UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the quarterly period ended June 30, 1999
or
[ ] 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 1-10709
-------
PS BUSINESS PARKS, INC.
-----------------------
(Exact name of registrant as specified in its charter)
California 95-4300881
---------- ----------
(State or Other Jurisdiction (I.R.S. Employer
of Incorporation) Identification Number)
701 Western Avenue, Glendale, California 91201-2397
---------------------------------------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (818) 244-8080
--------------
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 such filing
requirements for the past 90 days.
Yes [X] No [_]
Number of shares outstanding of each of the issuer's classes of common stock,
- -----------------------------------------------------------------------------
as of August 10, 1999:
- ----------------------
Common Stock, $0.01 par value, 23,640,606 shares outstanding
------------------------------------------------------------
PS BUSINESS PARKS, INC.
INDEX
Page
----
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Balance Sheets as of June 30, 1999
and December 31, 1998..................................................... 2
Condensed Consolidated Statements of Income for the Three and Six Months
Ended June 30, 1999 and 1998.............................................. 3
Condensed Consolidated Statement of Shareholders' Equity for the Six Months
Ended June 30, 1999....................................................... 4
Condensed Consolidated Statements of Cash Flows for the Six Months Ended
June 30, 1999............................................................. 5-6
Notes to Condensed Consolidated Financial Statements...................... 7-16
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations...........................................17-25
Item 3. Quantitative and Qualitative Disclosures About Market Risk...... 26
PART II. OTHER INFORMATION
Item 1. Legal Proceedings............................................... 27
Item 4. Submission of Matters to a Vote of Security Holders............. 27
Item 6. Exhibits & Reports on Form 8-K.................................. 28
PS BUSINESS PARKS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
June 30, December 31,
1999 1998
--------------- ---------------
(unaudited)
ASSETS
------
Cash and cash equivalents............................... $ 13,697,000 $ 6,068,000
Real estate facilities, at cost:
Land................................................. 186,980,000 176,241,000
Buildings and equipment.............................. 596,447,000 536,697,000
--------------- ---------------
783,427,000 712,938,000
Accumulated depreciation............................. (36,413,000) (22,517,000)
--------------- ---------------
747,014,000 690,421,000
Construction in progress................................ 17,113,000 7,716,000
--------------- ---------------
764,127,000 698,137,000
Receivables............................................. 602,000 242,000
Deferred rent receivables............................... 3,693,000 2,086,000
Intangible assets, net.................................. 1,432,000 1,583,000
Other assets............................................ 1,071,000 1,298,000
--------------- ---------------
Total assets.............................. $ 784,622,000 $ 709,414,000
=============== ===============
LIABILITIES AND SHAREHOLDERS' EQUITY
------------------------------------
Accrued and other liabilities.............................. $ 19,392,000 $ 15,953,000
Line of credit............................................. - 12,500,000
Mortgage notes payable..................................... 46,072,000 38,041,000
--------------- ---------------
Total liabilities................................. 65,464,000 66,494,000
Minority interest:
Preferred units......................................... 12,750,000 -
Common units............................................ 155,686,000 153,015,000
Shareholders' equity:
Preferred stock, $0.01 par value, 50,000,000 shares
authorized, 2,200 shares issued and outstanding
at June 30, 1999 (none issued and outstanding at
December 31, 1998).................................... 55,000,000 -
Common stock, $0.01 par value, 100,000,000 shares
authorized, 23,640,606 shares issued and outstanding
at June 30, 1999 (23,635,650 shares issued and
outstanding at December 31, 1998)..................... 236,000 236,000
Paid-in capital......................................... 481,272,000 482,471,000
Cumulative net income................................... 52,251,000 32,554,000
Cumulative distributions................................ (38,037,000) (25,356,000)
--------------- ---------------
Total shareholders' equity........................ 550,722,000 489,905,000
--------------- ---------------
Total liabilities and shareholders' equity... $ 784,622,000 $ 709,414,000
=============== ===============
See accompanying notes.
2
PS BUSINESS PARKS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
For the three months For the six months
ended June 30, ended June 30,
-------------------------------- --------------------------------
1999 1998 1999 1998
-------------- -------------- -------------- --------------
Revenues:
Rental income................................. $ 30,859,000 $ 21,471,000 $ 59,976,000 $ 35,824,000
Facility management fees from affiliates...... 116,000 129,000 230,000 331,000
Interest and other income..................... 273,000 311,000 293,000 544,000
-------------- -------------- -------------- --------------
31,248,000 21,911,000 60,499,000 36,699,000
-------------- -------------- -------------- --------------
Expenses:
Cost of operations............................. 8,655,000 6,355,000 17,031,000 10,982,000
Cost of facility management.................... 23,000 12,000 46,000 37,000
Depreciation and amortization.................. 7,314,000 4,256,000 14,047,000 6,556,000
General and administrative..................... 795,000 551,000 1,597,000 996,000
Interest expense.............................. 772,000 822,000 1,681,000 1,069,000
-------------- -------------- -------------- --------------
17,559,000 11,996,000 34,402,000 19,640,000
-------------- -------------- -------------- --------------
Income before minority interest.................. 13,689,000 9,915,000 26,097,000 17,059,000
Minority interest in income - preferred units.. (214,000) - (214,000) -
Minority interest in income - common units..... (3,220,000) (2,869,000) (6,186,000) (5,683,000)
-------------- -------------- -------------- --------------
Net income....................................... $ 10,255,000 $ 7,046,000 $ 19,697,000 $ 11,376,000
============== ============== ============== ==============
Net income allocation:
Allocable to preferred shareholders............ $ 862,000 $ - $ 862,000 $ -
Allocable to common shareholders............... 9,393,000 7,046,000 18,835,000 11,376,000
-------------- -------------- -------------- --------------
$ 10,255,000 $ 7,046,000 $ 19,697,000 $ 11,376,000
============== ============== ============== ==============
Net income per common share:
Basic.......................................... $ 0.40 $ 0.38 $ 0.80 $ 0.76
============== ============== ============== ==============
Diluted........................................ $ 0.40 $ 0.38 $ 0.79 $ 0.76
============== ============== ============== ==============
Weighted average common shares outstanding:
Basic.......................................... 23,639,000 18,650,000 23,638,000 14,926,000
============== ============== ============== ==============
Diluted........................................ 23,716,000 18,711,000 23,709,000 14,978,000
============== ============== ============== ==============
See accompanying notes.
3
PS BUSINESS PARKS, INC.
CONDENSED CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
For the six months ended June 30, 1999
(Unaudited)
Preferred Stock Common Stock
--------------------------- -------------------------- ---------------
Shares Amount Shares Amount Paid-in Capital
--------- -------------- ---------- ---------- ---------------
Balances at December 31, 1998.............. - $ - 23,635,650 $ 236,000 $ 482,471,000
Issuance of preferred stock, net of
issuance costs........................ 2,200 55,000,000 - - (2,136,000)
Issuance of common stock................ - - 4,956 - 93,000
Net income.............................. - - - - -
Distributions paid:
Preferred stock..................... - - - - -
Common stock........................ - - - - -
Adjustment to reflect minority interest
to underlying ownership interest...... - - - - 844,000
--------- -------------- ---------- ------------ --------------
Balances at June 30, 1999.................. 2,200 $ 55,000,000 23,640,606 $ 236,000 $ 481,272,000
========= ============== ========== ============ ==============
Cumulative Cumulative Shareholders'
Net Income Distributions Equity
------------- -------------- --------------
Balances at December 31, 1998.............. $ 32,554,000 $ (25,356,000) $ 489,905,000
Issuance of preferred stock, net of
issuance costs........................ - - 52,864,000
Issuance of common stock................ - - 93,000
Net income.............................. 19,697,000 - 19,697,000
Distributions paid:
Preferred stock..................... - (862,000) (862,000)
Common stock........................ - (11,819,000) (11,819,000)
Adjustment to reflect minority interest
to underlying ownership interest...... - - 844,000
------------- ------------- ------------
Balances at June 30, 1999.................. $ 52,251,000 $ (38,037,000) $ 550,722,000
============= ============= =============
See accompanying notes.
4
PS BUSINESS PARKS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
For the six months ended June 30,
-------------------------------------
1999 1998
-------------- --------------
Cash flows from operating activities:
Net income........................................................ $ 19,697,000 $ 11,376,000
Adjustments to reconcile net income to net cash provided by operating
activities:
Depreciation and amortization expense......................... 14,047,000 6,556,000
Minority interest in income................................... 6,400,000 5,683,000
Increase in receivables and other assets...................... (1,740,000) (468,000)
Increase in accrued and other liabilities..................... 3,442,000 462,000
-------------- --------------
Total adjustments........................................ 22,149,000 12,233,000
-------------- --------------
Net cash provided by operating activities................... 41,846,000 23,609,000
-------------- --------------
Cash flows from investing activities:
Acquisition of real estate facilities......................... (42,530,000) (241,674,000)
Acquisition cost of business combination...................... - (424,000)
Capital improvements to real estate facilities................ (7,207,000) (3,175,000)
Construction in progress...................................... (9,397,000) -
-------------- --------------
Net cash used in investing activities....................... (59,134,000) (245,273,000)
-------------- --------------
Cash flows from financing activities:
Borrowings from an affiliate.................................. 41,400,000 179,000,000
Repayment of borrowings from an affiliate..................... (41,400,000) (182,500,000)
Borrowings from line of credit................................ 14,000,000 -
Repayment of borrowings from line of credit................... (26,500,000) -
Principal payments on mortgage notes payable.................. (11,688,000) (85,000)
Net proceeds from the issuance of common stock................ 93,000 272,112,000
Net proceeds from the issuance of preferred stock............. 53,119,000 -
Net proceeds from the issuance of preferred operating
partnership units........................................... 12,495,000 -
Distributions paid to preferred shareholders.................. (862,000) -
Distributions paid to common shareholders..................... (11,819,000) (9,988,000)
Distributions paid to minority interests - preferred.......... (214,000) -
Distributions paid to minority interests - common............. (3,707,000) (4,404,000)
-------------- --------------
Net cash provided by financing activities................... 24,917,000 254,135,000
-------------- --------------
Net increase in cash and cash equivalents............................ 7,629,000 32,471,000
Cash and cash equivalents at the beginning of the period............. 6,068,000 3,884,000
-------------- --------------
Cash and cash equivalents at the end of the period................... $ 13,697,000 $ 36,355,000
============== ==============
See accompanying notes.
5
PS BUSINESS PARKS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
For the six months ended June 30,
------------------------------------
1999 1998
------------- -------------
Supplemental schedule of non-cash investing and financing activities:
Acquisitions of real estate facilities and associated assets
and liabilities in exchange for minority interests and
mortgage notes payable:
Real estate facilities........................................... $ (20,752,000) $ (33,428,000)
Other assets (deposits on real estate acquisitions).............. - 800,000
Accrued and other liabilities.................................... - 1,245,000
Minority interest - common units................................. 1,033,000 1,408,000
Mortgage notes payable........................................... 19,719,000 29,975,000
Business combination:
Real estate facilities........................................... - (48,000,000)
Other assets..................................................... - (452,000)
Accrued and other liabilities.................................... - 1,218,000
Common stock..................................................... - 23,000
Paid-in capital.................................................. - 46,787,000
Recapitalization in connection with business combination:
Common stock..................................................... - (1,511,000)
Paid-in capital.................................................. - 1,511,000
Conversion of operating partnership units into shares of common stock:
Minority interest - common units................................. - (33,023,000)
Common stock..................................................... - 18,000
Paid-in capital.................................................. - 33,005,000
Adjustment to reflect minority interest to underlying ownership interest:
Minority interest - common units................................. (844,000) 12,896,000
Paid-in capital.................................................. 844,000 (12,896,000)
Adjustment to acquisition cost (see Note 2):
Real estate facilities........................................... - (1,315,000)
Intangible assets................................................ - 1,315,000
See accompanying notes.
6
PS BUSINESS PARKS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
June 30, 1999
(Unaudited)
1. Organization and description of business
Organization
PS Business Parks, Inc. ("PSB" or the "Company"), a California corporation,
is the successor to American Office Park Properties, Inc. ("AOPP") which
merged with and into Public Storage Properties XI, Inc. ("PSP 11") on March
17, 1998 (the "Merger"). The name of the Company was changed to "PS Business
Parks, Inc." in connection with the Merger. See Note 3 for a description of
the Merger and its terms.
Based upon the terms of the Merger, the transaction for financial reporting
and accounting purposes has been accounted for as a reverse acquisition
whereby AOPP is deemed to have acquired PSP11. However, PSP11 is the
continuing legal entity and registrant for both Securities and Exchange
filing purposes and income tax reporting purposes. All subsequent references
to PSB or the Company for periods prior to March 17, 1998 shall refer to
AOPP.
Description of business
PSB is a fully-integrated, self-managed real estate investment trust ("REIT")
that acquires, owns, operates and develops commercial properties containing
commercial and industrial rental space. PSB is the sole general partner of PS
Business Parks, L.P. (the "Operating Partnership") through which the Company
conducts most of its activities. From 1986 through 1996, PSB's sole business
activity consisted of the management of commercial properties owned primarily
by Public Storage, Inc. ("PSI") and affiliated entities.
Commencing in 1997, PSB began to own and operate commercial properties for
its own behalf. At June 30, 1999, PSB and the Operating Partnership
collectively owned and operated 120 commercial properties (approximately 11.6
million net rentable square feet) located in 11 states. In addition, the
Operating Partnership managed 37 commercial properties (approximately 1.0
million net rentable square feet) on behalf of PSI and affiliated entities.
2. Summary of significant accounting policies
Basis of presentation
The accompanying unaudited condensed consolidated financial statements have
been prepared in accordance with generally accepted accounting principles for
interim financial information and with instructions to Form 10-Q and Article
10 of Regulation S-X. Accordingly, they do not include all of the information
and footnotes required by generally accepted accounting principles for
complete financial statements. The preparation of the condensed consolidated
financial statements in conformity with generally accepted accounting
principles requires management to make estimates and assumptions that affect
the amounts reported in the condensed consolidated financial statements and
accompanying notes. Actual results could differ from estimates. In the
opinion of management, all adjustments (consisting of normal recurring
accruals) necessary for a fair presentation have been included. Operating
results for the three and six months ended June 30, 1999 are not necessarily
indicative of the results that may be expected for the year ended December
31, 1999. For further information, refer to the consolidated financial
statements and footnotes thereto included in PSB's annual report on Form 10-K
for the year ended December 31, 1998.
The condensed consolidated financial statements include the accounts of PSB
and the Operating Partnership. At June 30, 1999, PSB owned approximately 73%
of the common units of the Operating Partnership. PSB, as the sole general
partner of the Operating Partnership, has full, exclusive and complete
responsibility and discretion in managing and controlling the Operating
Partnership. Historical financial data of PSP11 have not been included in the
historical financial statements of PSB.
7
Cash and cash equivalents
PSB considers all highly liquid investments with an original maturity of
three months or less at the date of purchase to be cash equivalents. The
carrying amount of cash and cash equivalents approximates fair value.
Real estate facilities
Costs related to the improvements of properties are capitalized. Expenditures
for repair and maintenance are charged to expense when incurred. Buildings
and equipment are depreciated on the straight-line method over the estimated
useful lives, which are generally 30 and 5 years, respectively.
Interest cost incurred during the period of construction of real estate
facilities is capitalized. Construction in progress includes $678,000 and
$268,000 of capitalized interest costs at June 30, 1999 and December 31,
1998, respectively. The Company capitalized $410,000 during the six months
ended June 30, 1999. No interest was capitalized during the six months ended
June 30, 1998.
Intangible assets
Intangible assets consist of property management contracts for properties
managed, but not owned, by PSB. The intangible assets are being amortized
over seven years. As properties managed have been subsequently acquired by
PSB, the unamortized basis of intangible assets related to such property is
included in the cost of acquisition of such property. In connection with the
Merger, PSB acquired 13 properties and included in the cost of such
properties is $1,315,000 (which was net of accumulated amortization of
$194,000) of costs previously classified as intangible assets. Intangible
assets are net of accumulated amortization of $724,000 and $573,000 at June
30, 1999 and December 31, 1998, respectively.
Evaluation of asset impairment
PSB evaluates its assets used in operations, by identifying indicators of
impairment and by comparing the sum of the estimated undiscounted future cash
flows for each asset to the asset's carrying amount. When indicators of
impairment are present and the sum of the undiscounted future cash flows is
less than the carrying value of such asset, an impairment loss is recorded
equal to the difference between the asset's current carrying value and its
value based on discounting its estimated future cash flows. At June 30, 1999,
no such indicators of impairment have been identified.
Borrowings from an affiliate
The Company borrowed $41.4 million from PSI during the six months ending June
30, 1999. The notes bore interest at 5.5% (per annum) and were repaid as of
April 30, 1999.
Revenue and expense recognition
All leases are classified as operating leases. Rental income is recognized on
a straight-line basis over the terms of the leases. Reimbursements from
tenants for real estate taxes and other recoverable operating expenses are
recognized as revenue in the period the applicable costs are incurred.
Costs incurred in connection with leasing (primarily tenant improvements and
leasing commissions) are capitalized and amortized over the lease period.
Property management fees are recognized in the period earned.
8
General and administrative expense
General and administrative expense includes executive compensation, office
expense, professional fees, state income taxes, cost of acquisition personnel
and other such administrative items. Such amounts include amounts incurred by
PSI on behalf of PSB, which were subsequently charged to PSB in accordance
with the allocation methodology pursuant to the cost allocation and
administrative service agreement between PSB and PSI.
Acquisition costs
Internal acquisition costs are expensed as incurred.
Income taxes
During 1997, PSB qualified and intends to continue to qualify as a real
estate investment trust ("REIT"), as defined in Section 856 of the Internal
Revenue Code. As a REIT, PSB is not subject to federal income tax to the
extent that it distributes at least 95% of its taxable income to its
shareholders. In addition, REITs are subject to a number of organizational
and operating requirements. If the Company fails to qualify as a REIT in any
taxable year, the Company will be subject to federal income tax (including
any applicable alternative minimum tax) based on its taxable income using
corporate income tax rates. Even if the Company qualifies for taxation as a
REIT, the Company may be subject to certain state and local taxes on its
income and property and to federal income and excise taxes on its
undistributed taxable income. The Company believes it met all organization
and operating requirements to maintain its REIT status during 1998 and
intends to continue to meet such requirements for 1999. Accordingly, no
provision for income taxes has been made in the accompanying financial
statements.
Net income per common share
Per share amounts are computed using the weighted average common shares
outstanding. "Diluted" weighted average common shares outstanding include the
dilutive effect of stock options under the treasury stock method. "Basic"
weighted average common shares outstanding excludes such effect. Earnings per
common share has been calculated as follows:
For the Three Months Ended For the Six Months Ended
June 30, June 30,
-------------------------- --------------------------
1999 1998 1999 1998
----------- ----------- ----------- -----------
Net income allocable to common shareholders $ 9,393,000 $ 7,046,000 $18,835,000 $11,376,000
=========== =========== =========== ===========
Weighted average common shares outstanding:
Basic weighted average common shares outstanding......... 23,639,000 18,650,000 23,638,000 14,926,000
Net effect of dilutive stock options - based on treasury
stock method using average market price................ 77,000 61,000 71,000 52,000
----------- ----------- ----------- -----------
Diluted weighted average common shares outstanding....... 23,716,000 18,711,000 23,709,000 14,978,000
=========== =========== =========== ===========
Basic earnings per common share............................. $ 0.40 $ 0.38 $ 0.80 $ 0.76
=========== =========== =========== ===========
Diluted earnings per common share........................... $ 0.40 $ 0.38 $ 0.79 $ 0.76
=========== =========== =========== ===========
9
Comprehensive Income
Effective January 1, 1998, PSB adopted SFAS No. 130, "Reporting Comprehensive
Income." SFAS No. 130 requires a separate statement to report the components
of comprehensive income for each period reported. The adoption of SFAS No.
130 did not have an impact on PSB's reporting presentation.
Segment Reporting
Effective January 1, 1998, PSB adopted SFAS No. 131, "Disclosures about
Segments of an Enterprise and Related Information." SFAS No. 131 established
standards for the way public business enterprises report information about
operating segments in annual financial statements and requires that those
enterprises report selected information about operating segments in interim
financial reports. SFAS 131 also establishes standards for related
disclosures about products and services, geographic areas, and major
customers. As management views the Company as operating in a single segment
as described in Note 1, the adoption of SFAS No. 131 did not affect PSB's
disclosure of segment information.
Reclassifications
Certain reclassifications have been made to the financial statements for 1998
in order to conform to the 1999 presentation.
3. Business combination
On March 17, 1998, AOPP merged into PSP11, a publicly traded real estate
investment trust and an affiliate of PSI. Upon consummation of the Merger of
AOPP into PSP11, the surviving corporation was renamed "PS Business Parks,
Inc." (PSB as defined in Note 1). In connection with the Merger:
o Each outstanding share of PSP11 common stock, which did not elect cash,
continued to be owned by current holders. A total of 106,155 PSP11
common shares elected to receive cash of $20.50 per share.
o Each share of PSP11 common stock Series B and each share of PSP11 common
stock Series C converted into .8641 shares of PSP11 common stock.
o Each share of AOPP common stock converted into 1.18 shares of PSP11
common stock.
o Concurrent with the Merger, PSP11 exchanged 11 mini-warehouses and two
properties that combine mini-warehouse and commercial space for 11
commercial properties owned by PSI. The fair value of each group of real
estate facilities was approximately $48 million.
The Merger has been accounted for as a reverse merger whereby PSB is treated
as the acquirer using the purchase method. This has been determined based
upon the following: (i) the former shareholders and unitholders of PSB owned
in excess of 80% of the merged companies and (ii) the business focus
post-Merger will continue to be that of PSB's which includes the acquisition,
ownership and management of commercial properties. Prior to the Merger,
PSP11's business focus had been primarily on the ownership and operation of
its self-storage facilities which represented approximately 81% of its
portfolio.
10
Allocations of the total acquisition cost to the net assets acquired were
made based upon the fair value of PSP11's assets and liabilities as of the
date of the Merger. The acquisition cost and the fair market values of the
assets acquired and liabilities assumed in the Merger are summarized as
follows:
Acquisition cost:
-----------------
Issuance of common stock......... $46,810,000
Cash............................. 424,000
-----------
Total acquisition cost....... $47,234,000
===========
Allocation of acquisition cost:
-------------------------------
Real estate facilities........... $48,000,000
Other assets..................... 452,000
Accrued and other liabilities.... (1,218,000)
-----------
Total allocation............. $47,234,000
===========
The historical operating results of PSP11 prior to the Merger have not been
included in PSB's historical operating results. Pro forma data for the six
months ended June 30, 1998 as though the Merger and related exchange of
properties have been effective at the beginning of fiscal 1998 is as follows:
Six months ended
June 30, 1998
-------------
Revenues.................................... $38,577,000
Net income.................................. $12,161,000
Net income per share - basic................ $ 0.77
Net income per share - diluted............. $ 0.77
The pro forma data does not purport to be indicative either of the results of
operations that would have occurred had the Merger occurred at the beginning
of fiscal 1998 or of the future results of PSB.
11
4. Real estate facilities
The activity in real estate facilities for the six months ended June 30, 1999
is as follows:
Accumulated
Land Buildings Depreciation Total
------------- ------------- -------------- -------------
Balances at December 31, 1998...... $ 176,241,000 $ 536,697,000 $ (22,517,000) $ 690,421,000
Property acquisitions.............. 10,739,000 52,543,000 - 63,282,000
Capital improvements............... - 7,207,000 - 7,207,000
Depreciation expense............... - - (13,896,000) (13,896,000)
------------- ------------- -------------- -------------
Balances at June 30, 1999.......... $ 186,980,000 $ 596,447,000 $ (36,413,000) $ 747,014,000
============= ============= ============== =============
5. Leasing activity
The Company leases space in its real estate facilities to tenants under
non-cancelable leases generally ranging from one to seven years. Future
minimum rental revenues excluding recovery of expenses as of June 30, 1999
under these leases are as follows:
1999 (July - December).............. $ 47,610,000
2000................................ 76,872,000
2001................................ 54,328,000
2002................................ 36,147,000
2003................................ 23,565,000
Thereafter.......................... 33,820,000
-------------
$ 272,342,000
=============
In addition to minimum rental payments, tenants pay reimbursements for their
pro rata share of specified operating expenses, which amount to $8,216,000
and $3,992,000 for the six months ended June 30, 1999 and 1998, respectively.
These amounts are included as rental income and cost of operations in the
accompanying condensed consolidated statements of income.
6. Revolving line of credit
The Company has an unsecured line of credit (the "Credit Facility") with
Wells Fargo Bank. The Credit Facility has a borrowing limit of $100 million
and an expiration date of August 5, 2000. The expiration date may be extended
by one year on each anniversary of the Credit Facility. Interest on
outstanding borrowings is payable monthly. At the option of the Company, the
rate of interest charged is equal to (i) the prime rate or (ii) a rate
ranging from the London Interbank Offered Rate ("LIBOR") plus 0.55% to LIBOR
plus 0.95% depending on the Company's credit ratings and coverage ratios, as
defined (currently LIBOR plus 0.80%). In addition, the Company is required to
pay an annual commitment fee of 0.25%.
Under covenants of the Credit Facility, the Company is required to (i)
maintain a balance sheet leverage ratio (as defined) of less than 0.50 to
1.00, (ii) maintain interest and fixed charge coverage ratios (as defined) of
not less than 2.25 to 1.0 and 2.0 to 1.0, respectively, (iii) maintain a
minimum total shareholders' equity (as defined) and (iv) limit distributions
to 95% of funds from operations. In addition, the Company is limited in its
ability to incur additional borrowings (the Company is required to maintain
unencumbered assets with an aggregate book value equal to or greater than two
times the Company's unsecured recourse debt) or sell assets. The Company was
in compliance with the covenants of the Credit Facility at June 30, 1999.
12
7. Mortgage notes payable
Mortgage notes at June 30, 1999 consist of the following:
7.125% mortgage note, secured by one commercial property, principal
and interest payable monthly, due May 2006...................... 8,836,000
8.4% mortgage note, secured by six commercial properties, principal
and interest payable monthly, due November 2001................. 8,595,000
8.19% mortgage note, secured by one commercial property, principal
and interest payable monthly, due March 2007.................... 6,752,000
8.125% mortgage note, secured by one commercial property, principal
and interest payable monthly, due February 2009................. 6,420,000
8.125% mortgage note, secured by one commercial property, principal
and interest payable monthly, due July 2005..................... 5,376,000
7.28% mortgage note, secured by two commercial properties, principal
and interest payable monthly, due February 2003................. 4,360,000
8% mortgage note, secured by one commercial property, principal and
interest payable monthly, due April 2003........................ 2,148,000
8.5% mortgage note, secured by one commercial property, principal and
interest payable monthly, due July 2007......................... 1,921,000
8% mortgage note, secured by one commercial property, principal and
interest payable monthly, due April 2003........................ 1,664,000
-----------
$46,072,000
===========
At June 30, 1999, approximate principal maturities of mortgage notes payable
are as follows:
1999 (July - December).............. $ 482,000
2000................................ 1,045,000
2001................................ 9,280,000
2002................................ 1,018,000
2003................................ 8,017,000
Thereafter.......................... 26,230,000
-------------
$ 46,072,000
=============
13
8. Minority interest - common units
The Company presents the accounts of PSB and the Operating Partnership on a
consolidated basis. Ownership interest in the Operating Partnership, other
than PSB's interest, are classified as minority interest in the condensed
consolidated financial statements. Minority interest in income consists of
the minority interests' share of the condensed consolidated operating
results.
Beginning one year from the date of admission as a limited partner and
subject to certain limitations described below, each limited partner other
than PSB has the right to require the redemption of its partnership interest.
A limited partner that exercises its redemption right will receive cash from
the Operating Partnership in an amount equal to the market value (as defined
in the Operating Partnership Agreement) of the partnership interests
redeemed. In lieu of the Operating Partnership redeeming the partner for
cash, PSB, as general partner, has the right to elect to acquire the
partnership interest directly from a limited partner exercising its
redemption right, in exchange for cash in the amount specified above or by
issuance of one share of PSB common stock for each unit of limited
partnership interest redeemed.
A limited partner cannot exercise its redemption right if delivery of shares
of PSB common stock would be prohibited under the applicable articles of
incorporation, if the general partner believes that there is a risk that
delivery of shares of common stock would cause the general partner to no
longer qualify as a REIT, would cause a violation of the applicable
securities laws, or would result in the Operating Partnership no longer being
treated as a partnership for federal income tax purposes.
At June 30, 1999, there were 7,443,356 common units owned by minority
interests (7,305,355 were owned by PSI and affiliated entities and 138,001
were owned by unaffiliated third parties). On a fully converted basis,
assuming all 7,443,356 minority interest common units were converted into
shares of common stock of PSB at June 30, 1999, the minority interests would
own approximately 23.9% of the common shares outstanding. At the end of each
reporting period, PSB determines the amount of equity (book value of net
assets) which is allocable to the minority interest based upon the ownership
interest and an adjustment is made to the minority interest, with a
corresponding adjustment to paid-in capital, to reflect the minority
interests' equity in the Company.
9. Minority interest - preferred units
On April 23, 1999, the Operating Partnership completed a private placement of
510,000 preferred units with a preferred distribution rate of 8 7/8%. The net
proceeds from the placement of preferred units were approximately $12.5
million and were used to repay borrowings from an affiliate.
The Operating Partnership has the right to redeem the preferred units on or
after April 23, 2004 at the original capital contribution plus the cumulative
priority return to the redemption date to the extent not previously
distributed. The preferred units are exchangeable for 8 7/8% Cumulative
Preferred Stock, Series B of PS Business Parks, Inc. on or after April 23,
2009 at the option of the Operating Partnership or majority of the holders of
the preferred units and have equivalent terms to those of the Cumulative
Preferred Stock, Series A as described in Note 11.
10. Property management contracts
The Operating Partnership manages industrial, office and retail facilities
for PSI and entities affiliated with PSI. These facilities, all located in
the United States, operate under the "Public Storage" or "PS Business Parks"
name.
14
The property management contracts provide for compensation of five percent of
the gross revenue of the facilities managed. Under the supervision of the
property owners, the Operating Partnership coordinates rental policies, rent
collections, marketing activities, the purchase of equipment and supplies,
maintenance activities, and the selection and engagement of vendors,
suppliers and independent contractors. In addition, the Operating Partnership
assists and advises the property owners in establishing policies for the
hire, discharge and supervision of employees for the operation of these
facilities, including property managers, leasing, billing and maintenance
personnel.
The property management contract with PSI is for a seven year term with the
term being extended one year each anniversary. The property management
contracts with affiliates of PSI are cancelable by either party upon sixty
days notice.
11. Shareholders' equity
In addition to common and preferred stock, PSB is authorized to issue
100,000,000 shares of Equity Stock. The Articles of Incorporation provide
that the Equity Stock may be issued from time to time in one or more series
and gives the Board of Directors broad authority to fix the dividend and
distribution rights, conversion and voting rights, redemption provisions and
liquidation rights of each series of Equity Stock.
On April 30, 1999, PSB issued 2,200,000 depositary shares each representing
1/1,000 of a share of 9 1/4% Cumulative Preferred Stock, Series A. Net
proceeds from the public perpetual preferred stock offering were
approximately $53.1 million and were used to repay borrowings from an
affiliate and a mortgage note payable of approximately $11 million. The
remaining proceeds were used for investment in real estate.
Holders of the Company's preferred stock will not be entitled to vote on most
matters, except under certain conditions. In the event of a cumulative
arrearage equal to six quarterly dividends, the holders of the preferred
stock will have the right to elect two additional members to serve on the
Company's Board of Directors until all events of default have been cured. At
June 30, 1999, there were no dividends in arrears.
Except under certain conditions relating to the Company's qualification as a
REIT, the preferred stock is not redeemable prior to April 30, 2004. On or
after April 30, 2004, the preferred stock will be redeemable at the option of
the Company, in whole or in part, at $25 per depositary share, plus any
accrued and unpaid dividends.
The Company paid distributions to its common and preferred shareholders
totaling $11,819,000 ($0.50 per common share) and $862,000 ($0.391845 per
depositary share) for the six months ended June 30, 1999, respectively.
12. Recent accounting pronouncements
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities," which is
required to be adopted in years beginning after June 15, 2000. Management
anticipates that the adoption of SFAS No. 133 will have no effect on earnings
or the financial position of PSB since no derivatives are currently being
used.
13. Commitments and contingencies
PSB is subject to the risks inherent in the ownership and operation of
commercial real estate. These include, among others, the risks normally
associated with changes in the general economic climate, trends in the real
estate industry, creditworthiness of tenants, competition, changes in tax
laws, interest rate levels, the availability of financing and potential
liability under environmental and other laws.
15
Substantially all of the properties have been subjected to Phase I
environmental reviews. Such reviews have not revealed, nor is management
aware of, any probable or reasonably possible environmental costs that
management believes would be material to the condensed consolidated financial
statements except as discussed below.
The Company acquired a property in Beaverton, Oregon ("Creekside Corporate
Park") in May 1998. A property adjacent to Creekside Corporate Park is
currently the subject of an environmental remedial investigation/feasibility
study that is being conducted by the current and past owners of the property,
pursuant to an order issued by the Oregon Department of Environmental Quality
("ODEQ"). As part of that study, ODEQ ordered the property owners to sample
soil and groundwater on the Company's property to determine the nature and
extent of contamination resulting from past industrial operations at the
property subject to the study. The Company, which is not a party of the Order
on Consent, executed separate Access Agreements with the property owners to
allow access to its property to conduct the required sampling and testing.
The sampling and testing is ongoing, and preliminary results from one area
indicate that the contamination from the property subject to the study may
have migrated onto a portion of Creekside Corporate Park owned by the
Company.
There is no evidence that any past or current use of the Creekside Corporate
Park property contributed in any way to the contamination that is the subject
of the current investigation. Nevertheless, upon completion of the study, it
is likely that removal or remedial measures will be required to address any
contamination detected during the current investigation, including any
contamination on or under the Creekside Corporate Park property. Because of
the preliminary nature of the investigation, the Company cannot predict the
outcome of the investigation, nor can it estimate the costs of any
remediation or removal activities that may be required.
The Company believes that it bears no responsibility or liability for the
contamination. In the event the Company is ultimately deemed responsible for
any costs relating to this matter, the Company believes that the party from
whom the property was purchased will be responsible for any expenses or
liabilities that the Company may incur as a result of this contamination.
PSB currently is neither subject to any other material litigation nor, to
management's knowledge, is any material litigation currently threatened
against PSB other than routine litigation and administrative proceedings
arising in the ordinary course of business. Based on consultation with
counsel, management believes that these items will not have a material
adverse impact on the Company's condensed consolidated financial position or
results of operations.
14. Subsequent events
The Company acquired a commercial property in Sacramento, California
(approximately 211,000 net rentable square feet) from an unaffiliated third
party on July 29, 1999 for an aggregate cost of approximately $17 million in
cash. The Company obtained the funds to acquire the facilities from its
existing cash balance which included cash generated from July operations.
16
Item 2: Management's Discussion and Analysis of Financial Condition and
Results of Operations
---------------------------------------------------------------
General: Private Securities Litigation Reform Act Safe Harbor
Statement. In addition to historical information, management's discussion and
analysis includes certain forward-looking statements regarding events and
financial trends which may affect the Company's future operating results and
financial position. Such forward-looking statements are often identified by the
words "estimate," "project," "intend," "plan," "expect," "believe," or similar
expressions. Such statements are subject to risks and uncertainties that could
cause the Company's actual results and financial position to differ materially
from that indicated by the forward-looking statement. Such factors include, but
are not limited to a change in economic conditions in the various markets served
by the Company's operations which would adversely affect the level of demand for
rental of commercial space and the cost structure of the Company. Readers are
cautioned not to place undue reliance on these forward-looking statements, which
speak only as of the date hereof. The Company undertakes no obligation to
publicly release the result of any revisions to these forward-looking statements
to reflect events or circumstances after the date hereof or to reflect the
occurrence of unanticipated events.
Overview: Comparisons between the three and six months ended June 30,
1999 and 1998 will reflect significant levels of acquisitions during 1998 and
the first six months of 1999.
During 1998, the Company added 4.9 million square feet to its
portfolio. The cost of these acquisitions was approximately $378 million. The
acquisitions added square footage to each of the Company's existing core
markets. The Company acquired 1,687,000 square feet in Texas at an aggregate
cost of approximately $102 million; 1,001,000 square feet in Portland, Oregon at
an aggregate cost of approximately $115 million; 1,442,000 square feet in the
Northern Virginia/Maryland market at an aggregate cost of approximately $108
million; 422,000 square feet in Southern California at an aggregate cost of
approximately $25 million and 307,000 square feet in Northern California at an
aggregate cost of approximately $25 million. In addition, the Company acquired
62,000 square feet in the Merger at an aggregate cost of approximately $3
million in a market the Company does not consider a core market.
During the six months ended June 30, 1999, the Company added 711,000
square feet to its portfolio. The cost of these acquisitions was approximately
$63 million. These acquisitions increased the Company's presence in existing
markets, which the Company believes have characteristics necessary for long-term
growth. The Company acquired 306,000 square feet in Texas at an aggregate cost
of approximately $23 million and 405,000 square feet in the Northern
Virginia/Maryland market at an aggregate cost of approximately $40 million.
Subsequent to June 30, 1999, the Company acquired a commercial property
in Sacramento, California (approximately 211,000 net rentable square feet) from
an unaffiliated third party for an aggregate cost of approximately $17 million
in cash.
Results of Operations: Net income for the three months ended June 30,
1999 was $10,255,000 compared to $7,046,000 for the same period in 1998. Net
income allocable to common shareholders (net income less preferred stock
dividends) for the three months ended June 30, 1999 was $9,393,000 compared to
$7,046,000 for the same period in 1998. Net income per common share on a diluted
basis was $0.40 (based on weighted average diluted shares outstanding of
23,716,000) for the three months ended June 30, 1999 compared to net income per
common share on a diluted basis of $0.38 (based on diluted weighted average
shares outstanding of 18,711,000) for the same period in 1998, representing an
increase of 5.3%. Net income for the six months ended June 30, 1999 was
$19,697,000 compared to $11,376,000 for the same period in 1998. Net income
allocable to common shareholders (net income less preferred stock dividends) for
the six months ended June 30, 1999 was $18,835,000 compared to $11,376,000 for
the same period in 1998. Net income per common share on a diluted basis was
$0.79 (based on weighted average diluted shares outstanding of 23,709,000) for
the six months ended June 30, 1999 compared to net income per common share on a
diluted basis of $0.76 (based on diluted weighted average shares outstanding of
14,978,000) for the same period in 1998, representing an increase of 3.9%. The
increases in net income and net income per share reflects PSB's significant
growth in its asset base through the acquisition of commercial properties and
increase in net operating income from the consistent group of properties.
17
The Company's property operations account for almost all of the net
operating income earned by the Company. The following table presents the
pre-depreciation operating results of the properties for the three and six
months ended June 30, 1999 and 1998:
Three Months Ended June 30,
-----------------------------
1999 1998 Change
----------- ----------- --------
Rental income:
Facilities owned throughout each period (50 facilities,
6.4 million net rentable square feet)................ $15,645,000 $14,057,000 11.3%
Facilities acquired subsequent to January 1998 (70
facilities, 5.2 million net rentable square feet).... 15,214,000 7,414,000 105.2%
----------- ----------- --------
Total rental income......................................... $30,859,000 $21,471,000 43.7%
=========== =========== ========
Cost of operations (excluding depreciation):
Facilities owned throughout each period................ $ 4,785,000 $ 4,613,000 3.7%
Facilities acquired subsequent to January 1998......... 3,870,000 1,742,000 122.2%
----------- ----------- --------
Total cost of operations.................................... $ 8,655,000 $ 6,355,000 36.2%
=========== =========== ========
Net operating income (rental income less cost of operations):
Facilities owned throughout each period................ $10,860,000 $ 9,444,000 15.0%
Facilities acquired subsequent to January 1998......... 11,344,000 5,672,000 100.0%
----------- ----------- --------
Total net operating income.................................. $22,204,000 $15,116,000 46.9%
=========== =========== ========
Six Months Ended June 30,
-----------------------------
1999 1998 Change
----------- ----------- --------
Rental income:
Facilities owned throughout each period (50 facilities,
6.4 million net rentable square feet)................ $30,878,000 $27,844,000 10.9%
Facilities acquired subsequent to January 1998 (70
facilities, 5.2 million net rentable square feet).... 29,098,000 7,980,000 264.6%
----------- ----------- --------
Total rental income......................................... $59,976,000 $35,824,000 67.4%
=========== =========== ========
Cost of operations (excluding depreciation):
Facilities owned throughout each period................ $9,327,000 $9,057,000 3.0%
Facilities acquired subsequent to January 1998......... 7,704,000 1,925,000 300.2%
----------- ----------- --------
Total cost of operations.................................... $17,031,000 10,982,000 55.1%
=========== =========== ========
Net operating income (rental income less cost of operations):
Facilities owned throughout each period................ $21,551,000 $18,787,000 14.7%
Facilities acquired subsequent to January 1998......... 21,394,000 6,055,000 253.3%
----------- ----------- --------
Total net operating income.................................. $42,945,000 $24,842,000 72.9%
=========== =========== ========
18
Rental income and rental income less cost of operations or net
operating income ("NOI") prior to depreciation are summarized for the three
months ended June 30, 1999 by major geographic region below:
Square Percent Rental Percent Percent
Region Footage of Total Income of Total NOI of Total
- -------------------------- --------- -------- ----------- -------- ----------- --------
Southern California....... 3,091,000 26.5% $ 8,498,000 27.5% $ 6,246,000 28.1%
Northern California....... 1,106,000 9.5% 2,162,000 7.0% 2,023,000 9.1%
Virginia.................. 1,612,000 13.8% 4,300,000 13.9% 2,988,000 13.5%
Maryland.................. 1,104,000 9.5% 3,476,000 11.3% 2,382,000 10.7%
Texas..................... 2,796,000 24.0% 7,189,000 23.3% 4,740,000 21.3%
Oregon.................... 1,103,000 9.5% 3,987,000 12.9% 3,074,000 13.8%
Other..................... 833,000 7.2% 1,247,000 4.1% 751,000 3.5%
---------- -------- ----------- -------- ----------- --------
11,645,000 100.0% $30,859,000 100.0% $22,204,000 100.0%
========== ======== =========== ======== =========== ========
Rental income and rental income less cost of operations or net
operating income ("NOI") prior to depreciation are summarized for the six months
ended June 30, 1999 by major geographic region below:
Square Percent Rental Percent Percent
Region Footage of Total Income of Total NOI of Total
- -------------------------- --------- -------- ----------- -------- ----------- --------
Southern California....... 3,091,000 26.5% $16,402,000 27.3% $12,144,000 28.3%
Northern California....... 1,106,000 9.5% 5,432,000 9.1% 4,061,000 9.5%
Virginia.................. 1,612,000 13.8% 8,243,000 13.7% 5,838,000 13.6%
Maryland.................. 1,104,000 9.5% 6,746,000 11.2% 4,760,000 11.1%
Texas..................... 2,796,000 24.0% 12,947,000 21.6% 8,552,000 19.9%
Oregon.................... 1,103,000 9.5% 7,336,000 12.2% 5,791,000 13.5%
Other..................... 833,000 7.2% 2,870,000 4.9% 1,799,000 4.1%
---------- -------- ----------- -------- ----------- --------
11,645,000 100.0% $59,976,000 100.0% $42,945,000 100.0%
========== ======== =========== ======== =========== ========
Supplemental Property Data and Trends: In order to evaluate the
performance of the Company's overall portfolio, management analyzes the
operating performance of a consistent group of 62 properties (7.2 million net
rentable square feet). These 62 properties in which the Company currently has an
ownership interest (herein referred to as the "Same Park" facilities) have been
managed by the Company since January 1998. The following table summarizes the
pre-depreciation historical operating results of the "Same Park" facilities
excluding the effects of accounting for rental income on a straight-line basis.
The "Same Park" facilities now represent approximately 62% of the square footage
of the Company's portfolio at June 30, 1999.
19
"Same Park" Facilities (62 Properties)
Three months ended June 30,
----------------------------------------------
1999 1998 Change
----------- ----------- --------
Rental income (1)............................................ $17,839,000 $16,434,000 8.5%
Cost of operations........................................... 5,673,000 5,479,000 3.5%
----------- ----------- --------
Net operating income.................................... $12,166,000 $10,955,000 11.1%
=========== =========== ========
Gross margin (2)............................................. 68.2% 66.7% 1.5%
Weighted average for period:
----------------------------
Occupancy............................................... 97.3% 94.1% 3.2%
Annualized realized rent per sq. ft.(3)................. $10.19 $9.70 5.1%
.....................................................................................................................
Six months ended June 30,
----------------------------------------------
1999 1998 (4) Change
----------- ----------- --------
Rental income (1)............................................ $35,328,000 $32,608,000 8.3%
Cost of operations........................................... 11,048,000 10,714,000 3.1%
----------- ----------- --------
Net operating income.................................... $24,280,000 $21,894,000 10.9%
=========== =========== ========
Gross margin (2)............................................. 68.7% 67.1% 1.6%
Weighted average for period:
----------------------------
Occupancy............................................... 96.7% 93.7% 3.0%
Annualized realized rent per sq. ft.(3)................. $10.14 $9.66 5.0%
- ------------------
(1) Rental income does not include the effect of straight-line accounting.
(2) Gross margin is computed by dividing property net operating income by
rental income.
(3) Realized rent per square foot represents the actual revenues earned per
occupied square foot.
(4) Operations for the six months ended June 30, 1998 represent the historical
operations of the 62 properties; however, the Company did not own all of
the properties throughout the periods presented and therefore such
operations are not reflected in the Company's historical operating results.
All such properties were owned effective March 17, 1998.
20
The following tables summarize the "Same Park" operating results by
major geographic region for the three months ended June 30, 1999 and 1998:
Revenues Revenues Percent NOI NOI Percent
1999 1998 Increase 1999 1998 Increase
----------- ----------- -------- ----------- ----------- ---------
Southern California....... $ 7,852,000 $ 7,065,000 11.1% $ 5,655,000 $ 4,787,000 18.1%
Northern California....... 2,054,000 1,944,000 5.7% 1,539,000 1,317,000 16.9%
Texas..................... 1,888,000 1,675,000 12.7% 1,017,000 964,000 5.5%
Virginia.................. 2,200,000 2,113,000 4.1% 1,417,000 1,393,000 1.7%
Maryland.................. 2,243,000 2,065,000 8.6% 1,470,000 1,453,000 1.2%
Arizona................... 695,000 671,000 3.6% 434,000 450,000 (3.6%)
Other..................... 907,000 901,000 0.7% 634,000 591,000 7.3%
----------- ----------- -------- ----------- ----------- ---------
$17,839,000 $16,434,000 8.5% $12,166,000 $10,955,000 11.1%
=========== =========== ======== =========== =========== =========
The following tables summarize the "Same Park" operating results by
major geographic region for the six months ended June 30, 1999 and 1998:
Revenues Revenues Percent NOI NOI Percent
1999 1998 Increase 1999 1998 Increase
----------- ----------- -------- ----------- ----------- ---------
Southern California....... $15,554,000 $14,053,000 10.7% $11,285,000 $ 9,653,000 16.9%
Northern California....... 4,040,000 3,765,000 7.3% 2,996,000 2,697,000 11.1%
Texas..................... 3,620,000 3,268,000 10.8% 1,961,000 1,750,000 12.1%
Virginia.................. 4,428,000 4,221,000 4.9% 2,906,000 2,776,000 4.7%
Maryland.................. 4,502,000 4,181,000 7.7% 3,060,000 2,998,000 2.1%
Arizona................... 1,389,000 1,336,000 4.0% 887,000 881,000 0.7%
Other..................... 1,795,000 1,784,000 0.6% 1,185,000 1,139,000 4.0%
----------- ----------- -------- ----------- ----------- ---------
$35,328,000 $32,608,000 8.3% $24,280,000 $21,894,000 10.9%
=========== =========== ======== =========== =========== =========
The growth in the strong Southern California market was accentuated by
increasing occupancies in the New York Common portfolio acquired in December
1997 which rose from 92.6% in the second quarter of 1998 to 97.7% for the same
period in 1999 and 91.4% in the first half of 1998 to 98.3% for the same period
in 1999. The performance of the Texas facilities reflects improvements in the
Austin and San Antonio facilities as well as economies of scale created by
substantial square footage added to the Texas market over the last twelve
months.
Facility Management Operations: The Company's facility management
accounts for a small portion of the Company's net operating income. During the
three months ended June 30, 1999, $93,000 in net operating income was recognized
from facility management operations compared to $117,000 for the same period in
1998. During the six months ended June 30, 1999, $184,000 in net operating
income was recognized from facility management operations compared to $294,000
for the same period in 1998. Facility management fees have decreased due to the
Company's acquisition of properties previously managed.
Interest and Other Income: Interest and other income primarily reflect
earnings on cash balances. Interest income was $273,000 for the three months
ended June 30, 1999 compared to $311,000 for the same period in 1998. Interest
income was $293,000 for the six months ended June 30, 1999 compared to $544,000
for the same period in 1998. The decrease is attributable to decreased average
cash balances. Average cash balances for the three months ended June 30, 1999
were approximately $21.8 million compared to $24.9 million for the same period
in 1998. Average cash balances for the six months ended June 30, 1999 were
approximately $11.7 million compared to $21.8 million for the same period in
1998.
21
Cost of Operations: Cost of operations for the three months ended June
30, 1999 was $8,655,000 compared to $6,355,000 for the same period in 1998. Cost
of operations for the six months ended June 30, 1999 was $17,031,000 compared to
$10,982,000 for the same period in 1998. Cost of operations for the three months
ended June 30, 1999 consists primarily of property taxes ($2,672,000), property
maintenance ($1,335,000), utilities ($1,212,000) and direct payroll
($1,089,000). Cost of operations for the six months ended June 30, 1999 consists
primarily of property taxes ($5,273,000), property maintenance ($2,590,000),
utilities ($2,402,000) and direct payroll ($2,177,000). The increases are due
primarily to the growth in the total square footage of the Company's portfolio
of properties. Cost of operations as a percentage or rental income decreased
from 29.6% to 28.0% and from 30.6% to 28.4% for the three and six months ended
June 30, 1999 compared to the same period in 1998, respectively, as a result of
economies of scale achieved through the acquisition of properties in existing
markets partially offset by an increase in property tax expense.
Depreciation and Amortization Expense: Depreciation and amortization
expense for the three months ended June 30, 1999 was $7,314,000 compared to
$4,256,000 for the same period in 1998. Depreciation and amortization expense
for the six months ended June 30, 1999 was $14,047,000 compared to $6,556,000
for the same period in 1998. The increase is due to the acquisition of real
estate facilities in 1998 and 1999.
General and Administrative Expense: General and administrative expense
was $795,000 for the three months ended June 30, 1999 compared to $551,000 for
the same period in 1998. General and administrative expense was $1,597,000 for
the six months ended June 30, 1999 compared to $996,000 for the same period in
1998. The increase is due to the increased size and acquisition activities of
the Company. Included in general and administrative costs are acquisition costs
and abandoned transaction costs. Acquisition expenses for the three months ended
June 30, 1999 and 1998 were $95,000 and $196,000, respectively. Abandoned
transaction costs were $28,000 and $4,000 for the three months ended June 30,
1999 and 1998, respectively. Acquisition expenses for the six months ended June
30, 1999 and 1998 were $185,000 and $278,000, respectively. Abandoned
transaction costs were $30,000 and $4,000 for the six months ended June 30, 1999
and 1998, respectively.
Interest Expense: Interest expense was $772,000 for the three months
ended June 30, 1999 compared to $822,000 for the same period in 1998. The
increase is attributable to mortgage notes assumed in connection with the
acquisition of real estate facilities ($807,000 in interest expense) and
temporary financing in connection with acquisitions ($190,000) net of $225,000
of interest expense capitalized to ongoing construction projects for the three
months ended June 30, 1999. Interest expense was $1,681,000 for the six months
ended June 30, 1999 compared to $1,069,000 for the same period in 1998. The
increase is attributable to mortgage notes assumed in connection with the
acquisition of real estate facilities ($1,500,000 in interest expense) and
temporary financing in connection with acquisitions ($591,000) net of $410,000
of interest expense capitalized to ongoing construction projects for the six
months ended June 30, 1999.
Minority Interest in Income: Minority interest in income reflects the
income allocable to equity interests in the Operating Partnership which are not
owned by the Company. Minority interest in income for the three months ended
June 30, 1999 was $3,434,000 ($214,000 allocated to preferred unitholders and
$3,220,000 allocated to common unitholders) compared to $2,869,000 ($2,869,000
allocated to common unitholders) for the same period in 1998. Minority interest
in income for the six months ended June 30, 1999 was $6,400,000 ($214,000
allocated to preferred unitholders and $6,186,000 allocated to common
unitholders) compared to $5,683,000 ($5,683,000 allocated to common unitholders)
for the same period in 1998. The increase in minority interest in income is due
to improved operating results, the issuance of additional common units in
connection with the acquisition of real estate facilities and the private
placement of preferred units.
22
Liquidity and Capital Resources
- -------------------------------
Net cash provided by operating activities for the six months ended June
30, 1999 and 1998 was $41,846,000 and $23,609,000, respectively. Management
believes that the Company's internally generated net cash provided by operating
activities will continue to be sufficient to enable it to meet its operating
expenses, capital improvements, debt service requirements and maintain the
current level of distribution to shareholders.
The following table summarizes the Company's ability to make capital
improvements to maintain its facilities through the use of cash provided by
operating activities. The remaining cash flow is available to the Company to pay
distributions to shareholders and acquire property interests.
Six months ended June 30,
----------------------------
1999 1998
------------ ------------
Net income.......................................................... $ 19,697,000 $ 11,376,000
Depreciation and amortization....................................... 14,047,000 6,556,000
Minority interest in income......................................... 6,400,000 5,683,000
Change in working capital........................................... 1,702,000 (6,000)
------------ ------------
Net cash provided by operating activities........................... 41,846,000 23,609,000
Maintenance capital expenditures.................................... (1,422,000) (1,197,000)
Tenant improvements................................................. (2,665,000) (1,334,000)
Capitalized lease commissions....................................... (878,000) (644,000)
------------ ------------
Funds available for distributions to shareholders, minority interests,
acquisitions and other corporate purposes......................... 36,881,000 20,434,000
Cash distributions to shareholders and minority interests........... (16,602,000) (14,392,000)
------------ ------------
Excess funds available for acquisitions and other corporate purposes $ 20,279,000 $ 6,042,000
============ ============
The Company's capital structure is characterized by a low level of
leverage. As of June 30, 1999, the Company had nine fixed rate mortgage notes
payable totaling $46,072,000 which represented 6% of its total capitalization
(based on book value, including minority interests and debt). The weighted
average interest rate for the mortgage notes is 7.92%.
On August 6, 1998, The Company entered into an unsecured line of credit
(the "Credit Agreement") with Wells Fargo Bank. The Credit Agreement has a
borrowing limit of $100 million and an expiration date of August 5, 2000. The
expiration date may be extended by one year on each anniversary of the Credit
Agreement. Interest on outstanding borrowings is payable monthly. At the option
of the Company, the rate of interest charged is equal to (i) the prime rate or
(ii) a rate ranging from the London Interbank Offered Rate ("LIBOR") plus 0.55%
to LIBOR plus 0.95% depending on the Company's credit ratings and interest
coverage ratios, as defined (currently LIBOR plus 0.80%). In addition, the
Company is required to pay an annual commitment fee of 0.25%.
The Company expects to fund its growth strategies with permanent
capital, including issuances of common and preferred stock and internally
generated retained cash flows. The Company may finance acquisitions on a
temporary basis with borrowings from its line of credit. The Company intends to
repay amounts borrowed under the credit facility from undistributed cash flow
or, as market conditions permit and as determined to be advantageous, from the
public or private placement of preferred and common stock or formation of joint
ventures. The Company targets a leverage ratio of 40% and a Funds from
Operations ("FFO") to combined fixed charges and preferred distributions ratio
of 3.0 to 1.0. As of June 30, 1999 and for the six months then ended, the
leverage ratio was 13% and the FFO to combined fixed charges and preferred
distributions coverage ratio was 12.7 to 1.0.
In April 1999, the Company completed a private placement of preferred
OP units and a public offering of depositary shares representing fractional
interests in perpetual preferred stock resulting in net proceeds totaling $65.6
million. The net proceeds from the placement of preferred OP units, completed
23
April 23, 1999 were approximately $12.5 million and the preferred OP units have
a preferred distribution rate of 8 7/8% on a stated value of $12.75 million. The
preferred OP units have equivalent terms to those of perpetual preferred stock.
Net proceeds from the public perpetual preferred stock offering completed April
30, 1999 were $53.1 million, and the preferred stock has a dividend rate of 9
1/4% on a stated value of $55 million. Proceeds from the issuances were used to
pay off borrowings from an affiliate and a portion was used to repay a mortgage
note payable of approximately $11 million. The remaining proceeds have been used
for investment in real estate.
Funds from Operations: FFO is defined as net income, computed in
accordance with generally accepted accounting principles ("GAAP"), before
depreciation, amortization, minority interest in income, straight line rent
adjustments and extraordinary or non-recurring items. FFO is presented because
the Company considers FFO to be a useful measure of the operating performance of
a REIT which, together with net income and cash flows provides investors with a
basis to evaluate the operating and cash flow performances of a REIT. FFO does
not represent net income or cash flows from operations as defined by GAAP. FFO
does not take into consideration scheduled principal payments on debt and
capital improvements. Accordingly, FFO is not necessarily a substitute for cash
flow or net income as a measure of liquidity or operating performance or ability
to make acquisitions and capital improvements or ability to pay distributions or
debt principal payments. Also, FFO as computed and disclosed by the Company may
not be comparable to FFO computed and disclosed by other REITs.
FFO for the Company is computed as follows:
Six months ended June 30,
----------------------------
1999 1998
------------ ------------
Net income allocable to common shareholders........................ $ 18,835,000 $ 11,376,000
Depreciation and amortization.................................... 14,047,000 6,556,000
Minority interest in income - common units....................... 6,186,000 5,683,000
Less effects of straight-line rents.............................. (1,607,000) -
------------ ------------
Consolidated FFO allocable to common shareholders and common
unitholders........................................................ 37,461,000 23,615,000
FFO allocated to minority interest - common units.................. (9,010,000) (7,888,000)
------------ ------------
FFO allocated to common shareholders............................... $ 28,451,000 $ 15,727,000
============ ============
Capital Expenditures: During the first half of 1999, the Company
incurred a total of $5.0 million in maintenance capital expenditures, tenant
improvements and capitalized lease commissions. In addition, the Company made
$1.7 million of renovation expenditures. On a recurring annual basis, the
Company expects $0.90 to $1.20 per square foot in recurring maintenance capital
expenditures, tenant improvements and capitalized lease commissions. During the
remainder of 1999, the Company expects to make an additional $1.3 million in
additional expenditures to continue renovation on two properties in Texas.
Distributions: The Company has elected and intends to qualify as a REIT
for federal income tax purposes. As a REIT, the Company must meet, among other
tests, sources of income, share ownership and certain asset tests. In addition,
the Company is not taxed on that portion of its taxable income which is
distributed to its shareholders provided that at least 95% of its taxable income
is so distributed to its shareholders prior to filing of its tax return.
The Board of Directors declared a quarterly dividend of $0.25 per
common share on August 2, 1999. The Board of Directors has established a
distribution policy to maximize the retention of cash flow and only distribute
the minimum amount required for the Company to maintain its tax status as a
REIT. In addition, the Board of Directors declared a quarterly dividend of
$0.578125 per share on the 2,200,000 depositary shares each representing 1/1,000
of a share of 9 1/4% Cumulative Preferred Stock, Series A. Distributions are
payable on September 30, 1999 to shareholders of record as of the close of
business on September 15, 1999.
24
Impact of Year 2000
- -------------------
The Company utilizes PSI's information systems in connection with a
cost sharing and administrative services agreement. The Company and PSI have
completed an assessment of all of its hardware and software applications
including those affecting the Company to identify susceptibility to what is
commonly referred to as the "Y2K Issue" whereby certain computer programs have
been using two digits rather than four to define the applicable year. Certain
computer programs or hardware with the Y2K Issue have date-sensitive
applications or embedded chips that may recognize a date using "00" as the year
1900 rather than the year 2000, resulting in miscalculations or system failure
causing disruptions to operations.
The Company in conjunction with PSI has two phases in its process with
respect to each of its systems; i) assessment, whereby the Company and PSI
evaluates whether the system is Y2K compliant and identifies the plan of action
with respect to remediating any Y2K issues identified and ii) implementation,
whereby the Company and PSI completes the plan of action prepared in the
assessment phase and verifies that Y2K compliance has been achieved.
Implementations have been completed for PSI's critical applications
that impact the Company, including its general ledger and related systems, that
are believed to have Y2K issues. Contingency plans have been developed for use
in case the assessment did not identify all such Y2K issues, or if the
implementation were subsequently determined to not fully remediate Y2K issues
that were identified. The Company presently believes that the impact of the Y2K
Issue on its system can be mitigated. However, if the plan for ensuring Y2K
compliance and the related contingency plans were to fail, be insufficient, or
not be implemented on a timely basis, operations of the Company could be
materially impacted.
Certain of the Company's other non-computer related systems that may be
impacted by the Y2K Issue, such as security systems, have been evaluated. The
Company expects the implementation of any required solutions to be complete in
advance of December 31, 1999. The Company has not fully evaluated the impact of
lack of Y2K compliance on these systems, but has no reason to believe that lack
of compliance would materially impact its operations.
The Company exchanges electronic data with certain outside vendors in
the banking and payroll processing areas. The Company has been advised by these
vendors that their systems are or will be Y2K compliant and has requested a Y2K
compliance certification from these entities. The Company is not aware of any
other vendors, suppliers, or other external agents with a Y2K Issue that would
materially impact the Company's results of operations, liquidity, or capital
resources. However, the Company has no means of ensuring that external agents
will be Y2K compliant, and there can be no assurance that the Company has
identified all such external agents. The inability of external agents to
complete their Year 2000 compliance process in a timely fashion could materially
impact the Company. The effect of non-compliance by external agents is not
determinable.
The total cost of PSI's Y2K compliance activities (which primarily
consists of the costs of implementing new systems) will be allocated to all
entities that use the PSI computer systems. The amount to be allocated to the
Company is estimated at approximately $250,000.
The costs of the projects and the date on which PSI and the Company
believe that it will be Y2K compliant are based upon management's best
estimates, and were derived utilizing numerous assumptions of future events.
There can be no assurance that these estimates will be achieved, and actual
results could differ materially from those anticipated. There can be no
assurance that PSI and the Company have identified all potential Y2K Issues
either within the Company or at external agents. In addition, the impact of the
Y2K issue on governmental entities and utility providers and the resultant
impact on the Company, as well as disruptions in the general economy, may be
material but cannot be reasonably determined or quantified.
25
Item 3. Quantitative and Qualitative Disclosures about Market Risk
----------------------------------------------------------
To limit the Company's exposure to market risk, the Company principally
finances its operations and growth with permanent equity capital consisting
either of common or preferred stock. At June 30, 1999, the Company's debt as a
percentage of shareholders' equity (based on book values) was 8.4%.
The Company's market risk sensitive instruments include mortgage notes
payable which totaled $46,072,000 at June 30, 1999. Substantially all of the
Company's mortgage notes payable bear interest at fixed rates. See Note 7 of the
Notes to Condensed Consolidated Financial Statements for terms, valuations and
approximate principal maturities of the mortgage notes payable as of June 30,
1999. Based on borrowing rates currently available to the Company, the carrying
amount of debt approximates fair value.
26
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
-----------------
PS Business Parks, L.P. v. Principal Mutual Life Insurance Company, et
----------------------------------------------------------------------
al., Circuit Court of Washington County, Oregon (filed April 29, 1999)
- ---
In May 1998, the Company acquired a property in Beaverton, Oregon. An
adjacent property is the subject of an environmental remedial investigation. For
additional information on the investigation, please refer to the Company's 1998
annual report on Form 10-K under "Item 7. Management's Discussion and Analysis
of Financial Condition and Results of Operations - Risk Factors - Our Business
Could Be Subject to Environmental Liabilities."
In April 1999, the Company commenced an action against the sellers of
the property seeking indemnification for any damages and expenses that may be
incurred by the Company in this matter and for other relief. The Company is not
currently able to quantify the extent of such damages and expenses.
Item 4. Submission of Matters to a Vote of Security Holders
---------------------------------------------------
The Company held an annual meeting of shareholders on May 10, 1999.
Proxies for the annual meeting were solicited pursuant to Regulation 14 under
the Securities Exchange Act of 1934. The annual meeting involved the following
matters:
1. Election of Directors
Number of Shares of Common Stock
--------------------------------
Name Voted For Withheld
---- --------- --------
Ronald L. Havner, Jr. 18,234,020 12,962
Harvey Lenkin 18,234,020 12,962
Vern O. Curtis 18,234,520 12,462
Arthur M. Friedman 18,234,520 12,462
James H. Kropp 18,234,520 12,462
Alan K. Pribble 18,234,520 12,462
Jack D. Steele 18,234,420 12,562
2. Approval of amendments to the Company's articles of incorporation to
increase the ownership limitation applicable to the Company's Common Stock
from 2% to 7% of the outstanding Common Stock - approval of this proposal
required the affirmative vote of the holders of a majority of the
Company's outstanding shares of Common Stock, and this proposal was
approved by the following vote:
For Against Abstain No Vote
------------ --------- --------- ---------
Common Stock 17,512,080 18,676 32,070 684,156
27
Item 6. Exhibits and Reports on Form 8-K
--------------------------------
(a) Exhibits
2.1 Amended and Restated Agreement and Plan of Reorganization among
Registrant, American Office Park Properties, Inc. ("AOPP") and
Public Storage, Inc. ("PSI") dated as of December 17, 1997. Filed
with Registrant's Registration Statement No. 333-45405 and
incorporated herein by reference.
3.1 Restated Articles of Incorporation. Filed with Registrant's
Registration Statement No. 333-78627 and incorporated herein by
reference.
3.2 Restated Bylaws. Filed with Registrant's Current Report on Form 8-K
dated March 17, 1998 and incorporated herein by reference.
10.1 Amended Management Agreement between Storage Equities, Inc. and
Public Storage Commercial Properties Group, Inc. dated as of
February 21, 1995. Filed with PSI's Annual Report on Form 10-K for
the year ended December 31, 1994 and incorporated herein by
reference.
10.2 Registrant's 1997 Stock Option and Incentive Plan. Filed with
Registrant's Registration Statement No. 333-48313 and incorporated
herein by reference.
10.3 Agreement of Limited Partnership of PS Business Parks, L.P. Filed
with Registrant's Quarterly Report on Form 10-Q for the quarterly
period ended June 30, 1998 and incorporated herein by reference.
10.4 Merger and Contribution Agreement dated as of December 23, 1997
among Acquiport Two Corporation, Acquiport Three Corporation, New
York State Common Retirement Fund, American Office Park Properties,
L.P., AOPP and AOPP Acquisition Corp. Three. Filed with Registrant's
Registration Statement No. 333-45405 and incorporated herein by
reference.
10.5 Agreement Among Shareholders and Company dated as of December 23,
1997 among Acquiport Two Corporation, AOPP, American Office Park
Properties, L.P. and PSI. Filed with Registrant's Registration
Statement No. 333-45405 and incorporated herein by reference.
10.6 Amendment to Agreement Among Shareholders and Company dated as of
January 21, 1998 among Acquiport Two Corporation, AOPP, American
Office Park Properties, L.P. and PSI. Filed with Registrant's
Registration Statement No. 333-45405 and incorporated herein by
reference.
10.7 Non-Competition Agreement dated as of December 23, 1997 among PSI,
AOPP, American Office Park Properties, L.P. and Acquiport Two
Corporation. Filed with Registrant's Registration Statement No.
333-45405 and incorporated herein by reference.
10.8 Employment Agreement between AOPP and Ronald L. Havner, Jr. dated as
of December 23, 1997. Filed with Registrant's Registration Statement
No. 333-45405 and incorporated herein by reference.
10.9 Employment Agreement between AOPP and Mary Jayne Howard dated as of
December 23, 1997. Filed with Registrant's Registration Statement
No. 333-45405 and incorporated herein by reference.
10.10 Employment Agreement between Registrant and J. Michael Lynch dated
as of May 20, 1998. Filed with Registrant's Quarterly Report on Form
10-Q for the quarterly period ended June 30, 1998 and incorporated
herein by reference.
10.11 Common Stock Purchase Agreement dated as of January 23, 1998 among
AOPP and the Investors signatory thereto. Filed with Registrant's
Registration Statement No. 333-45405 and incorporated herein by
reference.
28
10.12 Registration Rights Agreement dated as of January 30, 1998 among
AOPP and the Investors signatory thereto. Filed with Registrant's
Registration Statement No. 333-45405 and incorporated herein by
reference.
10.13 Registration Rights Agreement dated as of March 17, 1998 between
Registrant and Acquiport Two Corporation ("Acquiport Registration
Rights Agreement"). Filed with Registrant's Quarterly Report on Form
10-Q for the quarterly period ended June 30, 1998 and incorporated
herein by reference.
10.14 Letter dated May 20, 1998 relating to Acquiport Registration Rights
Agreement. Filed with Registrant's Quarterly Report on Form 10-Q for
the quarterly period ended June 30, 1998 and incorporated herein by
reference.
10.15 Revolving Credit Agreement dated August 6, 1998 among PS Business
Parks, L.P., Wells Fargo Bank, National Association, as Agent, and
the Lenders named therein. Filed with Registrant's Quarterly Report
on Form 10-Q for the quarterly period ended June 30, 1998 and
incorporated herein by reference.
10.16 Form of Indemnity Agreement. Filed with Registrant's Quarterly
Report on Form 10-Q for the quarterly period ended March 31, 1998
and incorporated herein by reference.
10.17 Cost Sharing and Administrative Services Agreement dated as of
November 16, 1995 by and among PSCC, Inc. and the owners listed
therein. Filed with Registrant's Quarterly Report on Form 10-Q for
the quarterly period ended March 31, 1998 and incorporated herein by
reference.
10.18 Amendment to Cost Sharing and Administrative Services Agreement
dated as of January 2, 1997 by and among PSCC, Inc. and the owners
listed therein. Filed with Registrant's Quarterly Report on Form
10-Q for the quarterly period ended March 31, 1998 and incorporated
herein by reference.
10.19 Accounts Payable and Payroll Disbursement Services Agreement dated
as of January 2, 1997 by and between PSCC, Inc. and American Office
Park Properties, L.P. Filed with Registrant's Quarterly Report on
Form 10-Q for the quarterly period ended March 31, 1998 and
incorporated herein by reference.
10.20 Amendment to Agreement of Limited Partnership of PS Business Parks,
L.P. Relating to 8 7/8% Series B Cumulative Redeemable Preferred
Units, dated as of April 23, 1999. Filed with Registrant's Quarterly
Report on Form 10-Q for the quarterly period ended March 31, 1999
and incorporated herein by reference.
10.21 Amendment to Agreement of Limited Partnership of PS Business Parks,
L.P. Relating to 9 1/4% Series A Cumulative Redeemable Preferred
Units, dated as of April 30, 1999. Filed with Registrant's Quarterly
Report on Form 10-Q for the quarterly period ended March 31, 1999
and incorporated herein by reference.
11 Statement re: Computation of Earnings per Share. Filed herewith.
12 Statement re: Computation of Ratio of Earnings to Fixed Charges.
Filed herewith.
27 Financial Data Schedule. Filed herewith.
(b) Reports on Form 8-K
The Registrant filed a Current Report on Form 8-K dated April 28, 1999,
pursuant to Item 5, which filed certain exhibits relating to the
Registrant's public offering of Depositary Shares Each Representing
1/1000 of a Share of 9 1/4 Cumulative Preferred Stock, Series A.
29
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.
Dated: August 10, 1999
PS BUSINESS PARKS, INC.
By: /s/ Jack Corrigan
-------------------------
Jack Corrigan
Vice President and
Chief Financial Officer
30