year ended December 31, 2004, the Company completed the acquisition of 4 shopping centers, 2 of which are grocer-anchored, aggregating 1.1 million square feet of gross leasable area ("GLA"), of which the Company acquired 0.9 million square feet of GLA. The aggregate acquisition price of the shopping centers, including amounts allocated to acquired in-place lease value and above and below market leases, was $153.0 million, which was funded with borrowings under the Company's line of credit, assumptions of mortgage loans payable at their estimated fair market value, and the issuance of exchangeable units of limited partnership interest in one of the Company's operating partnerships.
During the year ended December 31, 2003, the Company completed the acquisition of eleven shopping centers, eight of which are grocer-anchored, aggregating 2.1 million square feet of gross leasable area ("GLA"), of which the Company acquired 1.7 million square feet of GLA. The aggregate acquisition price of the shopping centers, including amounts allocated to acquired in-place lease value and above and below market leases, was $224.2 million, which was funded with borrowings under the Company's line of credit, assumptions of mortgage loans payable at their estimated fair market value, and a short-term bridge loan.
During the year ended December 31, 2002, the Company completed the acquisition of ten shopping centers, nine of which are grocer-anchored, aggregating 3.1 million square feet of GLA, of which the Company acquired 2.4 million square feet of GLA. The aggregate acquisition price of the shopping centers was $208.5 million, which was funded with borrowings under the Company's line of credit, assumptions of mortgage loans payable at their estimated fair market value, and the issuance of exchangeable units of limited partnership interest in one of the Company's operating partnerships. In addition, the Company completed the acquisition of two parcels at company-owned shopping centers aggregating 70,000 square feet GLA, for a total acquisition price of $6.5 million, which was funded with borrowings under the Company's line of credit facility and cash provided by operations.
2004 Dispositions
In December 2004, the Company completed the disposition of Garden Plaza, an 80,000 square foot shopping center located in Franklin, Wisconsin for $4.8 million, resulting in a gain of $0.6 million. The results of operations of the Garden Plaza shopping center have been reclassified as discontinued operations for all periods presented in the accompanying financial statements.
In December 2004, the Company completed the disposition of a parcel of land located at Madison Plaza located in Madison, Wisconsin for $3.5 million, which approximated the Company's carrying value. The operations and cash flows for the assets sold could not be clearly distinguished, both operationally and for financial reporting purposes, from the rest of the shopping center. Accordingly, no amounts have been reclassified as discontinued operations in the accompanying financial statements.
In October 2004, the Company completed the disposition of Camelot, a 151,000 square foot shopping center located in Louisville, Kentucky for $7.4 million, resulting in a gain of $0.3 million. The results of operations of the Camelot shopping center have been reclassified as discontinued operations for all periods presented in the accompanying financial statements.
In September 2004, the Company completed the disposition of a parcel of land located at Cross Keys located in Turnersville, New Jersey for $7.0 million, which approximated the Company's carrying value. The operations and cash flows for the assets sold could not be clearly distinguished, both operationally and for financial reporting purposes, from the rest of the shopping center. Accordingly, no amounts have been reclassified as discontinued operations in the accompanying financial statements.
In April 2004, the Company completed the disposition of Fortune office building located in Hartsdale, New York, for $7.4 million, resulting in a gain of $3.0 million. The results of operations of the Fortune office building have been reclassified as discontinued operations for all periods presented in the accompanying financial statements.
2003 Dispositions
In September 2003, the Company completed the disposition of River Ridge Marketplace, a 214,000 square foot shopping center located in Asheville, North Carolina for $13.2 million, resulting in a gain of $1.9 million. The results of operations of River Ridge Marketplace shopping center have been reclassified as discontinued operations for all periods presented in the accompanying financial statements.
In January and February 2003, the Company completed the sales of its 10 remaining single-tenant properties for $2.4 million, resulting in a total gain of $0.8 million. These single-tenant properties were classified as held for sale at December 31, 2002.
2002 Dispositions
In March 2002, the Company completed the sale of the Flower Hill office building located in Roslyn, New York, for $4.2 million, resulting in a net gain on sale of $1.4 million. The Flower Hill building was classified as held for sale at December 31, 2001.
In September 2002, the Company completed the sale of its ground-up development property located in Mishawaka, Indiana for $5.7 million, resulting in a gain on sale of $1.6 million. There were no clearly distinguishable operations and cash flows from this development entity prior to the sale. Therefore, the gain on sale of this property is included as a component of income before discontinued operations.
In September 2002, the Company completed the sale of one of its single-tenant properties for $0.5 million, resulting in a net gain on sale of $0.4 million. The operations of this property, combined with the operations of the remaining single tenant properties, were reported as income from discontinued operations in 2002 and their respective 2001 results of operations were reclassified to income from discontinued operations.
4. Investment in Joint Venture
In May 2004, the Company acquired a 50% interest in a joint venture for the development and construction of a 302,000 square foot shopping center, of which the joint venture owns 210,000 square feet, to be located in a suburb of Grand Rapids, Michigan. The Company made an initial equity investment of $3.3 million, which has been accounted for under the equity method of accounting, and provided a short-term bridge loan of approximately $9.2 million, which was repaid in November 2004. Interest earned on the loan, to the extent attributable to the outside interest in the joint venture, has been recorded as Interest and Other. The operations of the joint venture, consisting of incidental activity related to operating restaurants located on out parcels, are being reported on a 90-day lag basis. Accordingly, the operations for the period from May 17, 2004 (acquisition date) through September 30, 2004 are included in the accompanying consolidated statement of operations and are classified as Interest and Other.
The Company has fully guaranteed the repayment of a $22 million construction loan obtained by the joint venture from Key Bank, National Association. The Key Bank loan matures in November 2006 (subject to extension). As of December 31, 2004, $13.0 million is outstanding under the construction loan. Such amount is recorded on the books and records of the joint venture. In the event the Company is obligated to repay all or a portion of the construction loan pursuant to the guarantee, the Company (i) may remove the manager of the joint venture for cause and terminate all agreements with the manager, (ii) would receive a promissory note from the joint venture for the amount paid by the Company together with a first priority mortgage on the shopping center, and (iii) may prohibit all distributions from the joint venture or payment of fees by the joint venture until the principal and accrued interest on the loan is repaid. The estimated fair value of the guarantee as of December 31,
is not material to the Company's financial position. Accordingly, no liability or additional investment has been recorded related to the fair value of the guarantee.
5. Supplemental Cash Flow Information
During 2004, 2003 and 2002, interest paid was $74.6 million, $67.8 million, and $70.7 million, respectively, and state income and franchise tax payments, net of refunds, were $1.2 million, $0.4 million, and $0.1 million, respectively.
During 2004, the Company assumed $48.9 million of existing debt in connection with the acquisition of 3 shopping centers. In addition, the Company issued exchangeable limited partnership units with a fair value of $6.2 million in connection with the acquisition of a shopping center.
During 2004, 7,814 shares were issued in exchange for 7,814 exchangeable operating partnership units in the Bradley OP with a fair value of $0.2 million.
Included in accrued expenses and other liabilities at December 31, 2004 are accrued expenditures for real estate investments of $8.0 million and accrued expenses of $0.1 million related to debt issuance costs.
During 2003, the Company assumed $80.5 million of existing debt in connection with the acquisition of six shopping centers. Included in accrued expenses and other liabilities at December 31, 2003 are accrued expenditures for real estate investments of $5.7 million and accrued expenses of $0.1 million for the issuance of common stock.
During 2002, the Company assumed $95.1 million of existing debt in connection with the acquisition of seven shopping centers. In addition, the Company issued exchangeable limited partnership units with a fair value of $7.9 million in connection with the acquisition of four shopping centers. Included in accrued expenses and other liabilities at December 31, 2002 are accrued expenditures for real estate investments of $3.7 million and accrued expenses of $0.1 million for the issuance of common stock.
Only the cash portion of the above transactions is reflected in the accompanying consolidated statements of cash flows.
6. Operating Leases
Scheduled future minimum rental payments to be received under the Company's non-cancelable operating leases are as follows at December 31, 2004 (in thousands):
The Company has contractual commitments under non-cancelable operating leases, primarily ground leases expiring at various dates through 2087. Rental expense was $2,824, $814, and $648 for the years ended December 31, 2004, 2003, and 2002, respectively. Committed amounts under non-cancelable operating leases in effect at December 31, 2004 were as follows:
7. Minority Interests
Series B and C Preferred Units
On September 7, 2004, the Company redeemed all 1,000,000 outstanding 8.875% Series C Cumulative Redeemable Perpetual Preferred Units of Bradley OP, at a redemption price of $25.00 per unit, plus approximately $0.413 of accrued and unpaid distributions. There were no unamortized issuance costs associated with the Series C Preferred Units, therefore, the Company did not incur a charge in connection with this redemption.
On February 23, 2004, the Company redeemed all 2,000,000 outstanding 8.875% Series B Cumulative Redeemable Perpetual Preferred Units of Bradley OP, at a redemption price of $25.00 per unit, plus approximately $0.3266 of accrued and unpaid distributions. There were no unamortized issuance costs associated with the Series B Preferred Units, therefore, the Company did not incur a charge in connection with this redemption.
Exchangeable Limited Partnership Units
Exchangeable limited partnership units consist of 522,044 and 340,270 Bradley OP Units ("OP Units") at December 31, 2004 and 2003, respectively, not owned by the Company. The holders of these Units may present such OP Units to Bradley OP for redemption at any time (subject to certain restrictions with particular holders). Upon presentation of an OP Unit, the Bradley OP must redeem such OP Unit for cash equal to the then value of a share of common stock of the Company ("Common Stock"), except that the Company may, at its election, in lieu of a cash redemption, acquire such OP Unit for one share of Common Stock. One share of Common Stock is generally the economic equivalent of the OP Unit, and the quarterly distribution that may be paid to the holder of an OP Unit equals the quarterly dividend that may be paid to the holder of a share of Common Stock.
Other Minority Interest
The Company has a single investment acquired in its acquisition of Bradly in which a minority interest participates in earnings based on terms specified in its partnership agreement. This minority interest amounted to $2.4 million at December 31, 2004 and 2003.
8. Debt
Mortgage Loans Payable
Mortgage loans consist of various non-recourse issuances collateralized by 65 and 67 real estate investments with an aggregate net carrying value of $973.9 million and $957.3 million at December 31, 2004 and 2003, respectively. The loans require monthly payments of principal and interest under fixed and variable terms, through 2020 at interest rates ranging from 4.28% to 10.13% and have a weighted average effective interest rate of 7.36% at December 31, 2004. The loans are generally subject to prepayment penalties.
Mortgage loans payable consisted of the following at December 31 (in thousands):
(1)The principal amount shown has been adjusted to reflect the estimated fair value of the mortgage loans payable as of the date the property was acquired. The stated principal balance at December 31, 2004 was $635.6 million
(2)The principal amount shown has been adjusted to reflect the estimated fair value of the mortgage loans payable as of the date the property was acquired. The stated principal balance at December 31, 2003 was $622.5 million.
Unsecured Notes Payable
On April 1, 2004, the Company completed the issuance and sale of $200 million principal amount of unsecured 5.125% notes due April 15, 2014. These notes were issued pursuant to the terms of an indenture the Company entered into with LaSalle National Bank, as trustee. The notes are shown net of an original issue discount of $1.7 million that is being accreted on a basis that approximates the effective interest method over the term of the notes. The notes may be redeemed at any time at the option of the Company, in whole or in part, at a redemption price equal to the sum of (1) the principal amount of the notes being redeemed plus accrued interest on the notes to the redemption date and (2) a make-whole amount, if any, with respect to the notes that is designed to provide yield maintenance protection to the holders of these notes.
On October 15, 2004, the Company completed the issuance and sale of $150 million principal amount of unsecured 4.5% notes due October 15, 2009. These notes were issued pursuant to the terms of an indenture the Company entered into with LaSalle National Bank, as trustee. The notes are shown net of an original issue discount of $0.1 million that is being accreted on a basis that approximates the effective interest method over the term of the notes. The notes may be redeemed at any time at the option of the Company, in whole or in part, at a redemption price equal to the sum of (1) the principal amount of the notes being redeemed plus accrued interest on the notes to the redemption date and (2) a make-whole amount, if any, with respect to the notes that is designed to provide yield maintenance protection to the holders of these notes.
In addition, all notes described above have been guaranteed by the Company's two operating partnerships. The indenture contains various covenants, including covenants which restrict the amount of indebtedness that may be incurred by the Company and its subsidiaries. The Company is in compliance with all applicable covenants as of December 31, 2004.
In its acquisition of Bradley OP in September 2000, Heritage assumed unsecured notes payable consisting of a $100 million 7.0% fixed-rate issue maturing on November 15, 2004; $100 million, 7.2% fixed-rate issue maturing on January 15, 2008; and $1.5 million of other debt. These notes are all held directly by Bradley OP. On November 15, 2004, the Company repaid all of the $100 million 7% fixed-rate issue maturing on that date. The amount of unsecured Bradley OP notes payable outstanding at December 31, 2004 and 2003 was $101.5 million and $201.5 million, respectively.
Line of Credit Facility
On April 29, 2002, the Company entered into a $350 million unsecured line of credit with a group of lenders with Fleet National Bank, as agent. This line of credit replaced the Company's prior $425 million senior unsecured credit facility, which was repaid with proceeds from the IPO. The Company's two operating partnerships are the borrowers under this line of credit, and Heritage and certain of Heritage's other subsidiaries have guaranteed this line of credit. This line of credit is being used principally to fund growth opportunities and for working capital purposes. At December 31, 2004 and 2003, $196 million and $243 million were outstanding under the line of credit, respectively. The line of credit matures on April 29, 2005.
The line of credit bears interest at either the lender's base rate or a floating rate based on a spread over LIBOR ranging from 80 basis points to 135 basis points, depending upon the Company's
debt rating, and requires monthly payments of interest. The variable rate in effect at December 31, 2004 and 2003, including the lender's margin of 105 basis points, and borrowings outstanding at the base rate, was 3.55% and 2.22%, respectively. In addition, this line of credit has a facility fee based on the amount committed ranging from 15 basis points to 25 basis points, depending upon the Company's debt rating, and requires quarterly payments.
This line of credit requires the Company to maintain specific financial ratios and restricts the incurrence of indebtedness and the funding of investments. This line of credit also, except under some circumstances, including as necessary to maintain the Company's status as a REIT, limits the Company's ability to make distributions in excess of 90% of annual funds from operations, as defined. As of December 31, 2004, the Company was in compliance with all of the financial covenants under the line of credit facility.
Upon entering into this line of credit and repayment of the prior senior unsecured credit facility, the Company wrote off unamortized deferred financing costs and recognized a loss of $4.2 million on this transaction in 2002 which was reclassified to an operating expense from an extraordinary item upon the Company's adoption of SFAS No. 145, Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections, on January 1, 2003.
In February 2005, the Company obtained a commitment to establish a new three-year, $350 million unsecured line of credit with Wachovia Bank, as agent. Wachovia has agreed to use its "best efforts" to syndicate this new line of credit. This new line of credit, which the Company expects to enter into shortly, will replace its existing unsecured credit facility. In the event the Company is unable to enter into this new line of credit on or before April 29, 2005, the Company would seek an extension of its existing line of credit for up to one year. In addition, in light of its investment grade credit ratings and prior capital markets activity, the Company believes there are sufficient alternative financing sources available to it to refinance its existing line of credit, including through a combination of one or more short-term bridge loans, public or private offerings of common stock, preferred stock or debt securities or the incurrence of additional indebtedness through secured or unsecured borrowings.
Subordinated Debt
In September 2000, Heritage entered into a $100 million term credit agreement (the "Subdebt"), which was subordinated in right of payment to its line of credit. The Subdebt was scheduled to mature on March 18, 2004 and bore interest at a variable rate based on LIBOR. The Subdebt contained covenants that, among other things, required the Company to maintain certain financial ratios. In addition, the Subdebt contained provisions that required repayment of the Subdebt upon full repayment of the line of credit or upon receipt of aggregate equity proceeds in excess of $250,000.
On April 30, 2001, the Company modified the interest rate terms under the Subdebt. This modification resulted in the lender's margin being reduced from its originally scheduled 6% and 8% increasing-rate levels to 5% for the remaining term of the Subdebt. The Company determined that this modification did not result in an early extinguishment of debt. The fees incurred to modify the terms of the Subdebt were $1.8 million and were being amortized over the remaining term of the debt.
The Company used $100 million of the net proceeds from the IPO to repay in full the Subdebt outstanding. In connection with the full repayment, the Company wrote off unamortized deferred
financing costs and recognized a loss of $2.5 million which was reclassified to an operating expense from an extraordinary item upon the Company's adoption of SFAS No. 145, Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections, on January 1, 2003.
Scheduled Principal Repayments
Scheduled principal repayments on aggregate outstanding debt at December 31, 2004 are as follows (in thousands):
(1)The aggregate principal repayment amount of $1,283,069 does not reflect the unamortized adjustment of $13,461 to increase the carrying amount to fair value for fifteen mortgages assumed as of December 31, 2004 and the unamortized original issue discounts of $1,727 related to $350.0 million of unsecured indebtedness.
9. Related Party Transactions
Transactions with NETT
In connection with the formation of Heritage, environmental studies were not completed for all of the contributed properties. NETT has agreed to indemnify the Company for environmental costs up to $50 million. The environmental costs include completing environmental studies and any required remediation. Since our formation in July 1999, the Company has been reimbursed by NETT for approximately $2.1 million of environmental costs pursuant to this indemnity.
In November 1999, the Company entered into a joint venture with NETT for the acquisition and development of a 365,000 square foot commercial office building at 131 Dartmouth Street, Boston, Massachusetts. This joint venture is owned 94% by NETT and 6% by the Company. The Company was issued this interest as part of a management arrangement with the joint venture pursuant to which the Company manages the building. The Company has no ongoing capital contribution requirements with respect to this office building, which was completed in January 2003. The first tenants began occupying this office building in October 2003. The Company accounts for its interest in this joint venture using the cost method and has not expended any amounts on the office building through December 31, 2004.
In February 2004, the Company entered into an eleven-year lease with this joint venture for the lease of approximately 31,000 square feet of space and moved its corporate headquarters to this space during the first quarter of 2004. Under the terms of this lease, which were negotiated on an arms-length basis, the Company will begin paying rent in February 2005. The Company pays $1.1 million per year in minimum rent through 2009 and $1.2 million per year from 2010 through 2014.
In 1974, NETT and Net Realty Holding Trust entered into an agreement providing for the lease of 14,400 square feet of space at the 535 Boylston Street office building to NETT for its Boston offices. Net Realty Holding Trust assigned this lease to the Company as part of the Company's formation. The current term of this lease expires on March 31, 2005 and under this lease, NETT pays the Company $648,000 per year in minimum rent.
Transactions with Prudential
Prudential received advisory and other fees totaling $3.4 million in connection with the IPO, which have been included as equity issuance costs. These fees were incurred in the second quarter of 2002. Upon completion of the IPO and payment of these fees, the Company's advisory arrangements with Prudential were terminated.
In connection with its providing advisory services to the Company, Prudential received warrants to acquire shares of the Company's common stock at an exercise price of $25.00 per share, which was assumed to be equal to the fair value of the stock at the date the warrants were issued. On July 9, 1999, 75,000 of the warrants were issued with an expiration date of July 9, 2003, and on September 18, 2000, 300,000 warrants were issued with an expiration date of September 18, 2004. The warrants had an estimated fair value at issuance of $0.2 million and $0.9 million, respectively, and such amounts were recorded as additional paid-in capital.
In February 2003 the Company extended the expiration date of all warrants to April 29, 2007. The Company recorded a charge of $0.1 million in connection with this modification.
On March 11, 2004, Prudential informed the Company that it was exercising all of its 375,000 warrants in accordance with the cashless exercise provisions of its warrant agreement. Pursuant to the warrant agreement, on March 12, 2004, the Company issued Prudential 68,166 shares of common stock in full settlement of the warrants. The Company did not incur any additional expense as a result of the exercise of the warrants.
A portion of redeemable equity, representing costs associated with prior equity transactions with Prudential, is reclassified as a charge to earnings for each quarter over the redemption period. This charge, which is recorded as accretion of redeemable equity in the accompanying consolidated statements of operations, amounted to $0.3 million for the year ended December 31, 2002. As a result of the IPO, all redeemable equity outstanding converted automatically into shares of the Company's common stock on a one for one basis.
The TJX Companies
In July 1999, the Chairman of the Board of TJX Companies, Inc., the Company's largest tenant, became a member of the Company's board of directors. The Company received annualized base rent from the TJX Companies of $14.0 million in 2004, which represented approximately 5.5% of total annualized base rent for all leases in which tenants were in occupancy at December 31, 2004. TJX pays rent in accordance with 51 written leases.
Ahold USA
In July 1999, the Senior Vice President, Labor Relations of Ahold USA, Inc., the parent company of Giant Foods, Bi-Lo, Bruno's and Stop & Shop became a member of the Company's board of directors. The Company received annualized base rent from Ahold and its subsidiary companies of $2.3 million in 2004, which represented approximately 0.9% of total annualized base rent for all leases in which tenants were in occupancy at December 31, 2004. Ahold USA and its subsidiary companies pay rent in accordance with 5 written leases. Subsequent to December 31, 2004, Ahold USA sold Bi-Lo and Bruno's representing $0.9 million of annualized base rent in 2004.
10. Segment Reporting
The Company predominantly operates in one industry segment-real estate ownership and management of retail properties. As of December 31, 2004 and 2003, the Company owned 164 and 162 community and neighborhood shopping centers, respectively. Management reviews operating and financial data for each property separately and independently from all other properties when making resource allocation decisions and measuring performance. The Company defines operating segments as individual properties with no segment representing more than 10% of rental revenue.
11. Earnings Per Share
Earnings per common share ("EPS") has been computed pursuant to the provisions of SFAS No. 128. The following table provides a reconciliation of both net income and the number of common shares used in the computation of basic EPS, which utilizes the weighted average number of common
shares outstanding without regard to the dilutive potential common shares, and diluted EPS, which includes all shares, as applicable (in thousands, except per-share data):
For the year ended December 31, 2002, preferred stock distributions of $14.3 million, and the effect of the assumed conversion of convertible preferred stock and exchangeable minority interests outstanding into shares of common stock at the beginning of the year were not included in the computation of diluted loss per common share because the impact on basic loss per common share was anti-dilutive. At December 31, 2002 options and warrants to purchase 2,415,527 shares of common stock at $25.00 per share were outstanding but were not included in the computation of diluted loss per common share because their exercise price was not below the fair value of the common shares and would therefore not dilute basic loss per common share.
12. Stock-Based Compensation
Overview
SFAS No. 123, Accounting for Stock-Based Compensation ("SFAS No. 123"), establishes financial accounting and reporting standards for stock-based employee compensation plans, including all arrangements by which employees receive shares of stock or other equity instruments of the employer or the employer incurs liabilities to employees in amounts based on the price of the employer's stock. SFAS No. 123 defines a fair value-based method of accounting for an employee stock option or similar equity instrument. However, it also allows an entity to continue to measure compensation cost using the intrinsic value-based method of accounting prescribed by Accounting Principles Opinion No. 25, Accounting for Stock Issued to Employees ("Opinion No. 25"), and to make pro-forma disclosures of net income and earnings per share as if the fair value method of accounting defined in SFAS No. 123 were applied. The Company uses Opinion No. 25 and related Interpretations to measure compensation costs for its stock-based plans.
The Company's 2000 Equity Incentive Plan, as amended (the "Plan") authorizes options and other stock-based compensation awards to be granted to employees and directors for up to 5,700,000 shares of common stock. The Compensation Committee of the Board of Directors administers the Plan and is responsible for selecting persons eligible for awards and for determining the term and duration of any award.
Stock Options
Pursuant to the Plan, the Company periodically grants options to purchase shares of common stock at an exercise price equal to the estimated per-share fair value of the Company's common stock. The options vest over periods ranging from three to five years and have an expiration of ten years from the grant date.
Upon completion of the Company's initial public offering, the vesting of all stock options previously granted to employees (other than 430,000 options granted in April 2002) accelerated.
A summary of option transactions during the periods covered by these consolidated financial statements is as follows:
The following table summarizes information about stock options outstanding at December 31, 2004:
For purposes of the pro forma amounts below, the Company recognizes compensation expense over the vesting period. The per-share weighted-average fair value of the 539,654 options issued during the year ended December 31, 2004 was $1.98. The per-share fair value of each option granted is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions:
The compensation cost under SFAS 123 for the stock performance-based plan would have been $0.7 million, $0.6 million and $0.4 million for the years ended December 31, 2004, 2003 and 2002. Had compensation cost for the Company's grants under stock-based compensation plans been determined consistent with SFAS 123, the Company's net income (loss), and net income (loss) per common share
for 2004, 2003 and 2002 would approximate the pro forma amounts below (in thousands, except per-share data):
The effects of applying SFAS 123 in the pro-forma disclosure are not indicative of future amounts and anticipated awards.
Subsequent to December 31, 2004, pursuant to the Plan, the Company granted 112,500 stock options at an exercise price of $30.90 per share, which appoximates the fair value of the Company's common stock. The options vest at a rate of one-third per year on the anniversary of the grant date and have a duration of ten years.
Restricted Shares
In July 2002, the Board of Directors approved the issuance over five years of an aggregate of up to 775,000 shares of restricted stock with no exercise price to members of senior management of the Company. The Company issued the first installment of 155,000 shares in July 2002 based on a fair market value per share of $23.65 on the grant date. These shares were subject to risk of forfeiture and transfer restrictions, which terminated on March 1, 2003, based on the continued employment of these individuals with the Company through that date. During the years ended December 31, 2003 and 2002, the Company recognized $1.1 million and $2.6 million of compensation expense related to these shares, respectively.
On March 3, 2003, the Company issued the second installment consisting of 155,000 shares based on a value of $24.36 per share. These shares were subject to risk of forfeiture and transfer restrictions, which terminated on March 3, 2004, based on the continued employment of these individuals with the Company through that date. During the years ended December 31, 2004 and 2003, the Company recognized $0.5 million and $3.3 million, respectively of compensation expense related to these shares, including the vesting of 20,000 shares issued to an officer which were accelerated upon his departure from the Company in 2003.
On March 1, 2004, the Company issued the third installment consisting of 135,000 shares (reduced from 155,000 to reflect the termination of employment of one of the participants) based on a value of $29.76 per share. These shares are subject to risk of forfeiture and transfer restrictions, which terminated on March 1, 2005, based on the continued employment of these individuals with the Company through that date. During the year ended December 31, 2004, the Company recognized $3.3 million of compensation expense related to these shares, including the vesting of 1,000 shares issued to an officer which were accelerated upon her departure from the Company. The unamortized compensation expense of $0.7 million is included as unearned compensation on the accompanying balance sheet and will be amortized over the remaining vesting period.
On March 4, 2005, the Company issued the fourth installment consisting of 134,000 shares (reduced from 155,000 to reflect the termination of employment of two of the participants) based on a value of $30.90 per share. These shares are subject to risk of forfeiture and transfer restrictions, which terminate on March 1, 2006, based on the continued employment of these individuals with the Company through that date.
Upon completion of the IPO in the second quarter of 2002, all contractual restrictions on transfer and forfeiture provisions that existed on restricted shares previously granted to members of senior management and other key employees terminated. As a result, in 2002, the Company incurred compensation expense, including the reimbursement of a portion of the taxes paid by two employees, of $6.8 million on the restricted shares, which is comprised of $4.3 million of stock compensation expense and $2.5 million for the reimbursement of a portion of such taxes.
During the years ended December 31, 2004, 2003 and 2002, the Company recognized $0.8 million, $1.2 million and $1.1 million, respectively, of compensation expense, including the reimbursement of a portion of the taxes to be paid by one employee, related to 119,500 shares of restricted stock that were issued by the Company on March 3, 2003 for 2002 performance. The Company recognizes compensation expense with respect to performance-based stock grants ratably over the performance and three-year vesting periods. The unamortized compensation expense of $0.6 million is included as unearned compensation on the accompanying balance sheet and will be amortized over the remaining vesting period.
During the years ended December 31, 2004 and 2003, the Company recognized $1.1 million and $1.1 million, respectively of compensation expense, including the reimbursement of a portion of the taxes to be paid by one employee, related to 108,000 shares of restricted stock that were issued by the Company on February 17, 2004 for 2003 performance. The Company recognizes compensation expense with respect to performance-based stock grants ratably over the performance and three-year vesting periods. The unamortized compensation expense of $1.5 million is included as unearned compensation on the accompanying balance sheet and will be amortized over the remaining vesting period.
During the year ended December 31, 2004, the Company accrued $1.5 million of compensation expense, including the reimbursement of a portion of the taxes to be paid by one employee, related to approximately 143,800 shares of restricted stock that were issued by the Company on March 4, 2005. The Company recognizes compensation expense with respect to performance-based stock grants ratably over the performance and three-year vesting periods.
Following is a table summarizing restricted stock activity during the years ended December 31:
13. Commitments and Contingencies
Retirement Savings Plan
Effective in January 2000, the Company began to offer its employees a retirement savings plan qualified under Section 401(k) of the Internal Revenue Code. Under the Plan, the Company provides matching contributions. These matching contributions are currently equal to 100% of the employee's contribution up to 3% of the employee's compensation, and 50% of the employee's contribution in excess of 3% and up to 5% of the employee's compensation. These employer contributions aggregated $0.5 million, $0.3 million, and $0.3 million in 2004, 2003 and 2002, respectively, and vested immediately.
Effective in January 2000, the Company adopted a non-qualified executive retirement plan ("SERP"). Benefits payable under the SERP are based upon a percentage of each participant's average annual cash compensation, consisting of base salary and cash bonus, for the three calendar years of the last ten years of employment which produce the highest average amount. Benefits earned under the SERP vest over varying periods ranging from eight to ten years. Participants may begin to receive payments under the SERP following either their 60th or 65th birthday depending on the terms of their individual agreement. Benefits under the SERP will terminate upon the participant's death. The Company has accrued a liability pursuant to the SERP of $5.9 million and $4.2 million, at December 31, 2004 and 2003, respectively, representing the Company's unfunded accumulated benefit obligation. Such amounts are classified in other liabilities in the accompanying balance sheets. In addition, $1.2 million, representing a portion of unamortized prior service cost, has been recorded as an intangible asset in other assets as of December 31, 2004. As of December 31, 2004, the Company does not expect to make benefit payments or contributions in the next five years.
The following is a reconciliation of the accumulated post retirement obligation, assuming a salary increase rate of 5%, and a discount rate of 5.75% 6.0%, and 6.50% during the years ended December 31, 2004, 2003, and 2002, respectively:
During the year ended December 31, 2004, $0.6 million was contributed by the Company to the plan and $0.6 million was distributed to one of the SERP participants, representing the Company's full obligation to that participant pursuant to a contractual termination of the SERP.
Legal and Other Matters
On October 31, 2001, a complaint was filed against the Company in the Superior Court of Suffolk County of the Commonwealth of Massachusetts by Weston Associates and its president, Paul Donahue, alleging that the Company owes Mr. Donahue and his firm a fee in connection with services he claims he performed on the Company's behalf in connection with the acquisition of Bradley Real Estate Inc. On September 18, 2000, the Company acquired Bradley, a publicly traded REIT based in Illinois with nearly 100 shopping center properties located primarily in the Midwest, at an aggregate cost of approximately $1.2 billion. Through his personal relationships with the parties involved, at the Company's request, Mr. Donahue introduced the Company to Bradley and its senior management team. Mr. Donahue alleges, however, that he played an instrumental role in the negotiation and completion of the Company's acquisition of Bradley beyond merely introducing the parties. For these alleged efforts, Mr. Donahue demands that he receive a fee equal to 2% of the aggregate consideration paid to acquire Bradley, or a fee of approximately $24 million. In addition, Mr. Donahue also seeks treble damages based on alleged unfair or deceptive business practices under Massachusetts law.
On November 29, 2002, the court granted the Company's motion to dismiss Mr. Donahue's claims. Mr. Donahue subsequently filed an appeal of the court's decision and on March 4, 2004, an oral argument was heard with respect to Mr. Donahue's appeal. On July 14, 2004, the Massachusetts Appellate Court reversed the lower court's decision dismissing Mr. Donahue's claims. The Appellate Court's decision reverts the case back to the Superior Court for discovery and additional proceedings. It is not possible at this time to predict the outcome of this litigation and the Company intends to vigorously defend against these claims.
Except as set forth above, the Company is not involved in any material litigation nor, is any material litigation threatened against the Company, other than routine litigation arising in the ordinary course of business, which is generally expected to be covered by insurance. In the opinion of the Company's management, based upon currently available information, this litigation is not expected to have a material adverse effect on the Company's business, financial condition or results of operations.
The Company is subject to legal and other claims incurred in the normal course of business. Based on its review and consultation with counsel of such matters known to exist, management does not believe that the ultimate outcome of these claims would materially affect the Company's financial position or results of operations.
Construction Contracts
The Company has entered into construction contracts related to tenant improvements, out parcel development and re-development of various shopping centers. Unexpended but committed amounts under construction contracts amounted to $13.8 million as of December 31, 2004.
14. Derivative and Hedging Activities
Statement of Financial Accounting Standards No. 133, Accounting for Derivative Instruments and Hedging Activities, as amended and interpreted, establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities. As required by SFAS 133, the Company records all derivatives on the balance sheet
at fair value. The accounting for changes in the fair value of derivatives depends on the intended use of the derivative and the resulting designation. Derivatives used to hedge the exposure to changes in the fair value of an asset, liability, or firm commitment attributable to a particular risk, such as interest rate risk, are considered fair value hedges. As of December 31, 2004, no derivatives were designated as fair value hedges or hedges of net investments in foreign operations. Additionally, the Company does not use derivatives for trading or speculative purposes and currently does not have any derivatives that are not designated as hedges.
Derivatives used to hedge the exposure to variability in expected future cash flows, or other types of forecasted transactions which are utilized by the Company, are considered cash flow hedges. The Company's objective in using derivatives is to add stability to interest expense and to manage its exposure to interest rate movements or other identified risks. To accomplish this objective, the Company primarily uses interest rate swaps as part of its cash flow hedging strategy. Interest rate swaps designated as cash flow hedges involve the receipt of variable-rate amounts in exchange for fixed-rate payments over the life of the agreements without exchange of the underlying principal amount. To date, such derivatives have been used to hedge the variable cash flows associated with floating-rate debt and forecasted interest payments on forecasted issuances of debt.
For derivatives designated as cash flow hedges, the effective portion of changes in the fair value of the derivative is initially reported in other comprehensive loss (a component of shareholders' equity) and subsequently reclassified to earnings when the hedged transactions affect earnings, and the ineffective portion of changes in the fair value of the derivative is recognized directly in earnings.
During 2004, the Company entered into forward-starting interest rate swaps to mitigate the risk of changes in forecasted interest payments on forecasted issuances of long-term debt. In March 2004, the Company used such derivatives to hedge the variability in future cash flows related to $192.5 million of forecasted debt issuances. The Company issued the hedged debt on March 29, 2004 and subsequently terminated the related forward-starting interest rate swaps at their fair value of $1.2 million. This amount was deferred in other comprehensive loss and is being reclassified as a reduction in interest expense as the hedged interest payments affects earnings. Proceeds from the termination are included in cash flows from financing activities in the accompanying statement of cash flows. In September 2004, the Company used such derivatives to hedge variability in future cash flows related to $146.6 million of forecasted debt issuances. The Company issued the hedged debt on October 15, 2004 and subsequently terminated the related forward starting interest rate swaps at their current fair value of ($1.7) million. This amount was deferred in other comprehensive loss and is being reclassified as an increase in interest expense as the hedged interest payments affect earnings. Payments related to this termination are included in cash flows from financing activities in the accompanying statement of cash flows.
For the year ended December 31, 2004, the change in net realized losses for derivatives designated as cash flow hedges was $0.5 million and is separately disclosed in the statement of changes in shareholders' equity. This change is entirely comprised of reclassification of the net realized gains and losses to earnings as the hedged interest payments affect earnings.
No hedge ineffectiveness on cash flow hedges was recognized during 2004. Amounts reported in other comprehensive loss related to these swaps at December 31, 2004 will be reclassified to interest expense as scheduled hedged interest payments are made. As of December 31, 2004, the Company
estimates that $0.2 million will be reclassified from other comprehensive loss as an increase in interest expense during the next 12 months.
15. Guarantees of Notes Payable
During 2004, the Company issued $350.0 million aggregate principal amount of its unsecured notes in two separate transactions (the "Existing Notes") to certain initial purchasers, who then sold those notes to qualified institutional buyers in reliance on Rule 144A under the Securities Act of 1933, as amended (the "Securities Act"). The Existing Notes were guaranteed (the "Existing Guarantees") by the Company's two operating partnerships, Heritage Property Investment Limited Partnership and Bradley Operating Limited Partnership (the "Guarantors"). Each of the Existing Guarantees is full and unconditional and joint and several.
Because these notes were sold pursuant to exemptions from registration under the Securities Act, the Existing Notes and Existing Guarantees were subject to transfer restrictions. In connection with the issuance of the Existing Notes and Existing Guarantees, the Company and the Guarantors entered into a registration rights agreements with the initial purchasers in which the Company and the Guarantors agreed to register with the Securities and Exchange Commission ("SEC") under the Securities Act new notes ("Registered Notes") and new guarantees ("Registered Guarantees") to be exchanged for the Existing Notes and Existing Guarantees. Each of the Registered Guarantees is full and unconditional and joint and several.
This footnote is being provided pursuant to Rule 3-10(f) of Regulation S-X in lieu of providing separate annual financial statements with respect to Heritage Property Investment Limited Partnership, a wholly owned Guarantor. Financial statements with respect to Bradley Operating Limited Partnership, a non-wholly owned Guarantor, are separately filed with the SEC.
The following represents summarized condensed consolidating financial information as of December 31, 2004 and 2003 with respect to the financial position of the Company and for the years ended December 31, 2004, 2003, and 2002 with respect to the results of operations and cash flows of the Company and its subsidiaries. The Parent Company column presents the financial information of the Company, the primary obligor of the Registered Notes, under the equity method of accounting. The Guarantors' columns are segregated between Bradley Operating Limited Partnership, which is 98.5% owned by the Company, and Heritage Property Investment Limited Partnership, a wholly-owned
subsidiary of the Company. The Non-Guarantor Subsidiaries column presents the financial information of all non-guarantor subsidiaries, which consists primarily of subsidiaries of the Guarantors.
Condensed Consolidating Balance Sheets
Condensed Consolidating Statements of Operations
Condensed Consolidating Statements of Cash Flows
16. Supplementary Quarterly Data (unaudited)
The tables below reflect the Company's selected quarterly information for the years ended December 31, 2004, and 2003. Certain prior quarter amounts have been reclassified to conform to the current presentation of discontinued operations (in thousands, except per-share data):
*Income (loss) per common share is computed independently for each of the quarters presented, which when added together may not equal income (loss) per common share for the year. 17. Newly Issued Accounting Standards
In December 2004, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standard ("SFAS") No. 123R, Share-Based Compensation ("SFAS No. 123R"). SFAS No. 123R supersedes APB Opinion No. 25, Accounting for Stock Issued to Employees, and amends SFAS No. 95, Statement of Cash Flows. Statement No. 123R requires all share-based payments to employees, including grants of employee stock options, to be recorded as an expense based on their fair values. The grant-date fair value of employee share options and similar instruments will be estimated using an option-pricing model adjusted for any unique characteristics of a particular instrument. If an equity award is modified after the grant date, incremental compensation cost will be recognized in an amount equal to the excess of the fair value of the modified award over the fair value of the original award immediately before the modification. The Company does not expect the adoption of SFAS No. 123R to have a material impact on the Company's results of operations, financial position, or liquidity.
In December 2004, the FASB issued SFAS No. 153, Exchange of Nonmonetary Assets, an amendment of APB Opinion No. 29, ("SFAS No. 153"). The amendments made by SFAS No. 153 are based on the principle that exchanges of nonmonetary assets should be measured on the fair value of assets exchanged. SFAS No. 153 eliminates the exception for nonmonetary exchanges of similar productive assets and replaces it with a broader exception for exchanges of nonmonetary assets that do not have commercial substance. SFAS No. 153 is effective for nonmonetary exchanges occurring in fiscal periods beginning after June 15, 2005. The Company does not expect the adoption of SFAS No. 153 to have a material impact on the Company's results of operations, financial position, or liquidity.
SCHEDULE III
HERITAGE PROPERTY INVESTMENT TRUST, INC.
REAL ESTATE AND ACCUMULATED DEPRECIATION
December 31, 2004
(In thousands)
The following table sets forth detail with respect to the properties, and related encumbrances, owned by the Company at December 31, 2004.
S-III-1
SCHEDULE III
HERITAGE PROPERTY INVESTMENT TRUST, INC.
REAL ESTATE AND ACCUMULATED DEPRECIATION
December 31, 2004
(In thousands)
The following table sets forth detail with respect to the properties, and related encumbrances, owned by the Company at December 31, 2004.
S-III-2
SCHEDULE III
HERITAGE PROPERTY INVESTMENT TRUST, INC.
REAL ESTATE AND ACCUMULATED DEPRECIATION
December 31, 2004
(In thousands)
The following table sets forth detail with respect to the properties, and related encumbrances, owned by the Company at December 31, 2004.
S-III-3
SCHEDULE III
HERITAGE PROPERTY INVESTMENT TRUST, INC.
REAL ESTATE AND ACCUMULATED DEPRECIATION
December 31, 2004
(In thousands)
The following table sets forth detail with respect to the properties, and related encumbrances, owned by the Company at December 31, 2004.
S-III-4
SCHEDULE III
HERITAGE PROPERTY INVESTMENT TRUST, INC.
REAL ESTATE AND ACCUMULATED DEPRECIATION
December 31, 2004
(In thousands)
The following table sets forth detail with respect to the properties, and related encumbrances, owned by the Company at December 31, 2004.
S-III-5
SCHEDULE III
HERITAGE PROPERTY INVESTMENT TRUST, INC.
REAL ESTATE AND ACCUMULATED DEPRECIATION
December 31, 2004
(In thousands)
The following table sets forth detail with respect to the properties, and related encumbrances, owned by the Company at December 31, 2004.
S-III-6
SCHEDULE III
HERITAGE PROPERTY INVESTMENT TRUST, INC.
REAL ESTATE AND ACCUMULATED DEPRECIATION
December 31, 2004
(In thousands)
The following table sets forth detail with respect to the properties, and related encumbrances, owned by the Company at December 31, 2004.
S-III-7
SCHEDULE III
HERITAGE PROPERTY INVESTMENT TRUST, INC.
REAL ESTATE AND ACCUMULATED DEPRECIATION
December 31, 2004
(In thousands)
The following table sets forth detail with respect to the properties, and related encumbrances, owned by the Company at December 31, 2004.
S-III-8
SCHEDULE III
HERITAGE PROPERTY INVESTMENT TRUST, INC.
REAL ESTATE AND ACCUMULATED DEPRECIATION
December 31, 2004
(In thousands)
The following table sets forth detail with respect to the properties, and related encumbrances, owned by the Company at December 31, 2004.
S-III-9
SCHEDULE III
HERITAGE PROPERTY INVESTMENT TRUST, INC.
REAL ESTATE AND ACCUMULATED DEPRECIATION
December 31, 2004
(In thousands)
The following table sets forth detail with respect to the properties, and related encumbrances, owned by the Company at December 31, 2004.
S-III-10
SCHEDULE III
HERITAGE PROPERTY INVESTMENT TRUST, INC.
REAL ESTATE AND ACCUMULATED DEPRECIATION
December 31, 2004
(In thousands)
The following table sets forth detail with respect to the properties, and related encumbrances, owned by the Company at December 31, 2004.
S-III-11
SCHEDULE III
HERITAGE PROPERTY INVESTMENT TRUST, INC.
REAL ESTATE AND ACCUMULATED DEPRECIATION
December 31, 2004
(In thousands)
The following table sets forth detail with respect to the properties, and related encumbrances, owned by the Company at December 31, 2004.
S-III-12
SCHEDULE III
HERITAGE PROPERTY INVESTMENT TRUST, INC.
REAL ESTATE AND ACCUMULATED DEPRECIATION
December 31, 2004
(In thousands)
The following table sets forth detail with respect to the properties, and related encumbrances, owned by the Company at December 31, 2004.
S-III-13
SCHEDULE III
HERITAGE PROPERTY INVESTMENT TRUST, INC.
REAL ESTATE AND ACCUMULATED DEPRECIATION
December 31, 2004
(In thousands)
The following table sets forth detail with respect to the properties, and related encumbrances, owned by the Company at December 31, 2004.
S-III-14
SCHEDULE III
HERITAGE PROPERTY INVESTMENT TRUST, INC.
REAL ESTATE AND ACCUMULATED DEPRECIATION
December 31, 2004
(In thousands)
The following table sets forth detail with respect to the properties, and related encumbrances, owned by the Company at December 31, 2004.
(1)Noted properties are cross collateralized securing total mortgage indebtedness with a balance of $235,465,000 at December 31, 2004.
(2)Noted properties are cross collateralized securing total mortgage indebtedness with a balance of $79,827,000 at December 31, 2004.
(3)Noted properties are cross collateralized securing total mortgage indebtedness with a balance of $34,782,000 at December 31, 2004. S-III-15
S-III-16
HERITAGE PROPERTY INVESTMENT TRUST, INC. ANNUAL REPORT ON FORM 10-K INDEX
PART I
Item 1: Business
Item 2: Properties
Item 3: Legal Proceedings
Item 4: Submission of Matters to a Vote of Security Holders
PART II
Item 5: Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Item 6: Selected Financial Data
Item 7: Management's Discussion and Analysis of Financial Condition and Results of Operations
Debt Analysis
Item 7A: Quantitative and Qualitative Disclosures About Market Risk
Item 8: Financial Statements
Item 9: Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Item 9A: Controls and Procedures
Item 9B: Other Information
PART III
Item 10: Directors and Executive Officers of the Registrant
Item 11: Executive Compensation
Item 12: Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Item 13: Certain Relationships and Related Transactions
Item 14: Principal Accounting Fees and Services
PART IV
Item 15: Exhibits and Financial Statement Schedules
SIGNATURES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULE
REPORT OF MANAGEMENT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
Report of Independent Registered Public Accounting Firm
Report of Independent Registered Public Accounting Firm
HERITAGE PROPERTY INVESTMENT TRUST, INC. Consolidated Balance Sheets December 31, 2004 and 2003 (In thousands, except for share amounts)
HERITAGE PROPERTY INVESTMENT TRUST, INC. Consolidated Statements of Operations Years ended December 31, 2004, 2003 and 2002 (In thousands, except per-share data)
HERITAGE PROPERTY INVESTMENT TRUST, INC. Consolidated Statements of Comprehensive Income (Loss) Years ended December 31, 2004, 2003 and 2002 (In thousands)
HERITAGE PROPERTY INVESTMENT TRUST, INC. Consolidated Statements of Changes in Shareholders' Equity Years ended December 31, 2004, 2003 and 2002 (In thousands, except per-share data)
HERITAGE PROPERTY INVESTMENT TRUST, INC. Consolidated Statements of Cash Flows Years ended December 31, 2004, 2003 and 2002 (In thousands)
HERITAGE PROPERTY INVESTMENT TRUST, INC. Notes to Consolidated Financial Statements Years ended December 31, 2004, 2003 and 2002