================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
(X) QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2005
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NUMBER: 1-13136
-------------------------------
--------------------------------------------------------------------------------
HOME PROPERTIES, INC.
---------------------
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
MARYLAND 16-1455126
-------- ----------
(State of incorporation) (I.R.S. Employer Identification No.)
--------------------------------------------------------------------------------
850 Clinton Square, Rochester, New York 14604
---------------------------------------------
(Address of principal executive offices)(Zip Code)
--------------------------------------------------------------------------------
(585) 546-4900
--------------
(Registrant's telephone number, including area code)
--------------------------------------------------------------------------------
N/A
---
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to the
filing requirements for at least the past 90 days.
Yes X No
----- -----
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes X No
----- -----
Indicate by check mark whether the registrant is a shell company (as
defined in Rule 12b-2 of the Exchange Act).
Yes No X
----- -----
APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY
PROCEEDINGS DURING THE PRECEDING FIVE YEARS
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Sections 12, 13 or 15(d)of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court.
Yes No
----- -----
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
Class of Common Stock Outstanding at October 31, 2005
--------------------- -------------------------------
$.01 par value 31,816,027
================================================================================
HOME PROPERTIES, INC.
TABLE OF CONTENTS
PAGE
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets -
September 30, 2005 (Unaudited) and December 31, 2004 4
Consolidated Statements of Operations (Unaudited) -
Nine months ended September 30, 2005 and 2004 5
Consolidated Statements of Operations (Unaudited) -
Three months ended September 30, 2005 and 2004 6
Consolidated Statements of Comprehensive Income (Unaudited) -
Nine months ended September 30, 2005 and 2004 7
Consolidated Statements of Comprehensive Income (Unaudited) -
Three months ended September 30, 2005 and 2004 8
Consolidated Statements of Cash Flows (Unaudited) -
Nine months ended September 30, 2005 and 2004 9
Notes to Consolidated Financial Statements (Unaudited) 10-22
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 23-37
Item 3. Quantitative and Qualitative Disclosures About Market Risk 38
Item 4. Controls and Procedures 39
PART II. OTHER INFORMATION
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 40
Item 6. Exhibits 40
Signatures 41
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
HOME PROPERTIES, INC.
CONSOLIDATED BALANCE SHEETS
SEPTEMBER 30, 2005 AND DECEMBER 31, 2004
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
2005 2004
---- ----
(Unaudited) (Note 1)
ASSETS
Real estate:
Land 416,538 $ 402,620
Construction in progress 1,738 1,627
Buildings, improvements and equipment 2,817,939 2,640,943
Real estate held for sale or disposal, net 21,173 78,711
---------- ----------
3,257,388 3,123,901
Less: accumulated depreciation (478,645) (405,919)
---------- ----------
Real estate, net 2,778,743 2,717,982
Cash and cash equivalents 5,264 7,925
Cash in escrows 37,587 43,883
Accounts receivable 6,009 6,664
Prepaid expenses 21,550 18,224
Deferred charges 11,060 13,778
Other assets 8,591 8,340
---------- ----------
Total assets $2,868,804 $2,816,796
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Mortgage notes payable $1,768,554 $1,644,722
Line of credit 94,000 58,000
Accounts payable 18,718 24,600
Accrued interest payable 8,738 8,876
Accrued expenses and other liabilities 22,830 26,750
Security deposits 23,447 22,651
---------- ----------
Total liabilities 1,936,287 1,785,599
---------- ----------
Commitments and contingencies
Minority interest 287,170 310,775
---------- ----------
Stockholders' equity:
Cumulative redeemable preferred stock, $.01 par value; 2,400,000 shares
issued and outstanding at September 30, 2005 and December 31, 2004 60,000 60,000
Convertible cumulative preferred stock, $.01 par value; 10,000,000 shares
authorized; 250,000 shares issued and outstanding at December 31, 2004 - 25,000
Common stock, $.01 par value; 80,000,000 shares authorized; 32,391,306 and
32,625,413 shares issued and outstanding at September 30, 2005 and
December 31, 2004, respectively 324 326
Excess stock, $.01 par value; 10,000,000 shares authorized; no shares
issued or outstanding - -
Additional paid-in capital 795,522 807,212
Accumulated other comprehensive income (loss) 126 (362)
Distributions in excess of accumulated earnings (210,625) (171,754)
---------- ----------
Total stockholders' equity 645,347 720,422
---------- ----------
Total liabilities and stockholders' equity $2,868,804 $2,816,796
========== ==========
The accompanying notes are an integral part of these consolidated financial
statements.
HOME PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2005 AND 2004
(UNAUDITED, IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
2005 2004
---- ----
Revenues:
Rental income $345,149 $323,922
Property other income 18,871 15,357
Interest income 233 449
Other income 1,503 1,968
-------- --------
Total revenues 365,756 341,696
-------- --------
Expenses:
Operating and maintenance 165,065 152,267
General and administrative 14,443 14,496
Interest 77,175 66,615
Depreciation and amortization 74,263 66,073
Impairment of assets held as general partner - 1,116
-------- --------
Total expenses 330,946 300,567
-------- --------
Income from operations 34,810 41,129
Equity in losses of unconsolidated affiliates - (538)
-------- --------
Income before minority interest and discontinued operations 34,810 40,591
Minority interest (9,842) (11,240)
-------- --------
Income from continuing operations 24,968 29,351
-------- --------
Discontinued operations:
Loss from operations, net of ($2,379) in 2005 and ($201) in 2004 allocated
to minority interest (4,808) (614)
Gain (loss) on disposition of property, net of $3,041 in 2005 and ($2,949)
in 2004 allocated to minority interest 6,290 (6,305)
-------- --------
Discontinued operations 1,482 (6,919)
-------- --------
Income before loss on disposition of property and business and
cumulative effect of change in accounting principle 26,450 22,432
Loss on disposition of property and business, net of ($33) in 2004 allocated
to minority interest - (67)
-------- --------
Income before cumulative effect of change in accounting principle 26,450 22,365
Cumulative effect of change in accounting principle, net of ($159) in 2004
allocated to minority interest - (321)
-------- --------
Net income 26,450 22,044
Preferred dividends (4,929) (5,695)
-------- --------
Net income available to common shareholders $ 21,521 $ 16,349
======== ========
Basic earnings per share data:
Income from continuing operations $ .62 $ .72
Discontinued operations .05 ( .21)
Cumulative effect of change in accounting principle - ( .01)
------ ------
Net income available to common shareholders $ .67 $ .50
====== ======
Diluted earnings per share data:
Income from continuing operations $ .62 $ .71
Discontinued operations .04 ( .21)
Cumulative effect of change in accounting principle - ( .01)
------ ------
Net income available to common shareholders $ .66 $ .49
====== ======
Weighted average number of shares outstanding:
Basic 32,072,307 32,840,672
========== ==========
Diluted 32,481,218 33,280,680
========== ==========
The accompanying notes are an integral part of these consolidated financial
statements.
HOME PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2005 AND 2004
(UNAUDITED, IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
2005 2004
---- ----
Revenues:
Rental income $117,581 $110,731
Property other income 7,626 5,484
Interest and dividend income 92 150
Other income 476 805
-------- --------
Total revenues 125,775 117,170
-------- --------
Expenses:
Operating and maintenance 54,161 50,102
General and administrative 4,894 4,879
Interest 27,059 23,016
Depreciation and amortization 25,639 22,999
-------- --------
Total expenses 111,753 100,996
-------- --------
Income from operations 14,022 16,174
Equity in earnings (losses) of unconsolidated affiliates - 25
-------- --------
Income before minority interest and discontinued operations 14,022 16,199
Minority interest in operating partnership (4,133) (4,562)
-------- --------
Income from continuing operations 9,889 11,637
-------- --------
Discontinued operations:
Income from operations, net of $216 in 2005 and $49 in 2004
allocated to minority interest 447 104
Gain (loss) on disposition of property, net of $3,081 in 2005 and ($3,195)
in 2004 allocated to minority interest 6,367 (6,816)
-------- --------
Discontinued operations 6,814 (6,712)
-------- --------
Net income 16,703 4,925
Preferred dividends (1,350) (1,898)
-------- --------
Net income available to common shareholders $ 15,353 $ 3,027
======== ========
Basic earnings per share data:
Income from continuing operations $ .26 $ .29
Discontinued operations .21 ( .20)
------ ------
Net income available to common shareholders $ .47 $ .09
====== ======
Diluted earnings per share data:
Income from continuing operations $ .26 $ .29
Discontinued operations .21 ( .20)
------ ------
Net income available to common shareholders $ .47 $ .09
====== ======
Weighted average number of shares outstanding:
Basic 32,518,949 33,293,905
========== ==========
Diluted 32,950,121 33,737,974
========== ==========
The accompanying notes are an integral part of these consolidated financial
statements.
HOME PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2005 AND 2004
(UNAUDITED, IN THOUSANDS)
2005 2004
---- ----
Net income $26,450 $22,044
Other comprehensive income (net of minority interest):
Change in fair value of hedge instruments 488 (2)
------- -------
Comprehensive income $26,938 $22,042
======= =======
The accompanying notes are an integral part of these consolidated financial
statements.
HOME PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2005 AND 2004
(UNAUDITED, IN THOUSANDS)
2005 2004
---- ----
Net income $16,703 $4,925
Other comprehensive income (net of minority interest):
Change in fair value of hedge instruments 216 (225)
------- ------
Comprehensive income $16,919 $4,700
======= ======
The accompanying notes are an integral part of these consolidated financial
statements.
HOME PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2005 AND 2004
(UNAUDITED, IN THOUSANDS)
2005 2004
---- ----
Cash flows from operating activities:
Net income $ 26,450 $ 22,044
-------- --------
Adjustments to reconcile net income to net cash provided by operating activities:
Equity in losses of unconsolidated affiliates - 538
Income allocated to minority interest 10,504 7,898
Depreciation and amortization 75,781 72,524
Impairment of assets held as General Partner 400 1,116
Impairment of real property 7,325 1,100
Gain on disposition of property and business (10,302) (562)
Loss from early extinguishment of debt - 102
Issuance of restricted stock, compensation cost of stock options and deferred
compensation 1,982 1,908
Cumulative effect of change in accounting principle - 480
Changes in assets and liabilities:
Other assets (3,003) 2,628
Accounts payable and accrued liabilities (8,518) 15,592
-------- --------
Total adjustments 74,169 103,324
-------- --------
Net cash provided by operating activities 100,619 125,368
-------- --------
Cash flows from investing activities:
Purchase of properties and other assets, net of mortgage notes assumed and UPREIT Units
issued (99,139) (153,535)
Additions to properties (72,980) (74,138)
Proceeds from sale of properties and business, net 5,574 24,927
Proceeds from sale of affordable properties, net - 1,387
Advances to affiliates - (820)
Payments on advances to affiliates - 149
-------- --------
Net cash used in investing activities (166,545) (202,030)
-------- --------
Cash flows from financing activities:
Proceeds from sale of common stock, net 6,117 28,341
Repurchase of common stock (61,330) (2,189)
Proceeds from mortgage notes payable 237,952 126,674
Payments of mortgage notes payable (61,209) (45,251)
Payment of prepayment penalty in connection with the early extinguishment of debt - (102)
Proceeds from line of credit 258,200 201,500
Payments on line of credit (222,200) (131,000)
Payments of deferred loan costs (2,530) (1,914)
Withdrawals from (additions to) cash escrows, net 2,634 (1,371)
Repayment of officer loans - 237
Dividends and distributions paid (94,369) (95,949)
-------- --------
Net cash provided by financing activities 63,265 78,976
-------- --------
Net (decrease) increase in cash and cash equivalents (2,661) 2,314
Cash and cash equivalents:
Beginning of year 7,925 5,103
Cash assumed in connection with FIN 46R consolidation
- 850
-------- --------
End of year $ 5,264 $ 8,267
========= =========
Supplemental disclosure of non-cash operating, investing and financing activities:
----------------------------------------------------------------------------------
Mortgage loans assumed associated with property acquisitions $ 7,916 $ 90,569
Exchange of UPREIT Units/partnership interest for common shares 3,442 14,015
Fair value of hedge instruments (67) 1,012
Issuance of UPREIT Units associated with property and other acquisitions 12,611 12,105
Increase in real estate associated with the purchase of UPREIT Units 2,856 12,470
Compensation cost of stock options issued 646 684
Net real estate disposed in connection with FIN 46R consolidation (50,467) (69,743)
Other assets disposed in connection with FIN 46R consolidation (6,940) (3,054)
Mortgage debt disposed in connection with FIN 46R consolidation (59,339) (48,611)
Other liabilities disposed in connection with FIN 46R consolidation (1,187) (2,759)
Net real estate assumed in connection with FIN 46R consolidation - 152,319
Other assets assumed in connection with FIN 46R consolidation - 11,916
Mortgage debt assumed in connection with FIN 46R consolidation - 129,149
Other liabilities assumed in connection with FIN 46R consolidation - 5,363
The accompanying notes are an integral part of these consolidated financial
statements.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
1. Unaudited Interim Financial Statements
-- --------------------------------------
The interim consolidated financial statements of Home Properties, Inc. (the
"Company") have been prepared in accordance with accounting principles generally
accepted in the United States of America for interim financial information and
the applicable rules and regulations of the Securities and Exchange Commission.
Accordingly, certain disclosures that would accompany annual financial
statements prepared in accordance with accounting principles generally accepted
in the United States of America are omitted. The year-end balance sheet data was
derived from audited financial statements, but does not include all disclosures
required by accounting principles generally accepted in the United States of
America. In the opinion of management, all adjustments, consisting solely of
normal recurring adjustments, necessary for the fair presentation of the
consolidated financial statements for the interim periods have been included.
The current period's results of operations are not necessarily indicative of
results which ultimately may be achieved for the year. The interim consolidated
financial statements and notes thereto should be read in conjunction with the
consolidated financial statements and notes thereto included in the Company's
Form 10-K for the year ended December 31, 2004.
2. Organization and Basis of Presentation
-- --------------------------------------
Organization
------------
The Company is engaged primarily in the ownership, management, acquisition, and
rehabilitation of residential apartment communities in the Northeastern,
Mid-Atlantic, Midwestern and Southeast Florida regions of the United States. As
of September 30, 2005, the Company operated 159 apartment communities with
46,316 apartment units. Of this total, the Company owned 154 communities,
consisting of 42,747 apartment units ("Owned Communities"), managed as general
partner 868 apartment units and fee managed 2,701 apartments for affiliates and
third parties.
Basis of Presentation
---------------------
The accompanying consolidated financial statements include the accounts of the
Company and its 67.4% (68.3% at September 30, 2004) partnership interest in Home
Properties, L.P. (the "Operating Partnership"). Such interest has been
calculated as the percentage of outstanding common shares divided by the total
outstanding common shares and Operating Partnership Units ("UPREIT Units")
outstanding. The remaining 32.6% (31.7% at September 30, 2004) is reflected as
Minority Interest in these consolidated financial statements. The Company owns a
1.0% general partner interest in the Operating Partnership and the remainder as
a limited partner through its wholly owned subsidiary, Home Properties I, LLC,
which owns 100% of the limited partner, Home Properties Trust. Home Properties
Trust was formed in September 1997 as a Maryland real estate trust and as a
qualified REIT subsidiary ("QRS") and owns the Company's share of the limited
partner interests in the Operating Partnership. For financing purposes, the
Company has formed a limited liability company (the "LLC") and a partnership
(the "Financing Partnership"), which beneficially own certain apartment
communities encumbered by mortgage indebtedness. The LLC is wholly owned by the
Operating Partnership. The Financing Partnership is owned 99.9% by the Operating
Partnership and 0.1% by the QRS.
The accompanying consolidated financial statements include the accounts of two
wholly owned subsidiaries, Home Properties Management, Inc. and Home Properties
Resident Services, Inc. (the "Management Companies"). All significant
inter-company balances and transactions have been eliminated in these
consolidated financial statements.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
2. Organization and Basis of Presentation (continued)
-- --------------------------------------------------
Through March 30, 2004, the Company accounted for its investment as managing
general partner ("GP") in unconsolidated affordable housing limited partnerships
("LP") using the equity method of accounting. Effective March 31, 2004, the
Company adopted FASB Interpretation No. 46R, Consolidation of Variable Interest
Entities ("FIN 46R"). This interpretation addresses consolidation by business
enterprises of variable interest entities in which the equity investment at risk
is not sufficient to permit the entity to finance its activities without
additional subordinated financial support from other parties or in which the
equity investors do not have the characteristics of a controlling financial
interest. This interpretation requires a variable interest entity to be
consolidated by a company if that company is subject to a majority of the risk
of loss from the variable interest entity's activities or entitled to receive a
majority of the entity's residual returns or both. The interpretation also
requires disclosures about variable interest entities that the company is not
required to consolidate but in which it has a significant variable interest.
As of March 31, 2004, the Company was the general partner in 41 limited
partnerships in Upstate New York, Pennsylvania, Ohio and Maryland. The Company
had made a determination that all 41 limited partnerships were Variable Interest
Entities ("VIEs"). The Company had further determined that it was the primary
beneficiary in 34 of the VIEs and therefore consolidated these entities
effective March 31, 2004. Beginning with the second quarter of 2004, the Company
consolidated the results of operations of the VIEs. During 2004 and 2005, the
Company sold most of these consolidated VIEs with only one partnership remaining
as of September 30, 2005. The results of operations for the VIEs owned during
the three- and nine-month periods ending September 30, 2005 are included in
discontinued operations. The one remaining property is classified as held for
sale. As of September 30, 2005, the Company intends to sell the property.
As of March 31, 2004, the Company determined that it was not the primary
beneficiary in seven partnerships syndicated under U.S. Department of Housing
and Urban Development subsidy programs, none of which remained as of September
30, 2005. These investments were accounted for under the equity method through
their sale. The Company recorded its allocable share of the respective
partnership's income or loss based on the terms of the agreements. To the extent
it was determined that the LPs could not absorb their share of the losses, if
any, the GP recorded the LPs share of such losses. The Company absorbed
such losses to the extent the Company had outstanding loans or advances and the
limited partner had no remaining capital account. All seven partnerships have
been sold as of September 30, 2005.
Reclassifications
-----------------
Certain reclassifications have been made to the 2004 consolidated financial
statements to conform to the 2005 presentation.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
3. Adoption of New Accounting Policies
-- -----------------------------------
In December 2004, the FASB issued Statement of Financial Accounting Standards
No. 123R Share Based Payment ("SFAS No. 123R"). The statement is a revision of
SFAS No. 123 Accounting for Stock-Based Compensation. SFAS No 123R supersedes
APB Opinion No. 25 Accounting for Stock Issued to Employees and its related
implementation guidance. SFAS 123R requires that entities recognize the cost of
employee services received in exchange for awards of equity instruments (i.e.,
stock options) based on the grant-date fair value of those awards. The Statement
is effective for the first fiscal year beginning after June 15, 2005. On January
1, 2003, the Company adopted the provisions of SFAS No. 148 Accounting for
Stock-Based Compensation - Transition and Disclosure, an Amendment to SFAS No.
123. Effective on that date, the Company began recognizing compensation cost
related to stock option grants. Based upon the Company's adoption of SFAS No.
148, the Company does not expect the application of SFAS No. 123R beginning
January 1, 2006 to have a material impact on the Company's results of
operations, financial position or liquidity.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
4. Earnings Per Common Share
-- -------------------------
Basic earnings per share ("EPS") is computed as net income available to common
shareholders divided by the weighted average number of common shares outstanding
for the period. Diluted EPS reflects the potential dilution that could occur
from common shares issuable through stock-based compensation including stock
options, restricted stock, phantom shares under the Company's incentive
compensation plan, warrants and the conversion of any cumulative convertible
preferred stock. The exchange of an UPREIT Unit for common stock will have no
effect on diluted EPS as Unitholders and stockholders effectively share equally
in the net income of the Operating Partnership. Income from continuing
operations is the same for both the basic and diluted calculation.
The reconciliation of the basic and diluted earnings per share for the nine and
three months ended September 30, 2005 and 2004 is as follows:
Nine Months Three Months
----------- ------------
2005 2004 2005 2004
---- ---- ---- ----
Income from continuing operations $24,968 $29,351 $9,889 $11,637
Add: Loss on disposal of property - (67) - -
Less: Preferred dividends (4,929) (5,695) (1,350) (1,898)
------- ------- ------- ------
Basic and Diluted - Income from continuing operations
applicable to common shareholders 20,039 23,589 8,539 9,739
Less: Cumulative effect of change in accounting
principle - (321) - -
Discontinued operations 1,482 (6,919) 6,814 (6,712)
------- ------- ------- ------
Net income available to common shareholders $21,521 $16,349 $15,353 $3,027
======= ======= ======= ======
Basic weighted average number of shares outstanding 32,072,307 32,840,672 32,518,949 33,293,905
Effect of dilutive stock options 351,765 360,045 381,652 371,308
Effect of restricted shares 57,146 79,963 49,520 72,761
---------- ---------- ---------- ----------
Diluted weighted average number of shares
outstanding 32,481,218 33,280,680 32,950,121 33,737,974
========== ========== ========== ==========
Basic earnings per share
Income from continuing operations $.62 $.72 $.26 $.29
Discontinued operations .05 (.21) .21 (.20)
Cumulative effect of change in accounting
principle - (.01) - -
---- ---- ---- ----
Net Income available to common shareholders $.67 $.50 $.47 $.09
==== ==== ==== ====
Diluted earnings per share
Income from continuing operations $.62 $.71 $.26 $.29
Discontinued operations .04 (.21) .21 (.20)
Cumulative effect of change in accounting
principle - (.01) - -
---- ---- ---- ----
Net Income available to common shareholders $.66 $.49 $.47 $.09
==== ==== ==== ====
Unexercised stock options to purchase 542,800 shares of the Company's common
stock for the nine-month period ended September 30, 2005 were not included in
the computation of diluted EPS because the options' exercise prices were greater
than the average market price of the Company's stock during this period. For the
three-month period ended September 30, 2005 and the nine- and three-month
periods ended September 30, 2004, no unexercised stock options to purchase
shares of the Company's common stock were excluded in the computations of
diluted EPS as the options' exercise prices were less than the average market
price of the Company's stock during each period.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
4. Earnings Per Common Share (continued)
-- -------------------------------------
For the nine-month period ended September 30, 2005 and the nine- and three-month
periods ended September 30, 2004 the 833,333 common stock equivalents on an
as-converted basis of the Series D Convertible Cumulative Preferred Stock have
an antidilutive effect and are not included in the computation of diluted EPS to
the extent they were not converted. On May 26, 2005, the Series D Convertible
Cumulative Preferred Stock were converted and the common shares issued upon such
conversion were included in outstanding common shares from the date of
conversion.
5. Other income
-- ------------
Other income for the nine- and three-month periods ended September 30, 2005 and
2004 includes management and other real-estate service fees.
6. Variable interest entities
-- --------------------------
Effective March 31, 2004, the Company adopted FASB Interpretation No. 46R -
Consolidation of Variable Interest Entities, an interpretation of ARB No. 51 -
Consolidated Financial Statements. The interpretation addresses consolidation by
businesses of special purpose entities (variable interest entities, "VIE"). The
Company had made a determination that all 41 of the remaining limited
partnerships as of that date were VIEs.
The Company determined that it was not the primary beneficiary in seven
partnerships syndicated under U.S. Department of Housing and Urban Development
subsidy programs, all of which have been sold as of September 30, 2005. The
Company purchased the general partnership interests in these partnerships in
January, 1996. These partnerships were set up to provide low income housing to
residents through subsidized rents and below market debt governed by HUD. The
Company as general partner and managing agent managed the day-to-day operations
of the partnerships for a fee (5% of rents collected). The Company's economic
benefit from these partnerships was the management fee. There was no exposure to
the Company of loss as a result of its involvement with these partnerships. No
management fees were recognized on these partnerships during the three- and
nine-month periods ended September 30, 2005. The management fees earned on these
partnerships were $45 and $118 for the three- and nine-month periods ended
September 30, 2004. The assets and liabilities of the seven partnerships totaled
$8,300 and $14,100 at September 30, 2004, respectively.
The Company had further determined that it was the primary beneficiary in 34 of
the VIEs and therefore consolidated these entities effective March 31, 2004.
Beginning with the second quarter of 2004, the Company consolidated the results
of operations of the VIEs. The results of operations of three of the original 34
VIEs for the three- and nine-month periods ending September 30, 2005 are
included in discontinued operations as all of the VIEs are held for sale as
described below.
The Company was the general partner in these 34 VIEs syndicated using low income
housing tax credits under Section 42 of the Internal Revenue Code. As general
partner, the Company managed the day-to-day operations of these partnerships for
a management fee. In addition, the Company has certain operating deficit
guarantees and tax credit guarantees to its limited partners (as discussed in
Note 11). The Company is responsible to fund operating deficits to the extent
there are any and can receive operating incentive awards when cash flows reach
certain levels. The effect on the consolidated balance sheet as of September 30,
2005 is an increase in "Total assets" of $21,900, an increase in "Total
liabilities" of $17,900, and an increase in "Minority interest" of $3,900. Of
the $17,900 increase in "Total liabilities," $17,000 represents non-recourse
mortgage debt. In connection with the adoption of FIN 46R, the Company recorded
a $321 charge, net of minority interest, for a cumulative effect of a change in
accounting principle during the first quarter of 2004. This charge was a result
of the negative capital accounts of minority interest partners that was absorbed
by the Company.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
6. Variable interest entities (continued)
-- --------------------------------------
During the first quarter of 2004, the Company recorded an impairment charge of
$1,600 to reduce the value of the assets associated with the VIEs to
management's estimate of fair market value. The impairment charge is classified
in the financial statements as "Impairment of assets held as general partner" of
$1,116 and "Equity in earnings (losses) of unconsolidated affiliates" of $484. A
portion of the total $1,116 charge, or $171, represents monies loaned to certain
affordable properties during the first quarter of 2004 to fund operating
shortfalls, which were not anticipated to be recovered from projected sale
proceeds. The remaining balance of $945 pertains to an additional net impairment
charge taken to reduce the assets to estimated fair market value. Of the total
impairment charge recorded of $1,600 for the three-month period ended March 31,
2004, $655 related to cash advances to fund operating shortfalls.
In addition, on September 30, 2005, two VIEs were disposed of through a transfer
of deed in lieu of foreclosure. The Company had repurchased the limited
partner's interests in satisfaction of any tax credit guarantees or other
obligations to that partner in January, 2005 for $5,700. In connection with the
Company's decision to dispose of the property, the Company performed a valuation
analysis on the underlying real estate, and as a result, recorded a $7,300
impairment of real estate during the first quarter of 2005 to adjust the net
book value of the property to the Company's estimate of fair market value. The
mortgage note was sold in March, 2005. Finally, on September, 30, 2005, the deed
was transferred to the mortgage holder in lieu of foreclosure resulting in a
gain on sale of real estate of $7,700.
Effective September 30, 2005, the Company has closed on the sale of all but one
of the 41 VIEs. The Company is actively seeking buyers for the one remaining
VIE. The Company performed a valuation analysis on the underlying real estate of
the one remaining VIE, and as a result, recorded an impairment charge of $400
for the three month period ended March 31, 2005 to adjust the net book value of
the property to the Company's estimate of fair market value.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
7. Segment Reporting
-- -----------------
The Company is engaged in the ownership and management of primarily market rate
apartment communities. Each apartment community is considered a separate
operating segment. Each segment on a stand alone basis is less than 10% of the
revenues, profit or loss, and assets of the combined reported operating segments
and meets the majority of the aggregation criteria under SFAS No. 131. The
operating segments are aggregated and segregated as Core and Non-core
properties.
Non-segment revenue to reconcile to total revenue consists of interest and
dividend income and other income. Non-segment assets to reconcile to total
assets include cash and cash equivalents, cash in escrows, accounts receivable,
prepaid expenses, investments in and advances to affiliates, deferred charges
and other assets.
Core properties consist of all apartment communities which have been owned more
than one full calendar year. Therefore, the Core Properties represent
communities owned as of January 1, 2004. Non-core properties consist of
apartment communities acquired during 2004 and 2005, such that full year
comparable operating results are not available.
The accounting policies of the segments are the same as those described in Notes
1 and 2 of the Company's Form 10-K for the year ended December 31, 2004.
The Company assesses and measures segment operating results based on a
performance measure referred to as Funds from Operations ("FFO"). FFO is defined
as net income (computed in accordance with GAAP) excluding gains or losses from
the sales of property and business or non-cash real estate impairment charge,
minority interest in the Operating Partnership, extraordinary items, plus real
estate depreciation, less dividends from non-convertible preferred shares. FFO
is not a measure of operating results or cash flows from operating activities as
measured by generally accepted accounting principles and it is not indicative of
cash available to fund cash needs and should not be considered an alternative to
cash flows as a measure of liquidity. Other companies may calculate similarly
titled performance measures in a different manner.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
7. Segment Reporting (continued)
-- -----------------------------
The revenues, profit (loss), and assets for each of the reportable segments are
summarized as of and for the nine- and three-month periods ended September 30,
2005, and 2004 as follows:
Nine Months Three Months
----------- ------------
2005 2004 2005 2004
---- ---- ---- ----
Revenues
--------
Apartments owned
Core properties $335,500 $327,284 $114,316 $109,904
Non-core properties 28,520 11,992 10,891 6,311
Reconciling items 1,736 2,420 568 955
-------- -------- -------- --------
Total Revenue $365,756 $341,696 $125,775 $117,170
======== ======== ======== ========
Profit (loss)
-------------
Funds from operations:
Apartments owned
Core properties $183,141 $179,900 $65,025 $62,339
Non-core properties 15,814 7,109 6,021 3,774
Reconciling items 1,736 2,420 568 955
-------- -------- -------- --------
Segment contribution to FFO 200,691 189,429 71,614 67,068
General and administrative expenses (14,443) (14,496) (4,894) (4,879)
Interest expense (77,175) (66,615) (27,059) (23,016)
Depreciation of unconsolidated affiliates - 556 - -
Non-real estate depreciation/amortization (2,436) (2,606) (841) (928)
FAS 141 acquisition rent / intangibles 605 835 199 325
Equity in earnings (losses) of unconsolidated affiliates - (538) - 25
Impairment of assets held as General Partner - (1,116) - -
Impairment of affordable assets not in FFO - 945 - -
Loss on sale of business - (17) - -
Gain (loss) on disposition of discontinued operations,
before minority interest 7,325 (9,917) 7,325 ( 9,917)
Income (loss) from discontinued operations before
minority interest and depreciation (7,094) 2,449 663 982
Redeemable preferred dividend - Series F (4,050) (4,050) (1,350) (1,350)
-------- -------- -------- --------
Funds from Operations - Diluted 103,423 94,859 45,657 28,310
Depreciation - apartments owned (71,919) (66,731) (24,798) (22,900)
Depreciation of unconsolidated affiliates - (556) - -
FAS 141 acquisition rent/intangibles (605) (835) (199) (325)
Redeemable preferred dividend 4,050 4,050 1,350 1,350
Impairment of affordable assets not in FFO - (945) - -
Loss (income) from discontinued operations before
minority interest and loss on disposition of property 7,186 832 (663) (153)
Gain (loss) on disposition of discontinued operations,
before minority interest (7,325) 9,917 (7,325) 9,917
Minority interest in operating partnership (9,842) (11,240) (4,133) (4,562)
-------- -------- -------- --------
Income from continuing operations $ 24,968 $ 29,351 $ 9,889 $ 11,637
======== ======== ======== ========
Assets - As of September 30, 2005 and December 31, 2004
-------------------------------------------------------
Apartments owned:
- Core $2,362,557 $2,368,691
- Non-core 416,186 349,291
Reconciling items 90,061 98,814
---------- ----------
Total Assets $2,868,804 $2,816,796
========== ==========
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
8. Pro Forma Condensed Financial Information
-- -----------------------------------------
The Company acquired five apartment communities ("2005 Acquired Communities")
with a combined 1,038 apartment units in five unrelated transactions during the
nine-month period ended September 30, 2005. The total combined purchase price
(including closing costs) of $119,900 equates to approximately $115 per unit.
Consideration for the communities was funded through the assumption or placement
of new debt of $51,500, $55,800 from the Company's line of credit and $12,600 of
UPREIT Units.
The following proforma information was prepared as if the 2005 transactions
related to the acquisition of the 2005 Acquired Communities had occurred on
January 1, 2004. The proforma financial information is based upon the historical
consolidated financial statements and is not necessarily indicative of the
consolidated results which actually would have occurred if the transactions had
been consummated on January 1, 2004, nor does it purport to represent the
results of operations for future periods. Adjustments to the proforma condensed
combined statement of operations for the nine- and three-month periods ended
September 30, 2005 and 2004, consist principally of providing net operating
activity and recording interest, depreciation and amortization from January 1,
2004 to the acquisition date as appropriate.
For the Nine Months For the Three Months
Ended September 30, Ended September 30,
------------------- -------------------
2005 2004 2005 2004
---- ---- ---- ----
Total revenues $370,382 $360,347 $126,204 $121,287
Net income available to common shareholders before
cumulative effect of change in accounting principle 20,316 22,452 8,591 9,859
Net income available to common shareholders 20,316 22,131 8,591 9,859
Per common share data:
Net income available to common shareholders before
cumulative effect of change in accounting principle
Basic $0.63 $0.68 $0.26 $0.30
Diluted $0.63 $0.67 $0.26 $0.29
Net income available to common shareholders
Basic $0.63 $0.67 $0.26 $0.30
Diluted $0.63 $0.66 $0.26 $0.29
Weighted average numbers of shares outstanding:
Basic 32,072,307 32,840,672 32,518,949 33,293,905
Diluted 32,481,218 33,280,680 32,950,121 33,737,974
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
9. Derivative Financial Instruments
-- --------------------------------
The Company enters into financial derivative instruments only for the purpose of
minimizing risk and, thereby, protecting income. Derivative instruments utilized
as part of the Company's risk management strategy may include interest rate
swaps and caps. All derivatives are recognized on the balance sheet at fair
value. The Company does not employ leveraged derivative instruments, nor does it
enter into derivative instruments for trading or speculative purposes.
The Company has four interest rate swaps and one interest rate cap that
effectively convert variable rate debt to fixed rate debt. As of September 30,
2005, the aggregate fair value of the Company's interest rate swaps was $67
prior to the allocation of minority interest and is included in accrued expenses
and other liabilities in the consolidated balance sheets. For the three-and
nine-months ending September 30, 2005, as the critical terms of the interest
rate swaps and the hedged items are the same, no ineffectiveness was recorded in
the consolidated statements of operations. All components of the interest rate
swaps were included in the assessment of hedge effectiveness. The fair value of
the interest rate swaps is based upon the estimate of amounts the Company would
receive or pay to terminate the contract at the reporting date and is estimated
using interest rate market pricing models.
10. Disposition of Property and Discontinued Operations
--- ---------------------------------------------------
In connection with the Company's strategic asset disposition program, management
is constantly reevaluating the performance of its portfolio on a
property-by-property basis. The Company from time to time determines that it is
in the best interest of the Company to dispose of assets that have reached their
potential or are less efficient to operate due to their size or remote location
and reinvest such proceeds in higher performing assets located in targeted
geographic markets. It is possible that the Company will sell such properties
at a loss. In addition, it is possible that for assets held for use, certain
holding period assumptions made by the Company may change which could result in
the Company's recording of an impairment charge.
Included in discontinued operations are the operating results, net of minority
interest, of six apartment community dispositions (one sold in 2005 and five
sold in 2004), for the three- and nine-months ended September 30, 2004. Included
in discontinued operations for the three- and nine-months ended September 30,
2005 is one property sold in 2005. In addition, discontinued operations includes
the operating results, net of minority interest, of three VIEs for the
three-months ended September 30, 2005 and five VIEs for the nine-months ended
September 30, 2005. One remaining VIE is held for sale as of September 30, 2005.
Assets and liabilities for the one VIE of approximately $21,900 and $17,900,
respectively, are included in the Consolidated Balance Sheet and relate
primarily to real estate and mortgage notes, respectively. Included in mortgage
notes payable is approximately $17,000 related to the one VIE. For purposes of
the discontinued operations presentation, the Company only includes interest
expense associated with specific mortgage indebtedness of the properties that
are sold or classified as held for sale.
The operating results of the components of discontinued operations are
summarized as follows:
For the Nine Months For the Three Months
September 30, September 30,
------------- -------------
2005 2004 2005 2004
---- ---- ---- ----
Revenues
Rental income $ 6,618 $22,146 $1,982 $8,763
Property other income 267 1,031 76 608
Other income (loss) (165) (259) (52) (259)
------- ------- ----- -----
Total revenues 6,720 22,918 2,006 9,112
------- ------- ----- -----
Expenses
Operating and maintenance 5,385 13,860 961 5,647
Interest expense 682 5,046 382 2,084
Depreciation and amortization 92 5,151 - 837
Impairment of real property 7,725 1,100 - -
------- ------- ----- -----
Total expenses 13,884 25,157 1,343 8,568
------- ------- ----- -----
Income (loss) from discontinued operations before minority interest
and gain (loss) on disposition of property (7,164) (2,239) 663 544
Minority interest in limited partnership (23) 1,424 - (391)
Minority interest in operating partnership 2,379 201 (216) (49)
------- ------- ----- -----
Income (loss) from discontinued operations $(4,808) $ (614) $ 447 $ 104
======= ======= ===== =====
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
11. Commitments and Contingencies
--- -----------------------------
Contingencies
-------------
The Company is not a party to any legal proceedings which are expected to have a
material adverse effect on the Company's liquidity, financial position or
results of operations. The Company is subject to a variety of legal actions for
personal injury or property damage arising in the ordinary course of its
business, most of which are covered by liability insurance. While the resolution
of these matters cannot be predicted with certainty, management believes that
the final outcome of such legal proceedings and claims will not have a material
adverse effect on the Company's liquidity, financial position or results of
operations.
In 2001, the Company underwent a state capital stock tax audit. The state had
assessed taxes of $469 for the 1998 and 1999 tax years under audit. If the
state's position is applied to all tax years through December 31, 2001, the
assessment would be $1,300. At the time, the Company believed the assessment and
the state's underlying position were neither supportable by the law nor
consistent with previously provided interpretative guidance from the office of
the State Secretary of Revenue. After two subsequent enactments by the state
legislation during 2002 affecting the pertinent tax statute, the Company was
advised by outside tax counsel that its filing position for 1998-2001 should
prevail. During December 2003, the state's governor signed legislation which
included the REIT tax provisions. Based upon this, Company's tax counsel expects
that the outstanding litigation should now be able to be resolved. Effective
January 1, 2003, the Company reorganized the ownership of Home Properties Trust,
which should subject the Company to a much lower level of tax going forward. In
September 2004, the Company settled the 1998 year under audit for a total of
$39, including interest. During the first quarter of 2005, the Company filed a
protest with the Pennsylvania State Commonwealth Court concerning the 1999 tax
year. Settlement discussions have occurred during the third quarter of 2005 for
the open years 1999-2001. Based on these discussions, the Company believes that
the likelihood of settling all three open years has increased, and has accrued
$160.
During April, 2004, the Company finalized negotiations with New York State
settling a sales and use tax audit covering the period June 1, 1999 through May
31, 2002. The total cost to the Company as a result of the audit amounted to
$861. This was included in the first quarter 2004 results and allocated $448 to
expense and $413 capitalized to real estate assets for improvements.
As a result of this audit, during the second quarter of 2004, the Company
examined its sales and use tax compliance in the other states in which the
Company operates. Based upon its internal analysis, the Company estimated its
liability as of June 30, 2004 in those states where it found non-compliance and
recorded at June 30, 2004 a liability of $1,712. This was included in the second
quarter results and allocated $761 to expense and $951 capitalized to real
estate assets for improvements. The liability recorded relates to the period
beginning on the later of: (i) the date the Company first purchased property in
the applicable state; or (ii) January 1, 1997 and ending on June 30, 2004. In
addition, the Company increased the liability for sales tax exposure by $68 for
the six-month period ended December 31, 2004. The Company has filed Voluntary
Disclosure Agreements ("VDAs") with the four states where it had significant
financial exposure. During the first six months of 2005, the Company signed VDAs
with these states which have agreed to limit the VDA filing period back to
January 1, 2001, and has satisfied all financial obligations under the VDAs. For
the three- and six-month periods ended June 30, 2005, the Company has recorded
adjustments to the liability for both the effects of signing the VDAs as well as
for the results of the Company's additional testing for the first six months.
The net impact of these adjustments resulted in a decrease in real estate assets
of $175, interest expense of $115 and operating expenses of $108 for a net
decrease to the accrued liability of $398. During the third quarter of 2005, the
Company finalized negotiations with New York State settling a sales tax audit
covering the period June 1, 2002 through November 30, 2004. The settlement was
not materially different from what had been accrued. The result of the recent
payments on the VDAs and this New York State audit is that the sales tax accrual
which had been over $1,712 (as referenced above) has been reduced to $16 at
September 30, 2005.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
11. Commitments and Contingencies (continued)
--- -----------------------------------------
Guarantees
----------
As of September 30, 2005, the Company, through its general partnership interest
in an affordable property limited partnership, has guaranteed the Low Income
Housing Tax Credits to limited partners totaling approximately $3,000. As of
September 30, 2005, there were no known conditions that would make such payments
necessary relating to these guarantees. In addition, the Company, acting as
general partner in this partnership, is obligated to advance funds to meet
partnership operating deficits.
12. Related Party Transactions
--- --------------------------
On January 1, 2004, the Company sold certain assets of its commercial property
management division to Home Leasing LLC, which is owned by Nelson and Norman
Leenhouts. This division managed approximately 2.2 million square feet of gross
leasable area, as well as certain planned communities. The initial amount paid
was $82. In addition, the Company is entitled to receive a percentage of the
management fee received by Home Leasing in connection with the management of one
of the commercial properties for a period not to exceed 36 months. The expected
monthly fee as outlined in the contract is approximately $3.4 or $40 per year.
If Home Leasing continues to manage the property for three years, the Company is
expected to receive total additional deferred purchase price of $135. Additional
deferred purchase price of $30 was recognized during the nine months ended
September 30, 2005. The cumulative gain recognized on the sale of these assets
through September 30, 2005 amounted to $54. If the management of this property
is retained for the entire three years the Company expects to receive an
additional $50 for the period October 1, 2005 through January 1, 2007. The gain
on sale would then be approximately $104.
13. Subsequent Events
--- -----------------
On November 4, 2005, the Board of Directors approved a dividend of $.64 per
share for the quarter ended September 30, 2005. This is the equivalent of an
annual distribution of $2.56 per share. The dividend is payable November 25,
2005 to shareholders of record on November 15, 2005.
On November 4, 2005, the Company also declared a regular dividend of $.5625 per
share on its Series F Cumulative Redeemable Preferred Stock, for the quarter
ending November 30, 2005. The dividend on the preferred shares is payable on
November 30, 2005 to shareholders of record on November 15, 2005. This dividend
is equivalent to an annualized rate of $2.25 per share.
During October 2005, the Company repurchased 423,205 shares of common stock. On
November 4, 2005, the Board of Directors increased its authorization by
2,000,000 shares to repurchase its common stock or UPREIT Units in connection
with the Company's stock repurchase program. As of November 4, 2005, the Company
has authorization to repurchase 3,915,195 shares of common stock and UPREIT
Units under the stock repurchase program.
The Company owns two properties in Southeast Florida which sustained damages
from Hurricane Wilma in late October, 2005. The Company is assessing the damage
but does not believe that it will have a material impact on its financial
results. The estimated losses from the hurricane will be reported in the results
of operations in the fourth quarter of 2005.
HOME PROPERTIES, INC.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS
OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
The following discussion should be read in conjunction with the accompanying
consolidated financial statements and notes thereto.
Forward-Looking Statements
--------------------------
This discussion contains forward-looking statements. Although the Company
believes expectations reflected in such forward-looking statements are based on
reasonable assumptions, it can give no assurance that its expectations will be
achieved. Factors that may cause actual results to differ include general
economic and local real estate conditions, the weather and other conditions that
might affect operating expenses, the timely completion of repositioning
activities within anticipated budgets, the actual pace of future acquisitions
and sales, including the sale of the general partner interest in the remaining
affordable property, and continued access to capital to fund growth.
Liquidity and Capital Resources
-------------------------------
The Company's principal liquidity demands are expected to be distributions to
the common and preferred stockholders and UPREIT Unitholders, capital
improvements and repairs and maintenance for the properties, acquisition of
additional properties, property development and debt repayments.
The Company intends to meet its short-term liquidity requirements through net
cash flows provided by operating activities and its unsecured line of credit.
The Company considers its ability to generate cash to be adequate to meet all
operating requirements and make distributions to its stockholders in accordance
with the provisions of the Internal Revenue Code, as amended, applicable to
REITs.
During the third quarter of 2005, the Company's line of credit agreement, which
was maturing, was renegotiated for a new three-year term which expires September
1, 2008. The new facility was increased from $115 million to $140 million and
contains less restrictive covenants as well as a 30 basis point reduction in the
pricing spread over LIBOR. The Company's outstanding balance as of September 30,
2005, was $94 million. Borrowings under the line of credit bear interest at .75%
over the one-month LIBOR rate. Accordingly, increases in interest rates will
increase the Company's interest expense and as a result will affect the
Company's results of operations and financial condition.
On November 23, 2004, the Company signed a supplemental demand note with M and T
Bank. The note had a maximum principal amount of $42 million. The demand note
was entered into to fund the Company's stock repurchase program. In connection
with the increased borrowing capacity of the line of credit, this supplemental
note was terminated during the third quarter of 2005.
To the extent that the Company does not satisfy its long-term liquidity
requirements through net cash flows provided by operating activities and its
credit facility, it intends to satisfy such requirements through additional
long-term secured or unsecured indebtedness, proceeds from the sale of
properties, the issuance of UPREIT Units, proceeds from the Dividend
Reinvestment Plan ("DRIP"), or the issuance of additional equity securities. As
of September 30, 2005, the Company owned 23 properties with 4,323 apartment
units, which were unencumbered by debt.
In May 1998, the Company's Form S-3 Registration Statement was declared
effective relating to the issuance of up to $400 million of common stock,
preferred stock or other securities. The available balance on the shelf
registration statement at September 30, 2005 was $144.4 million.
In June 2000, the Company issued $25 million of Series D Preferred Stock in a
private transaction with The Equitable Life Assurance Society of the United
States. The Series D Preferred Stock carried an annual dividend rate equal to
the greater of 8.775% or the actual dividend paid on the Company's common shares
into which the preferred shares can be converted. The stock had a conversion
price of $30 per share and a five-year, non-call provision. On May 26, 2005, all
250,000 shares of the Series D Preferred Stock were converted into 833,333
shares of common stock. The conversion of preferred shares to common shares did
not have an effect on the reported results of operations.
In March 2002, the Company issued 2,400,000 shares of its 9.00% Series F
Cumulative Redeemable Preferred Stock ("Series F Preferred Shares"), with a
$25.00 liquidation preference per share. This offering generated net proceeds of
approximately $58 million. The net proceeds were used to fund the Series B
preferred stock repurchase, property acquisitions, and property upgrades. The
Series F Preferred Shares are redeemable by the Company at anytime on or after
March 25, 2007 at a redemption price of $25.00 per share, plus any accumulated,
accrued and unpaid dividends. Each Series F Preferred share will receive an
annual dividend equal to 9.00% of the liquidation preference per share
(equivalent to a fixed annual amount of $2.25 per share).
The issuance of UPREIT Units for property acquisitions continues to be a source
of capital for the Company. During the first nine months of 2005, the Company
acquired five communities with 1,038 units for a total purchase price of
$119,900. The Company issued UPREIT Units valued at approximately $12,600 as
part of the consideration for two of the properties, with the balance funded by
the assumption of debt and cash. During 2004, the Company acquired ten
communities with 2,486 units for a total purchase price of $247,500. The Company
issued UPREIT Units valued at approximately $12,100 as part of the consideration
for two of the properties, with the balance funded by the assumption of debt and
cash.
During 2004, $17,600 of common stock (net of $6,000 share repurchase) was issued
under the Company's DRIP. During the first nine months of 2005, the Company's
additional capital raised under the DRIP netted to zero after taking into
account share repurchases used in lieu of new stock issuance.
The DRIP was amended, effective December 10, 2004, in order to reduce
management's perceived dilution from issuing new shares at or below the
underlying net asset value. The discount on reinvested dividends and optional
cash purchases was reduced from 2% to 0%. The maximum monthly investment
(without receiving approval from the Company) is currently $1 thousand. As
expected, these changes significantly reduced participation in the plan.
Management will continue to monitor the relationship between the Company's stock
price and estimated net asset value. In addition, in the fourth quarter of 2004,
the Company began meeting share demand in the program through share repurchase
by the transfer agent in the open market on the Company's behalf instead of new
share issuance. This removes essentially 100% of the dilution caused by issuing
new shares at a price less than the net asset value in an economic and efficient
manner.
On February 16, 2005, the Board of Directors increased its authorization by
2,000,000 shares for the repurchase of its common stock or UPREIT Units in
connection with the Company's stock repurchase program. The shares/units may be
repurchased through open market or privately negotiated transactions at the
discretion of Company management. The Board's action does not establish a target
stock price or a specific timetable for share repurchase. During the nine months
ended September 30, 2005, 1,661,600 shares were repurchased by the Company, with
1,300,700 and 360,900 occurring in the first and third quarters, respectively.
At September 30, 2005 the Company had authorization to repurchase 2,338,400
shares of common stock and UPREIT Units under the stock repurchase program.
During October 2005, the Company repurchased an additional 423,205 shares of
common stock. On November 4, 2005, the Board of Directors increased its
authorization by 2,000,000 shares to repurchase its common stock or UPREIT Units
in connection with the Company's stock repurchase program. As of November 4,
2005, the Company has authorization to repurchase 3,915,195 shares of common
stock and UPREIT Units under the stock repurchase program. The Company will
continue to monitor stock prices, the published net asset value, and acquisition
alternatives to determine the current best use of capital between the two major
uses of capital - stock buyback and acquisitions.
As of September 30, 2005, the weighted average rate of interest on mortgage debt
is 5.9% and the weighted average maturity is approximately seven years.
Approximately 90% of the debt is fixed rate. This limits the exposure to changes
in interest rates, minimizing the effect on results of operations and financial
condition.
Variable Interest Entities
--------------------------
Effective March 31, 2004, the Company adopted FASB Interpretation No. 46R -
Consolidation of Variable Interest Entities, an interpretation of ARB No. 51 -
Consolidated Financial Statements. The interpretation addresses consolidation by
businesses of special purpose entities (variable interest entities, "VIE"). The
Company had made a determination that all 41 of the remaining limited
partnerships as of that date were VIEs.
The Company determined that it was not the primary beneficiary in seven
partnerships syndicated under U.S. Department of Housing and Urban Development
subsidy programs of which all have been sold as of September 30, 2005. The
Company purchased the general partnership interests in these partnerships in
January, 1996. These partnerships were set up to provide low income housing to
residents through subsidized rents and below market debt governed by HUD. The
Company as general partner and managing agent managed the day-to-day operations
of the partnership for a fee (5% of rents collected). The Company's economic
benefit from these partnerships was the management fee. There is no exposure to
the Company of loss as a result of its involvement with these partnerships. No
management fees were recognized on these partnerships during the three- and
nine-month periods ended September 30, 2005. The management fees earned on these
partnerships were $45 and $118 for the three- and nine-month periods ended
September 30, 2004. The assets and liabilities of the seven partnerships totaled
$8,300 and $14,100 at September 30, 2004, respectively.
The Company had further determined that it was the primary beneficiary in 34 of
the VIEs and therefore consolidated these entities effective March 31, 2004.
Beginning with the second quarter of 2004, the Company consolidated the results
of operations of the VIEs. The results of operations of the remaining three of
the original 34 VIEs for the three-month period ending September 30, 2005 are
included in discontinued operations as the VIEs are held for sale as described
below.
The Company was the general partner in these 34 VIEs syndicated using low income
housing tax credits under Section 42 of the Internal Revenue Code. As general
partner, the Company manages the day-to-day operations of these partnerships for
a management fee. In addition, the Company has certain operating deficit
guarantees and tax credit guarantees to its limited partners. The Company is
responsible to fund operating deficits to the extent there are any and can
receive operating incentive awards when cash flows reach certain levels. The
effect on the consolidated balance sheet as of September 30, 2005 is an increase
in "Total assets" of $21,900, an increase in "Total liabilities" of $17,900, and
an increase in "Minority interest" of $3,900. In connection with the adoption of
FIN 46R, the Company recorded a $321 charge, net of minority interest, for a
cumulative effect of a change in accounting principle during the first quarter
of 2004. This charge was a result of the negative capital accounts of minority
interest partners that were absorbed by the Company. Of the $17,900 increase in
total liabilities, $17,000 represent non-recourse mortgage debt.
Effective September 30, 2005, the Company has closed on the sale of all but one
of the 41 VIEs. The Company is actively seeking buyers for the one remaining
VIE. The Company performed a valuation analysis on the underlying real estate of
the one remaining VIE, and as a result, recorded an impairment charge of $400
for the three month period ended March 31, 2005 to adjust the net book value of
the property to the Company's estimate of fair market value.
In addition, on September 30, 2005 two other VIEs were disposed of through a
transfer of deed in lieu of foreclosure. The Company had repurchased the limited
partner's interests in satisfaction of any tax credit guarantees or other
obligations to that partner in January, 2005 for $5,700. In connection with the
Company's decision to dispose of the property, the Company performed a valuation
analysis on the underlying real estate, and as a result, recorded a $7,300
impairment of real estate during the first quarter of 2005 to adjust the net
book value of the property to the Company's estimate of fair market value. The
mortgage note was sold in March, 2005. Finally, on September, 30, 2005, the deed
was transferred to the mortgage holder in lieu of foreclosure resulting in a
gain on sale of real estate of $7,700.
During the first quarter of 2004, the Company recorded an impairment charge of
$1,600 to reduce the value of the assets associated with the VIEs to
management's estimate of fair market value. The impairment charge is classified
in the financial statements as "Impairment of assets held as general partner" of
$1,116 and "Equity in earnings (losses) of unconsolidated affiliates" of $484. A
portion of the total $1,116 charge, or $171, represents monies loaned to certain
affordable properties during the first quarter of 2004 to fund operating
shortfalls, which were not anticipated to be recovered from projected sale
proceeds. The remaining balance of $945 pertains to an additional net impairment
charge taken to reduce the assets to estimated fair market value. Of the total
impairment charge recorded of $1,600 for the three-month period ended March 31,
2004, $655 related to cash advances to fund operating shortfalls.
The Company, through its general partnership interest in an affordable property
limited partnership, has guaranteed the low income housing tax credits to the
limited partners for a period of ten years totaling approximately $3,000. Such
guarantee requires the Company to operate the property in compliance with
Internal Revenue Code Section 42 for 15 years. In addition, acting as the
general partner in this one partnership, the Company is obligated to advance
funds to meet partnership operating deficits.
The Company believes the property's operations conform to the applicable
requirements as set forth above. In addition, the Company has required the buyer
of its general partner interests in the limited partnerships to secure releases
of the Company's guarantees from the limited partners.
As indicated above, the Company is working towards a complete disposition of its
general partner interests in affordable properties. The following table
summarizes the effect of the consolidation requirements of FIN 46R on the
balance sheet as of September 30, 2005.
Consolidation Summary of the Balance Sheet as of September 30, 2005
(in thousands)
September 30, September 30,
2005 Effect of FIN 46R 2005
(before FIN 46R) Consolidation (as reported)
---------------- ------------- -------------
ASSETS
Real estate:
Land $ 416,538 $ - $ 416,538
Construction in progress 1,738 - 1,738
Buildings, improvements and equipment 2,817,939 - 2,817,939
Real estate held for sale or disposal, net - 21,173 21,173
---------- --------- ----------
3,236,215 21,173 3,257,388
Less: accumulated depreciation (478,645) - (478,645)
---------- --------- ----------
Real estate, net 2,757,570 21,173 2,778,743
Cash and cash equivalents 5,255 9 5,264
Cash in escrows 36,749 838 37,587
Accounts receivable 5,905 104 6,009
Prepaid expenses 21,437 113 21,550
Investment in and advances to affiliates 651 (651) -
Deferred charges 10,795 265 11,060
Other assets 8,591 - 8,591
---------- --------- ----------
Total assets $2,846,953 $ 21,851 $2,868,804
========== ========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Mortgage notes payable $1,751,511 $ 17,043 $1,768,554
Line of credit 94,000 - 94,000
Accounts payable 18,325 393 18,718
Accrued interest payable 8,649 89 8,738
Accrued expenses and other liabilities 22,521 309 22,830
Security deposits 23,349 98 23,447
---------- --------- ----------
Total liabilities 1,918,355 17,932 1,936,287
---------- --------- ----------
Minority interest 283,251 3,919 287,170
---------- --------- ----------
Stockholders' equity 645,347 - 645,347
---------- --------- ----------
Total liabilities and stockholders' equity $2,846,953 $ 21,851 $2,868,804
========== ========== ==========
Acquisitions and Dispositions
-----------------------------
During the first nine months of 2005, the Company acquired five apartment
communities in five unrelated transactions. The acquisitions consisted of one
apartment community in Maryland with a total of 204 units, two apartment
communities in New Jersey with a combined 346 units, one apartment community in
Long Island, NY with a total of 342 units, and one apartment community in
Pennsylvania with a total of 146 units. The total combined purchase price
(including closing costs) of $119,900 equates to approximately $115 per unit.
Consideration for the communities was funded through the assumption or placement
of new debt of $51,500, $55,800 from the Company's line of credit and $12,400 of
UPREIT Units (fair market value of $12,600). The UPREIT Units are exchangeable
for shares of the Company's common stock on a one-for-one basis. For the two
acquisitions involving the issuance of UPREIT units, values of $41.25 and $39.25
per unit were used for the purpose of determining the number of UPREIT Units
issued in each acquisition. Both per unit values were set based upon equivalent
share price when the transactions were negotiated. The combined weighted average
expected first year capitalization rate on these acquisitions is 5.8%.
Capitalization rate ("cap rate") is defined as the rate of interest used to
convert the first year expected net operating income ("NOI") less a 3.0%
management fee into a single present value. NOI is defined by the Company as
rental income and property other income less operating and maintenance expenses.
Management generally considers NOI to be an appropriate measure of operating
performance because it helps investors to understand the operations of a
community. In addition, the apartment communities are valued and sold in the
market by using a multiple of NOI.
On July 8, 2005, the Company sold a 110-unit property in Philadelphia,
Pennsylvania for $5,900. A gain on sale of approximately $1,800 (before
allocation of minority interest) was recorded in the third quarter of 2005
related to this sale. The weighted average first year capitalization rate
projected on this disposition is 6.97%.
Contractual Obligations and Other Commitments
---------------------------------------------
The primary obligations of the Company relate to its borrowings under the line
of credit and mortgage notes payable. The Company's line of credit matures in
September 2008 and had $94 million outstanding at September 30, 2005. The $1.8
billion in mortgage notes payable have varying maturities ranging from 1 to 36
years. The weighted average interest rate of the Company's fixed rate notes was
6.11% and 6.23% at September 30, 2005 and December 31, 2004, respectively. The
weighted average interest rate of the Company's variable rate notes and credit
facility was 4.53% and 2.98% at September 30, 2005 and December 31, 2004,
respectively.
The Company has a non-cancelable operating ground lease for one of its
properties. The lease expires May 1, 2020, with options to extend the term of
the lease for two successive terms of twenty-five years each. The lease provides
for contingent rental payments based on certain variable factors. At September
30, 2005, future minimum rental payments required under the lease are $70 per
year until the lease expires.
The Company leases its corporate office space from an entity affiliated with
Nelson and Norman Leenhouts, both co-founders and directors of the Company, and
the office space for its regional offices from third parties. The corporate
office space requires an annual base rent plus a pro-rata portion of property
improvements, real estate taxes, and common area maintenance. The regional
office leases require an annual base rent plus a pro-rata portion of real estate
taxes.
On December 1, 2004, the Company entered into a lease agreement with a third
party owner to manage the operations of one of its communities. The lease has a
term of five years, but after two years, (from the 24th month to the 36th month)
the owner may require the Company to buy the property. From the 36th month to
the end of the lease term, the Company has the right to require the owner to
sell the property to the Company. It is the Company's expectation that closing
on the acquisition of the property will occur no later than 36 months after the
commencement of the lease. The estimated future acquisition cost is $140
million.
As discussed in the section entitled "Variable Interest Entities," the Company,
through its general partnership interest in an affordable property limited
partnership, has guaranteed the Low Income Housing Tax Credits to limited
partners totaling approximately $3,000. With respect to the guarantee of the low
income housing tax credits, the Company believes the property's operations
conform to the applicable requirements (as set forth above in the seventh
paragraph of the "Variable Interest Entities" section) and does not anticipate
any payment on the guarantees. In addition, the Company, acting as general
partner in this partnership, is obligated to advance funds to meet partnership
operating deficits. The Company has required the buyers of its general partner
interests in the limited partnerships to secure releases of the Company's
guarantees from the limited partner and/or to indemnify the Company against
payment on those guarantees.
Capital Improvements
--------------------
The Company's policy is to capitalize costs related to the acquisition,
development, rehabilitation, construction and improvement of properties. Capital
improvements are costs that increase the value and extend the useful life of an
asset. Ordinary repair and maintenance costs that do not extend the useful life
of the asset are expensed as incurred. Costs incurred on a lease turnover due to
normal wear and tear by the resident are expensed on the turn. Recurring capital
improvements typically include: appliances, carpeting and flooring, HVAC
equipment, kitchen/ bath cabinets, new roofs, site improvements and various
exterior building improvements. Non-recurring, revenue generating capital
improvements include, among other items: community centers, new windows, and
kitchen/ bath apartment upgrades. Revenue generating capital improvements will
directly result in rental earnings or expense savings. The Company capitalizes
interest and certain internal personnel costs related to the communities under
rehabilitation and construction.
The Company estimates that on an annual basis $525 per unit is spent on
recurring capital expenditures. During the three-and nine-month periods ended
September 30, 2005 approximately $131 and $394 per unit was estimated to be
spent on recurring capital expenditures. The table below summarizes the actual
total capital improvements, (excludes assets held for sale) incurred by major
categories for the three-and nine-month periods ended September 30, 2005 and
2004 and an estimate of the breakdown of total capital improvements by major
categories between recurring and non-recurring, revenue generating capital
improvements for the three-and nine-month periods ended September 30, 2005 as
follows:
For the three-month period ended September 30,
(in thousands, except per unit data)
2005 2004
------------------------------------------------------------------------------------
Non- Total Total
Recurring Per Recurring Per Capital Per Capital Per
Cap Ex Unit(a) Cap Ex Unit(a) Improvements Unit(a) Improvements Unit(a)
------ ------- ------ ------- ------------ ------- ------------ -------
New Buildings $ - $ - $ 1,374 $ 32 $ 1,374 $ 32 $ 950 $ 23
Major building improvements 969 23 5,325 125 6,294 148 5,400 131
Roof replacements 352 8 1,905 45 2,257 53 927 22
Site improvements 352 8 2,381 56 2,733 64 2,963 72
Apartment upgrades 703 16 5,089 120 5,792 136 7,741 188
Appliances 597 14 662 16 1,259 30 1,208 29
Carpeting/Flooring 1,822 43 1,408 33 3,230 76 3,257 79
HVAC/Mechanicals 543 13 3,990 93 4,533 106 4,245 103
Miscellaneous 256 6 582 14 838 20 681 17
------ ---- ------- ---- ------- ---- ------- ----
Totals $5,594 $131 $22,716 $534 $28,310 $665 $27,372 $664
====== ==== ======= ==== ======= ==== ======= ====
(a) Calculated using the weighted average number of units outstanding,
including 39,175 core units, 2004 acquisition units of 2,486 and 2005
acquisition units of 948 for the three-month period ended September 30,
2005 and 39,175 core units and 2004 acquisition units of 2,089 for the
three-month period ended September 30, 2004.
For the nine-month period ended September 30,
(in thousands, except per unit data)
2005 2004
-------------------------------------------------------------------------------------
Non- Total Total
Recurring Per Recurring Per Capital Per Capital Per
Cap Ex Unit(a) Cap Ex Unit(a) Improvements Unit(a) Improvements Unit(a)
------ ------- ------ ------- ------------ ------- ------------ -------
New Buildings $ - $ - $ 3,686 $ 87 $ 3,686 $ 87 $ 2,169 $ 54
Major building improvements 2,884 68 10,704 253 13,588 321 14,101 348
Roof replacements 1,046 25 3,167 75 4,213 100 2,278 56
Site improvements 1,046 25 4,609 109 5,655 134 6,923 171
Apartment upgrades 2,092 50 13,503 320 15,595 370 20,583 509
Appliances 1,775 42 1,405 33 3,180 75 3,129 77
Carpeting/Flooring 5,420 128 2,629 62 8,049 190 7,749 191
HVAC/Mechanicals 1,616 38 8,835 209 10,451 247 10,379 256
Miscellaneous 761 18 1,962 46 2,723 64 2,533 63
------- ---- ------- ------ ------- ------ ------- ------
Totals $16,640 $394 $50,500 $1,194 $67,140 $1,588 $69,844 $1,725
======= ==== ======= ====== ======= ====== ======= ======
(a) Calculated using the weighted average number of units outstanding,
including 39,175 core units, 2004 acquisition units of 2,486 and 2005
acquisition units of 597 for the nine-month period ended September 30, 2005
and 39,175 core units and 2004 acquisition units of 1,295 for the
nine-month period ended September 30, 2004.
The schedule below summarizes the breakdown of total capital improvements
(excludes assets held for sale) between core and non-core as follows:
For the three-month period ended September 30,
(in thousands, except per unit data)
2005 2004
------------------------------------------------------------------------------------
Non- Total Total
Recurring Per Recurring Per Capital Per Capital Per
Cap Ex Unit Caup Ex Unit Improvements Unit Improvements Unit
------ ---- ------- ---- ------------ ---- ------------ ----
Core Communities $5,144 $131 $19,309 $493 $24,453 $624 $26,381 $673
2005 Acquisition Communities 124 131 696 734 820 865 - -
2004 Acquisition Communities 326 131 2,711 1,091 3,037 1,222 991 474
------ ---- ------- ---- ------- ---- ------- ----
Sub-total 5,594 131 22,716 534 28,310 665 27,372 664
2005 Disposed Communities 1 131 23 2,737 24 2,868 90 818
2004 Disposed Communities - - - - - - 656 568
Corporate office expenditures(1) - - - - 2,420 - 1,092 -
------ ---- ------- ---- ------- ---- ------- ----
$5,595 $131 $22,739 $534 $30,754 $665 $29,210 $661
====== ==== ======= ==== ======= ==== ======= ====
For the nine-month period ended September 30,
(in thousands, except per unit data)
2005 2004
------------------------------------------------------------------------------------
Non- Total Total
Recurring Per Recurring Per Capital Per Capital Per
Cap Ex Unit Cap Ex Unit Improvements Unit Improvements Unit
------ ---- ------ ---- ------------ ---- ------------ ----
Core Communities $15,426 $394 $45,266 $1,155 $60,692 $1,549 $67,984 $1,735
2005 Acquisition Communities 235 394 920 1,541 1,155 1,935 - -
2004 Acquisition Communities 979 394 4,314 1,735 5,293 2,129 1,860 1,436
------- ---- ------- ------ ------- ------ ------- ------
Sub-total 16,640 394 50,500 1,194 67,140 1,588 69,844 1,725
2005 Disposed Communities 30 394 60 794 90 1,188 150 1,364
2004 Disposed Communities - - - - - - 1,986 1,357
Corporate office expenditures(1) - - - - 5,750 - 2,158 -
------- ---- ------- ------ ------- ------ ------- ------
$16,670 $394 $50,560 $1,194 $72,980 $1,588 $74,138 $1,712
======= ==== ======= ====== ======= ====== ======= ======
(1) No distinction is made between recurring and non-recurring expenditures for
corporate office. Corporate office expenditures includes principally
computer hardware, software and office furniture and fixtures.
Results of Operations
---------------------
Summary of Core Properties
--------------------------
The Company had 138 apartment communities with 39,175 units which were owned
during the nine-month periods being presented (the "Core Properties"). The
Company has acquired/developed an additional sixteen apartment communities with
3,572 units during 2005 and 2004 (the "Acquired Communities"). The Company also
disposed of six properties with a total of 1,756 units during 2005 and 2004 (the
"Disposition Communities"). The Disposition Communities have been classified as
discontinued operations. Finally, beginning with the second quarter of 2004, the
results of operations for both the three- and nine-month periods ending
September 30, 2004, include the results of operations of the affordable limited
partnerships ("Affordable LPs") that have been consolidated in accordance with
FIN 46R for the first time. The Affordable LPs also have been classified as
discontinued operations. The inclusion of the Acquired Communities generally
accounted for the significant changes in operating results for the three-and
nine-months ended September 30, 2005.
A summary of the net operating income from Core Properties is as follows (in
thousands):
Nine Months Three Months
----------- ------------
2005 2004 $ Change % Change 2005 2004 $ Change % Chg
---- ---- -------- -------- ---- ---- -------- -----
Rental income $317,674 $312,278 $5,396 1.7% $107,170 $104,576 $2,594 2.5%
Property other income 17,826 15,006 2,820 18.8% 7,146 5,328 1,818 34.1%
-------- -------- ----- --- ------- ------- ----- ---
Total income 335,500 327,284 8,216 2.5% 114,316 109,904 4,412 4.0%
Operating and Maintenance (152,359) (147,384) (4,975) ( 3.4%) (49,291) (47,565) ( 1,726) (3.6%)
-------- -------- ------ --- ------- ------- ----- ---
Net operating income $183,141 $179,900 $3,241 1.8% $65,025 $62,339 $2,686 4.3%
======== ======== ====== === ======= ======= ====== ===
A summary of the net operating income from continuing operations is as follows
(in thousands):
Nine Months Three Months
----------- ------------
2005 2004 $ Change % Change 2005 2004 $ Change % Chg
---- ---- -------- -------- ---- ---- -------- -----
Rental income $345,149 $323,922 $21,227 6.6% $117,581 $110,731 $6,850 6.2%
Property other income 18,871 15,357 3,514 22.9% 7,626 5,484 2,142 39.1%
-------- -------- ------- --- ------- ------- ------ ---
Total income 364,020 339,279 24,741 7.3% 125,207 116,215 8,992 7.7%
Operating and Maintenance (165,065) (152,267) ( 12,798) (8.4%) ( 54,161) (50,102) (4,059) (8.1%)
-------- -------- ------- --- ------- ------- ------ ---
Net operating income $198,955 $187,012 $11,943 6.4% $71,046 $66,113 $4,933 7.5%
======== ======== ======= === ======= ======= ====== ===
Comparison of nine-months ended September 30, 2005 to the same period in 2004
-----------------------------------------------------------------------------
Of the $21,227 increase in rental income, $15,831 is attributable to the
Acquired Communities. The balance of this increase, or $5,396 which is from the
Core Properties, was the result of an increase of 2.2% in weighted average
rental rates, offset with a decrease in occupancy from 93.4% to 93.0%. Occupancy
is defined as total possible rental income, net of vacancy and bad debt expense
as a percentage of total possible rental income. Total possible rental income is
determined by valuing occupied units at contract rates and vacant units at
market rents.
Property other income, which consists primarily of income from operation of
laundry facilities, late charges, administrative fees, garage and carport
charges, net profits from corporate apartments, cable revenue, pet charges,
utility recovery charges, and miscellaneous charges to residents increased by
$3,514. Of this increase, $694 is attributable to the Acquired Communities and
$2,820 represents a 18.8% increase from the Core Properties. Included in the
Core increase is $1,533 which represents increased water and sewer recovery
charges compared to 2004.
Other income decreased $465 due primarily to a decrease in the level of
management fee activity as a result of the sale of the affordable limited
partnerships.
Of the $12,798 increase in operating and maintenance expenses, $7,823 is
attributable to the Acquired Communities. The balance, a $4,975 increase, is
attributable to the Core Properties and is primarily due to increases in natural
gas heating costs, personnel costs, and real estate taxes. These increases were
offset in part by savings in repairs and maintenance and insurance expenses.
Natural gas heating costs were up $1,710 or 12.7% over 2004. We have seen
significant increases in the cost of natural gas per decatherm. Personnel
expenses were up $2,034, or 6.0%. Contributing to this was normal operating
payroll increases of $1,225, or 3.8% and an increase in site level incentive
compensation of $809. Real estate taxes were up $1,999, or 6.1%. Of this, $204,
or 0.6% is from a prepaid tax adjustment needed to bring our balance sheet to
the proper amount. The balance is a 5.5% increase in normal increases in
assessed values and tax rates. The decrease in repairs and maintenance was
$1,007 or 4.3% compared to a year ago. The nine-month period in 2004 included an
$805 additional tax payment for the NYS sales tax audit. Property insurance
decreased $869, or 15.5%, for the period primarily due to a decrease in our
property and general liability premiums, and losses to date which have been
projected using actuarial assumptions.
The cost of supplying heat to our residents will be going up substantially in
the fourth quarter of 2005 and into 2006 based on the increase in natural gas
costs. The price increase per decatherm was exacerbated by the hurricanes
affecting Gulf Coast production in the fall of 2005. In response to this
increased cost, the Company has been searching for ways to recover some or all
of this marginal increase from our residents by instituting utility recovery
programs. The water and sewer recovery program has been under way since March of
2005. The amount of reimbursement has been growing steadily as the program has
been rolled out upon lease renewals. The increased income is included in
property other income and was discussed above. Starting in September, 2005, the
Company is also instituting energy recovery programs to specifically address our
higher natural gas costs. This program will start out small, but as we have
experienced with the water and sewer program, we expect quick growth over the
next few quarters. For the fourth quarter of 2005, our expectation is that
increased energy costs (over what was expected just three months ago) will
exceed these reimbursements by about three cents per share as measured for Funds
from Operations, or FFO. For all of 2006, the income from both recovery programs
is expected to exceed the marginal increase in the heating cost line item,
although there will be timing differences, as a significant portion of heating
costs are incurred in the first quarter, while the reimbursements will grow
during the year.
General and administrative expense decreased in 2005 by $53. General and
administrative expenses as a percentage of total revenues were 3.9% for 2005 as
compared to 4.2% for 2004. The decrease is the result of a reduction in the
level of corporate incentive compensation accrued in 2005, mostly offset by
increased expenses relating to compliance with the internal controls review and
improvements in response to Section 404 of the Sarbanes Oxley Act of 2002 and
applicable regulations of the U.S. Securities and Exchange Commission and audit
work completed in the first quarter of 2005.
Interest expense increased in 2005 by $10,560 as a result of the increased
borrowings in connection with acquisition of the 2005 Acquisition Communities, a
full nine months of interest expense for the 2004 Acquisition Communities and
additional mortgage debt and refinanced mortgage debt incurred during 2004.
Interest expense was reduced in the second quarter of 2005 by $393 while
interest expense in the first quarter of 2004 was reduced by $996 when two
mortgage loans were paid off early at amounts less than the amounts carried on
the Company's balance sheet. Finally, $233 in interest relative to the sales tax
liability recorded and described above is included in 2004.
Depreciation and amortization expense increased $8,190 due to the depreciation
on the Acquisition Communities and the capital additions to the Core Properties.
The Company has sold virtually all of the assets associated with its general
partner interests in the affordable properties in order to focus solely on the
direct ownership and management of market rate apartment communities. The assets
included principally loans, advances and management contracts. During the first
nine months of 2004, the Company recorded impairment charges of $1,116. Of this
total, $171 represented advances made to certain of the Affordable LPs, which
the Company believed would not be repaid upon the sale of the loans. The
remaining $945 pertains to an additional net impairment charge taken on the
remaining properties owned by the Affordable LPs to reduce the assets to fair
market value. In connection with FIN 46R, the Company was required to
consolidate the majority of the Affordable LPs results of operations beginning
April 1, 2004. The results of operations of the Affordable LPs are included in
discontinued operations for both the nine-month periods ended September 30, 2005
and 2004.
The equity in earnings (losses) of unconsolidated affiliates was a loss of $538
for the nine months ended September 30, 2004 primarily the result of the general
partner recording a greater share of the underlying investment's losses due to
the loans and advances to certain of the affordable property limited
partnerships where the limited partner had no capital account. This is pursuant
to the accounting requirements of EITF 99-10, "Percentage Used to Determine the
Amount of Equity Method Losses." Included and classified in this account were
$484 of advances made during the first three months of 2004 which the Company
believes will not be repaid upon sale.
Minority interest decreased $1,398 due to a general decrease in income from
operations.
Included in discontinued operations for the nine-month period ended September
30, 2005, are the results of operations of one apartment community sold and one
held for sale that in connection with FIN 46R were required to be consolidated
beginning April 1, 2004. As all significant contingencies surrounding the sale
of the properties have been resolved, the Company has considered these assets
held for sale and has reported them in discontinued operations (see further
detail supplied under "Variable Interest Entities" section).
In connection with the adoption of FIN 46R, the Company recorded a $321
cumulative effect charge of a change in accounting principle in the first
quarter of 2004. This charge was the result of negative capital accounts of
minority interest partners that were absorbed by the Company.
Comparison of the three-months ended September 30, 2005 to the same period in
--------------------------------------------------------------------------------
2004
----
Of the $6,850 increase in rental income, $4,256 is attributable to the Acquired
Communities. The balance of this increase, or $2,594 which is from the Core
Properties, was the result of an increase of 0.8% in weighted average rental
rates, plus an increase in occupancy from 92.8% to 93.6%. Occupancy is defined
as total possible rental income, net of vacancy and bad debt expense as a
percentage of total possible rental income. Total possible rental income is
determined by valuing occupied units at contract rates and vacant units at
market rents.
Property other income, which consists primarily of income from operation of
laundry facilities, late charges, administrative fees, garage and carport
charges, net profits from corporate apartments, cable revenue, pet charges,
utility recovery charges, and miscellaneous charges to residents increased by
$2,142. Of this increase, $324 is attributable to the Acquired Communities and
$1,818 represents a 34.1% increase from the Core Properties. Included in the
Core properties increase is $1,041 which represents increased water and sewer
recovery charges compared to 2004.
Other income decreased $329 due primarily to a decrease in the level of
management fee activity as a result of the sale of the affordable limited
partnerships.
Of the $4,059 increase in operating and maintenance expenses, $2,333 is
attributable to the Acquired Communities. The balance, a $1,726 increase, is
attributable to the Core Properties and is primarily due to increases in
electricity costs, personnel costs, and real estate taxes. These increases were
offset in part by a reduction in property insurance. Electricity costs were up
$298, or 13.2% due to a much hotter summer compared to normal which contributed
to higher electricity usage. Personnel expenses increased $301, with $378
resulting from increased site level incentive compensation reflecting improving
rent and occupancies compared to a year ago. The 4.5% variance in real estate
taxes results from normal increases in assessed values and tax rates. Property
insurance decreased for the period primarily due to a decrease in our property
and general liability premiums, and losses to date which have been projected
using actuarial assumptions.
General and administrative expense increased in 2005 by $15. General and
administrative expenses as a percentage of total revenues were 3.9% for 2005 as
compared to 4.2% for 2004.
Interest expense increased in 2005 by $4,043 as a result of the increased
borrowings in connection with acquisition of the 2005 Acquisition Communities, a
full quarter of interest expense for the 2004 Acquisition Communities and
additional mortgage debt and refinanced mortgage debt which took place during
2004.
Depreciation and amortization expense increased $2,640 due to the depreciation
on the Acquisition Communities and the capital additions to the Core Properties.
Minority interest decreased $429 due to a general decrease in income from
operations, offset by the increase in the minority interest percentage from
31.9% to 32.6%.
Included in discontinued operations for the three-month period ended September
30, 2005 are the results of operations of one apartment community sold and
properties owned by the remaining Affordable LPs that, in connection with FIN
46R, were required to be consolidated beginning April 1, 2004. As all
significant contingencies surrounding the sale of the affordable properties have
been resolved the Company has considered these assets held for sale and have
reported them in discontinued operations.
Funds From Operations
---------------------
Pursuant to the revised definition of Funds From Operations ("FFO") adopted by
the Board of Governors of the National Association of Real Estate Investment
Trusts ("NAREIT"), FFO is defined as net income (computed in accordance with
accounting principles generally accepted in the United States of America
("GAAP")) excluding gains or losses from sales of property, minority interest,
extraordinary items and cumulative effect of change in accounting principle plus
depreciation from real property including adjustments for unconsolidated
partnerships and joint ventures less dividends from non-convertible preferred
shares. NAREIT has recently changed guidance on the interpretation of impairment
charges recorded against the value of real estate. The previous interpretation
was that impairment charges in real estate would be an add back to arrive at
FFO, similar to a loss on sale of real estate. The Company is following this new
interpretation effective April 1, 2004 on a go-forward basis. The change is not
suggested to be retroactive to any prior period reported. Because of the
limitations of the FFO definition as published by NAREIT as set forth above, the
Company has made certain interpretations in applying the definition. The Company
believes all adjustments not specifically provided for are consistent with the
definition.
Management believes that in order to facilitate a clear understanding of the
combined historical operating results of the Company, FFO should be considered
in conjunction with net income as presented in the consolidated financial
statements included elsewhere herein. Management believes that by excluding
gains or losses related to dispositions of property and excluding real estate
depreciation (which can vary among owners of similar assets in similar condition
based on historical cost accounting and useful life estimates), FFO can help one
compare the operating performance of a company's real estate between periods or
as compared to different companies. FFO does not represent cash generated from
operating activities in accordance with GAAP and is not necessarily indicative
of cash available to fund cash needs. FFO does not include the cost incurred for
capital improvements (including capitalized interest) reflected as an increase
to real estate assets. The Company's total capital improvements include an
annual reserve for anticipated recurring, non-revenue generating capitalized
costs of $525 per apartment unit. Please refer to the "Capital Improvement"
section above in MD and A. Cash provided by operating activities was $100,619
and $125,368 for the nine-month periods ended and $36,615 and $40,208 for the
three-month periods ended September 30, 2005 and 2004, respectively. Cash used
in investing activities was $166,545 and $202,030 for the nine-month periods
ended and $104,758 and $97,223 for the three-month periods ended September 30,
2005 and 2004, respectively. Cash provided by financing activities was $63,265
and $78,976 for the nine-month periods ended and $63,334 and $58,594 for the
three-month periods ended September 30, 2005 and 2004, respectively. FFO should
not be considered as an alternative to net income as an indication of the
Company's performance or to cash flow as a measure of liquidity.
The calculation of FFO and reconciliation to GAAP net income available to common
shareholders for the nine-and three-months ended September 30, 2005 and 2004 are
presented below (in thousands):
Nine Months Three Months
----------- ------------
2005 2004 2005 2004
---- ---- ---- ----
Net income available to common shareholders $ 21,521 $16,349 $15,353 $ 3,027
Minority interest 9,842 11,240 4,133 4,562
Minority interest - income (loss) from
discontinued operations (2,379) (201) 216 49
Minority interest - gain (loss) from disposition of
discontinued operations 2,389 (3,195) 2,389 (3,195)
Depreciation and amortization from real property 72,524 67,566 24,997 23,225
Depreciation from real property from - 556
unconsolidated entities - -
Impairment on General Partner real estate - 945
investment - -
Loss on disposition of property - 50 - -
(Gain) loss on disposition of discontinued
operations, net of minority interest (1,353) (417) (1,431) 94
Cumulative effect of change in accounting
principle, net of minority interest - 321 - -
-------- ------- ------- -------
FFO - Basic $102,544 $93,214 $45,657 $27,762
Convertible preferred dividends 879 - - -
-------- ------- ------- -------
FFO - Diluted $103,423 $93,214 $45,657 $27,762
======== ======= ======= =======
Weighted average common shares/units
outstanding(1):
- Basic 47,828.7 48,660.3 48,255.2 48,894.6
======== ======== ======== ========
- Diluted 48,680.2 49,100.3 48,686.3 49,338.6
======== ======== ======== ========
(1) The calculation assumes the conversion of dilutive common stock equivalents
including convertible preferred stock for the nine-month period ended
September 30, 2005 and the conversion of all UPREIT units to common shares.
The convertible preferred stock had an anti-dilutive effect; therefore, the
convertible preferred dividends are not included in FFO diluted for the
three and nine months ended September 30, 2004.
All REITs may not be using the same definition for FFO. Accordingly, the above
presentation may not be comparable to other similarly titled measures of FFO of
other REITs.
Covenants
---------
Series F Preferred Stock
------------------------
In connection with the issuance of the Series F Preferred Stock, the Company is
required to maintain for each fiscal quarterly period a fixed charge coverage
ratio, as defined in the Series F Cumulative Redeemable Preferred Stock Article
Supplementary, of at least 1.75 to 1.0. The fixed charge coverage ratio and the
components thereof do not represent a measure of cash generated from operating
activities in accordance with generally accepted accounting principles and are
not necessarily indicative of cash available to fund cash needs. Further, this
ratio should not be considered as an alternative measure to net income as an
indication of the Company's performance or of cash flow as a measure of
liquidity. The Company has been in compliance with the covenant since the Series
F Preferred Stock was issued. If the Company fails to be in compliance with this
covenant for six or more consecutive fiscal quarters, the holders of the Series
F Preferred Stock would be entitled to elect two directors to the board of
directors of the Company. The calculation of the fixed charge coverage ratio for
the four most recent quarters since the issuance of the Series F Preferred Stock
is presented below (in thousands). Net operating income from discontinued
operations in the following calculation is defined as total revenues from
discontinued operations less operating and maintenance expenses.
Calculation Presented for Series F Covenants
Three-months ended
------------------
Sept. 30, June 30, Mar.31, Dec. 31,
2005 2005 2005 2004
---- ---- ---- ----
EBITDA
------
Total revenues $125,775 $121,636 $118,787 $118,357
Net operating income (loss) from discontinued operations 1,045 (343) 142 2,143
Operating and maintenance (54,161) (53,623) ( 57,511) (52,227)
General and administrative (4,894) (4,144) (5,405) (9,482)
Equity in earnings (losses) of unconsolidated affiliates - - - -
------- ------- -------- -------
$67,765 $63,526 $ 56,013 $58,791
Fixed Charges
-------------
Interest expense $27,059 $25,173 $ 24,943 $23,891
Interest expense on discontinued operations 382 279 21 442
Preferred dividends 1,350 1,681 1,898 1,898
Capitalized interest 254 339 191 191
------- ------- -------- -------
$29,045 $27,472 $ 27,053 $26,422
Fixed charge coverage ratio: 2.33 2.31 2.07 2.23
Line of Credit
--------------
The Credit Agreement relating to the Company's line of credit provides for the
Company to maintain certain financial ratios and measurements. One of these
covenants was that the Company could not pay any distribution to its
shareholders and holders of its UPREIT Units if a distribution, when added to
other distributions paid during the three immediately preceding fiscal quarters,
exceeded the greater of : (i) 90% of funds from operations, and 110% of cash
available for distribution; and (ii) the amount required to maintain the
Company's status as a REIT. Historically there were certain quarters where the
Company did not meet this specific covenant and appropriate waivers were granted
by the participating banks. The new credit agreement effective September 1, 2008
has removed this covenant completely. The line of credit has not been used for
long-term financing but adds a certain amount of flexibility, especially in
meeting the Company's acquisition goals. Many times it is easier to temporarily
finance an acquisition or stock repurchase in a short-term nature through the
line of credit, with long-term secured financing or other sources of capital
replenishing the line of credit availability.
Economic Conditions
-------------------
Substantially all of the leases at the Company's apartment communities are for a
term of one year or less, which enables the Company to seek increased rents upon
renewal of existing leases or commencement of new leases. These short-term
leases minimize the potential adverse effect of inflation on rental income,
although residents may leave without penalty at the end of their lease terms and
may do so if rents are increased significantly.
Historically, real estate has been subject to a wide range of cyclical economic
conditions, which affect various real estate sectors and geographic regions with
differing intensities and at different times. During 2001 through 2003, many
regions of the United States experienced varying degrees of economic recession
and certain recessionary trends, such as the cost of obtaining sufficient
property and liability insurance coverage, short-term interest rates, and a
temporary reduction in occupancy. Starting in 2004 and into 2005, the economy
has shown improvement which has benefited multifamily apartments. We continue to
review our business strategy and given our property type and the geographic
regions in which we are located, we do not anticipate any changes in our
strategy or material effects in financial performance.
Declaration of Dividend
-----------------------
On November 4, 2005, the Board of Directors approved a dividend of $.64 per
share for the quarter ended September 30, 2005. This is the equivalent of an
annual distribution of $2.56 per share. The dividend is payable November 25,
2005 to shareholders of record on November 15, 2005.
On November 4, 2005, the Company also declared a regular dividend of $.5625 per
share on its Series F Cumulative Redeemable Preferred Stock, for the quarter
ending November 30, 2005. The dividend on the preferred shares is payable on
November 30, 2005 to shareholders of record on November 15, 2005. This dividend
is equivalent to an annualized rate of $2.25 per share.
Contingency
-----------
The Company is not a party to any legal proceedings which are expected to have a
material adverse effect on the Company's liquidity, financial position or
results of operations. The Company is subject to a variety of legal actions for
personal injury or property damage arising in the ordinary course of its
business, most of which are covered by liability insurance. While the resolution
of these matters cannot be predicted with certainty, management believes that
the final outcome of such legal proceedings and claims will not have a material
adverse effect on the Company's liquidity, financial position or results of
operations.
In 2001, the Company underwent a state capital stock tax audit. The state had
assessed taxes of $469 for the 1998 and 1999 tax years under audit. If the
state's position is applied to all tax years through December 31, 2001, the
assessment would be $1,300. At the time, the Company believed the assessment and
the state's underlying position were not supportable by the law nor consistent
with previously provided interpretative guidance from the office of the State
Secretary of Revenue. After two subsequent enactments by the state legislation
during 2002 affecting the pertinent tax statute, the Company was advised by
outside tax counsel that its filing position for 1998-2001 should prevail.
During December 2003, the state's governor signed legislation which included the
REIT tax provisions. Based upon this, Company's tax counsel expects that the
outstanding litigation should now be able to be resolved. Effective January 1,
2003, the Company reorganized the ownership of Home Properties Trust, which
should subject the Company to a much lower level of tax going forward. In
September 2004, the Company settled the 1998 year under audit for a total of
$39, including interest. During the first quarter of 2005, the Company filed a
protest with the Pennsylvania State Commonwealth Court concerning the 1999 tax
year. Settlement discussions have occurred during the third quarter of 2005 for
the open years 1999-2001. Based on these discussions, the Company believes that
the likelihood of settling all three open years has increased, and has accrued
$160.
During April, 2004, the Company finalized negotiations with New York State
settling a sales and use tax audit covering the period June 1, 1999 through May
31, 2002. The total cost to the Company as a result of the audit amounted to
$861. This was included in the first quarter 2004 results and allocated $448 to
expense and $413 capitalized to real estate assets for improvements.
As a result of this audit, during the second quarter of 2004, the Company
examined its sales and use tax compliance in the other states in which the
Company operates. Based upon its internal analysis, the Company estimated its
liability as of June 30, 2004 in those states where it found non-compliance and
recorded at June 30, 2004 a liability of $1,712. This was included in the second
quarter results and allocated $761 to expense and $951 capitalized to real
estate assets for improvements. The liability recorded relates to the period
beginning on the later of: (i) the date the Company first purchased property in
the applicable state; or (ii) January 1, 1997 and ending on June 30, 2004. In
addition, the Company increased the liability for sales tax exposure by $68 for
the six-month period ended December 31, 2004. The Company has filed Voluntary
Disclosure Agreements ("VDAs") with the four states where it had significant
financial exposure. During the first six months of 2005, the Company signed VDAs
with these states which have agreed to limit the VDA filing period back to
January 1, 2001, and has satisfied all financial obligations under the VDAs. For
the three- and six-month periods ended June 30, 2005, the Company has recorded
adjustments to the liability for both the effects of signing the VDAs as well as
for the results of the Company's additional testing for the first six months.
The net impact of these adjustments resulted in a decrease in real estate assets
of $175, interest expense of $115 and operating expenses of $108 for a net
decrease to the accrued liability of $398. During the third quarter of 2005, the
Company finalized negotiations with New York State settling a sales tax audit
covering the period June 1, 2002 through November 30, 2004. The settlement was
not materially different from what had been accrued. The result of the recent
payments on the VDAs and this New York State audit is that the sales tax accrual
which had been over $1,712 (as referenced above) has been reduced to $16 at
September 30, 2005.
In connection with the issuance of the Series F Preferred Stock, the Company is
required to maintain for each fiscal quarterly period a fixed charge coverage
ratio, as defined in the Series F Cumulative Redeemable Preferred Stock Articles
Supplementary to the Company's Articles of Incorporation, of at least 1.75 to
1.0. The fixed charge coverage ratio and the components thereof do not represent
a measure of cash generated from operating activities in accordance with
generally accepted accounting principles and are not necessarily indicative of
cash available to fund cash needs. Further, this ratio should not be considered
as an alternative measure to net income as an indication of the Company's
performance or of cash flow as a measure of liquidity. The Company has been in
compliance with the covenant since the Series F Preferred Stock was issued. If
the Company fails to be in compliance with this covenant for six or more
consecutive fiscal quarters, the holders of the Series F Preferred Stock would
be entitled to elect two directors to the board of directors of the Company.
New Accounting Standards
------------------------
In December 2004, the FASB issued Statement of Financial Accounting Standards
No. 123R Share Based Payment ("SFAS No. 123R"). The statement is a revision of
SFAS No. 123 Accounting for Stock-Based Compensation. SFAS No 123R supersedes
APB Opinion No. 25 Accounting for Stock Issued to Employees, and its related
implementation guidance. SFAS 123R, requires that entities recognize the cost of
employee services received in exchange for awards of equity instruments (i.e.
stock options) based on the grant-date fair value of those awards. The Statement
is effective for the first fiscal year beginning after June 15, 2005. On January
1, 2003, the Company adopted the provisions of SFAS No. 148 Accounting for
Stock-Based Compensation - Transition and Disclosure, an Amendment to SFAS No.
123. Effective on that date, the Company began recognizing compensation cost
related to stock option grants. Based upon the Company's adoption of SFAS No.
148, the Company does not expect the application of SFAS No. 123R beginning
January 1, 2006 to have a material impact on the Company's results of
operations, financial position or liquidity.
HOME PROPERTIES, INC.
ITEM 3. QUANTITATIVE AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISK
The Company's primary market risk exposure is interest rate risk. At September
30, 2005 and December 31, 2004, approximately 90% and 89%, respectively, of the
Company's debt bore interest at fixed rates with a weighted average maturity of
approximately 7 and 8 years, respectively, and a weighted average interest rate
of approximately 6.11% and 6.23%, respectively, including the $29 million and
$34 million, respectively, of debt which has been swapped to a fixed rate. The
remainder of the Company's debt bears interest at variable rates with a weighted
average maturity of approximately 12 and 8 years, respectively, and a weighted
average interest rate of 4.48 % and 2.98%, respectively, at September 30, 2005
and December 31, 2004. The Company does not intend to utilize a significant
amount of permanent variable rate debt to acquire properties in the future. On
occasion, the Company may use its line of credit in connection with a property
acquisition or stock repurchase with the intention to refinance at a later date.
The Company believes, however, that in no event would increases in interest
expense as a result of inflation significantly impact the Company's
distributable cash flow.
At September 30, 2005 and December 31, 2004, the interest rate risk on $29
million and $34 million, respectively, of such variable rate debt has been
mitigated through the use of interest rate swap agreements (the "Swaps") with
major financial institutions. The Company is exposed to credit risk in the event
of non-performance by the counter-parties to the Swaps. The Company believes it
mitigates its credit risk by entering into these Swaps with major financial
institutions. The Swaps effectively convert the variable rate mortgages to fixed
rates of 5.35%, 5.39%, 8.22% and 8.40%.
At September 30, 2005 and December 31, 2004, the fair value of the Company's
fixed rate debt, including the $29 million and $34 million, respectively, which
was swapped to a fixed rate, amounted to a liability of $1.74 billion compared
to its carrying amount of $1.66 billion. The Company estimates that a 100 basis
point increase in market interest rates at September 30, 2005 would have changed
the fair value of the Company's fixed rate debt to a liability of $1.67 billion.
The Company intends to continuously monitor and actively manage interest costs
on its variable rate debt portfolio and may enter into swap positions based upon
market fluctuations. In addition, the Company believes that it has the ability
to obtain funds through additional equity offerings and/or the issuance of
UPREIT Units. Accordingly, the cost of obtaining such interest rate protection
agreements in relation to the Company's access to capital markets will continue
to be evaluated. The Company has not, and does not plan to, enter into any
derivative financial instruments for trading or speculative purposes. As of
September 30, 2005, the Company had no other material exposure to market risk.
HOME PROPERTIES, INC.
ITEM 4. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
------------------------------------------------
The Company maintains disclosure controls and procedures that are designed to
ensure that information required to be disclosed in the reports filed or
submitted by the Company under the Securities Exchange Act of 1934 is recorded,
processed, summarized and reported within the time periods specified in the
Securities and Exchange Commission's rules and forms, and that such information
is accumulated and communicated to the officers who certify the Company's
financial reports and to the other members of senior management and the Board of
Directors.
The principal executive officer and principal financial officer evaluated, as of
September 30, 2005, the effectiveness of the disclosure controls and procedures
(as defined in Rules 13a-15(e) and 15-d-15(e) under the Securities Exchange Act
of 1934, as amended (the "Exchange Act")) and have determined that such
disclosure controls and procedures are effective.
There have been no changes in the internal controls over financial reporting
identified in connection with that evaluation, or that occurred during the third
quarter of the year ended December 31, 2005 that has materially affected, or is
reasonably likely to materially affect, the Company's internal control over
financial reporting. The Company has not identified any material weaknesses in
its internal controls.
PART II - OTHER INFORMATION
HOME PROPERTIES, INC.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES; USE OF PROCEEDS FROM REGISTERED
------------------------------------------------------------------------
SECURITIES
----------
In 1997, the Company's Board of Directors approved a stock repurchase program
under which the Company may repurchase shares of its outstanding common stock
and UPREIT Units. The shares/units may be repurchased through open market or
privately negotiated transactions at the discretion of Company management. The
Board's action does not establish a specific target stock price or a specific
timetable for share repurchase. Recently, the Company's Board of Directors
removed certain price restrictions, which substantially enhances the Company's
ability to repurchase shares. At December 31, 2004, the Company had
authorization to repurchase 2,000,000 shares of common stock and UPREIT Units
under the stock repurchase program. On February 16, 2005, the Board of Directors
approved a 2,000,000 share increase in the stock repurchase program. In
addition, participants in the Company's Stock Benefit Plan can use common stock
of the Company that they already own to pay all or a portion of the exercise
payable to the Company upon the exercise of an option. In such event, the common
stock used to pay the exercise price is returned to authorized but unissued
status, and for purposes of this table is deemed to have been repurchased by the
Company. The following table summarizes the total number of shares (units)
repurchased by the Company during the three-month period ending September 30,
2005.
Total shares (units) Maximum shares
Total shares Average purchased as (units) that may
(units) price per part of publicly- yet be purchased
Period purchased(1) share (unit) announced Plan under the Plan
------ ------------ ------------ -------------- --------------
Balance June 30, 2005 2,699,300
July 1, 2005 to July 31, 2005 1,199 $45.09 - -
August 1, 2005 to August 31, 2005 11,981 $40.84 - -
September 1, 2005 to September 30, 2005 208,289 $38.93 205,900 2,493,400
------- ------ ------- ---------
221,469 $39.07 205,900 2,493,400
======= ====== ======= =========
(1) During the three months ended September 30, 2005, the Company repurchased
15,569 shares of common stock through share repurchase by the transfer
agent in the open market in connection with the Company's Dividend
Reinvestment Plan ("DRIP"), which are included in this table.
ITEM 6. EXHIBITS
Exhibit 10.78 Amendment No. Four to Credit Agreement between Home Properties,
L.P., certain Lenders, and Manufacturers and Traders Trust Company
and Administrative Agent
Exhibit 10.79 Agreement, dated September 30, 2005 between General Electric
Credit Equities, Inc. and H.P. Knolls I Associates, L.P.
Exhibit 10.80 Agreement, dated September 30, 2005, between General Electric
Credit Equities, Inc. and H.P. Knolls II Associates, L.P.
Exhibit 31.1 Section 302 Certification of Chief Executive Officer
Exhibit 31.2 Section 302 Certification of Chief Financial Officer
Exhibit 32.1 Section 906 Certification of Chief Executive Officer
Exhibit 32.2 Section 906 Certification of Chief Financial Officer
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
HOME PROPERTIES, INC.
---------------------
(Registrant)
Date: November 9, 2005
-------------------------------------
By: /s/ Edward J. Pettinella
-------------------------------------
Edward J. Pettinella
President and Chief Executive Officer
Date: November 9, 2005
-------------------------------------
By: /s/ David P. Gardner
-------------------------------------
David P. Gardner
Executive Vice President and
Chief Financial Officer