1
EXHIBIT 13
Annual Report to Shareholders
2
EXHIBIT 13
Selected Financial
INFORMATION
The following table sets forth financial information for the Company
which is derived from the Consolidated Financial Statements of the Company
(Dollars in thousands, except per share data):
Years Ended December 31,
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1999 1998 (2) 1997 1996 1995
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STATEMENT OF INCOME DATA:
Total revenues $ 187,257 $ 92,429 $ 59,796 $ 38,574 $ 33,361
Interest expense $ 38,603 $ 13,057 $ 7,969 $ 7,344 $ 5,083
Net income $ 86,027 $ 40,479 $ 31,212 $ 19,732 $ 18,258
Net income per share - Basic $ 2.02 $ 1.66 $ 1.71 $ 1.52 $ 1.41
Net income per share - Diluted $ 1.99 $ 1.63 $ 1.68 $ 1.49 $ 1.41
Weighted average shares outstanding - Basic 39,326,594 24,043,942 18,222,243 13,014,286 12,931,082
Weighted average shares outstanding - Diluted 39,810,306 24,524,600 18,572,492 13,261,291 12,970,326
BALANCE SHEET DATA (AS OF THE END OF THE PERIOD):
Real estate properties, net $ 1,315,150 $ 1,337,439 $ 466,273 $ 416,034 $ 318,480
Total assets $ 1,607,964 $ 1,612,423 $ 488,514 $ 427,505 $ 336,778
Notes and bonds payable $ 563,884 $ 559,924 $ 101,300 $ 168,618 $ 92,970
Total stockholders' equity $ 1,017,903 $ 1,017,704 $ 376,472 $ 245,964 $ 234,448
OTHER DATA:
Funds from operations - Basic (1) $ 105,727 $ 59,667 $ 42,337 $ 28,036 $ 25,490
Funds from operations - Diluted (1) $ 105,727 $ 59,731 $ 42,337 $ 28,036 $ 25,490
Funds from operations per share - Basic (1) $ 2.69 $ 2.48 $ 2.32 $ 2.15 $ 1.97
Funds from operations per share - Diluted (1) $ 2.66 $ 2.44 $ 2.28 $ 2.11 $ 1.97
Dividends declared and paid per share $ 2.15 $ 2.07 $ 1.99 $ 1.91 $ 1.83
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(1) See Note 11 to Consolidated Financial Statements.
(2) See Note 2 to Consolidated Financial Statements.
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Management's Discussion and Analysis of Financial Condition
AND RESULTS OF OPERATIONS
OVERVIEW
The Company operates under the Internal Revenue Code of 1986, as
amended (the "Code"), as an indefinite life real estate investment trust
("REIT"). The Company, a self-managed and self-administered REIT, follows a
general growth strategy that integrates owning, managing, and developing
income-producing real estate properties and mortgages associated with the
delivery of healthcare services throughout the United States. Management
believes that by providing related real estate services, it can differentiate
the Company's competitive market position, expand its asset base and increase
revenue.
Substantially all of the Company's revenues are derived from rentals
on its healthcare real estate property facilities, interest earned on mortgage
loans and from the temporary investment of funds in short-term instruments and
from management and development services. Leases and other financial support
arrangements with respect to the Company's healthcare real estate facilities
generally ensure that increased costs and expenses incurred with respect to the
operation of the facilities will be borne by tenants and healthcare providers
related to the facilities. The Company incurs operating and administrative
expenses, principally compensation expense for its officers and other
employees, office rental and related occupancy costs and various expenses
incurred in the process of acquiring additional properties.
RESULTS OF OPERATIONS
1999 Compared to 1998
On October 15, 1998, the Company acquired by merger Capstone Capital
Corporation ("Capstone"). The purchase price is summarized as follows (in
thousands):
Common stock $ 532,554
Preferred stock 72,052
Cash and cash equivalents 8,330
Liabilities assumed 424,897
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Total Purchase Price $ 1,037,833
===========
The assets acquired in the Capstone merger are summarized as follows (in
thousands):
Real estate properties $ 804,178
Mortgage notes receivable 211,590
Cash and cash equivalents 13,767
Other assets 8,298
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Total Assets Acquired $ 1,037,833
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The results of operations of the Company have been significantly
affected by the Capstone merger. As a result of this transaction in 1998, the
Company acquired 111 properties and 75 mortgages with a fair value of $804.2
million and $211.6 million, respectively. The merger was effective October 15,
1998; therefore, 1998 consolidated revenues and expenses of the Company reflect
the effect of the Capstone assets acquired and liabilities assumed for only 2.5
months in 1998 versus the entire year for 1999. The Capstone investments, along
with commitments acquired in the merger, resulted in additional master lease
rent, straight line rent and property operating income, net of operating
expenses, for the year ended December 31, 1999, of $73.5 million, a $59.0
million or 407.1% increase from 1998. Mortgage interest income in 1999
resulting from these Capstone investments was $24.2 million, a $20.4 million or
543.3% increase from 1998. Interest and other income attributed to the Capstone
acquisition for the years ended 1999 and 1998 was $1.4 million and $0.4
million, respectively, a 286.2% increase. Depreciation and amortization expense
for the year ended December 31, 1999 attributed to the Capstone acquisition was
$24.8 million compared to $2.9 million in 1998, a $21.9 million or 739.0%
increase.
For the year ended December 31, 1999, net income was $86.0 million, or
$2.02 per basic share of common stock ($1.99 per diluted share), on total
revenues of $187.3 million compared to net income of $40.5 million, or $1.66
per basic share of common stock ($1.63 per diluted share), on total revenues of
$92.4 million, for the year ended December 31, 1998. Funds from operations
("FFO") was $105.7 million, or $2.69 per basic share ($2.66 per diluted share),
for the year ended December 31, 1999 compared to $59.7 million, or $2.48 per
basic share ($2.44 per diluted share), in 1998.
4
(Dollars in thousands) 1999 1998
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REVENUES
Master lease rental income $ 92,070 $ 47,512
Property operating income 57,778 35,269
Straight line rent 6,885 1,265
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Total rental income 156,733 84,046
Mortgage interest income 26,254 5,120
Management fees 2,727 2,056
Interest and other income 1,543 1,207
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187,257 92,429
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EXPENSES
General and administrative 7,287 11,126
Property operating expenses 21,077 11,978
Interest 38,603 13,057
Depreciation 38,566 15,965
Amortization 473 499
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106,006 52,625
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Net income before net gain on real estate disposals 81,251 39,804
Net gain on real estate disposals 4,776 675
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Net income $ 86,027 $ 40,479
===========================
Total revenues for the year ended December 31, 1999 compared to the
year ended December 31, 1998, increased $94.8 million or 102.6%.
Master lease rent, straight line rent and property operating income
increased $72.7 million or 86.5%. Excluding the effect of the Capstone merger,
master lease rent, straight line rent and property operating income increased
$4.8 million or 7.0%. During 1999, the Company acquired two revenue-producing
properties, and 11 properties under construction were completed and began
operations.
Mortgage interest income increased $21.1 million or 412.8% for the
year ended December 31, 1999 compared to 1998 substantially due to the Capstone
merger.
Interest and other income for the year ended December 31, 1999 was
$1.5 million compared to $1.2 million for the year ended December 31, 1998.
Excluding the effect of the Capstone merger, interest and other income
decreased $0.7 million from 1998 to 1999. In 1998, the Company recognized
development fee income from a third party project of $0.5 million, and the
Company's average cash balance was higher in 1998 resulting in more interest
income for the year.
Third party management fees for the year ended December 31, 1999
compared to 1998 increased $0.7 million or 32.6% due primarily to the addition
of over 50 buildings with approximately 0.9 million square feet under property
management.
Total expenses for the year ended December 31, 1999 were $106.0
million compared to $52.6 million for 1998, an increase of $53.4 million or
101.4%.
Interest expense for the year ended December 31, 1999, compared to
1998, increased $25.5 million or 195.6%. In conjunction with the Capstone
merger in 1998, the Company repaid the outstanding balances under both
Capstone's and its own unsecured credit facilities and entered into a $265.0
million unsecured credit facility and a $200.0 million unsecured term loan. The
average outstanding balances under its credit facilities and term loan for the
year ended 1999 compared to 1998 was $368.1 million and $82.3 million,
respectively, increasing interest expense in 1999 by approximately $18.6
million. The subordinated convertible debentures and mortgage notes payable
assumed by the Company in the Capstone merger resulted in an increase of $8.6
million in interest expense for the year ended December 31, 1999, compared to
1998. These increases to interest expense discussed above were offset by
decreases to interest expense due to an increase in capitalized interest of
$0.5 million from 1998 to 1999 and a decrease of $1.3 million to interest
expense on the Company's unsecured notes due to scheduled repayments.
Depreciation expense increased $22.6 million due substantially to the
properties acquired in the Capstone merger. Excluding the effect of the
Capstone merger, depreciation expense increased $0.8 million, resulting
primarily from the acquisition of 11 properties during 1998 and 1999.
Property operating expenses for the year ended December 31, 1999,
compared to 1998, increased $9.1 million or 76.0% due mainly to the properties
acquired in the Capstone merger.
General and administrative expenses decreased $3.8 million or 34.5%
for the year ended December 31, 1999, compared to 1998. During 1998, the
Company recognized a $6.3 million write-off for certain capitalized software
costs, leasehold improvements, organization and other deferred costs which were
deemed to have no continuing value
5
and for incremental internal costs incurred in conjunction with the Capstone
merger. After consideration of the write-off, the net $2.5 million increase was
primarily due to the increased number of employees for property management,
development, and other service-based activities, an increase and expansion of
the corporate office lease, and the write-off of certain project costs during
1999.
During 1999, the Company sold five facilities and one partnership
interest in a facility resulting in net gains of $4.8 million, while the
Company's 1998 dispositions resulted in net gains of $0.7 million.
1998 Compared to 1997
The results of operations of the Company were significantly affected
by the Capstone merger. For the year ended December 31, 1998, net income
increased approximately $12.3 million due to the Capstone merger. As a result
of this transaction, the Company acquired 111 properties and 75 mortgages with
a fair value of $804.2 million and $211.6 million, respectively. These
investments resulted in additional master lease rent, straight line rent,
mortgage interest income and property operating income, net of operating
expenses, for the year of $18.2 million, as well as, additional interest and
other income of $0.4 million. The Company also assumed Capstone's 6.55% and
10.5% convertible subordinated debentures and notes payable, with interest
rates ranging from 7.625% to 9.0%, with a collective fair value of $138.0
million, which resulted in interest expense of $1.4 million for the period
October 15, 1998 through December 31, 1998.
For the year ended December 31, 1998, net income was $40.5 million, or
$1.66 per basic share of common stock ($1.63 per diluted share), on total
revenues of $92.4 million compared to net income of $31.2 million, or $1.71 per
basic share of common stock ($1.68 per diluted share), on total revenues of
$59.8 million, for the year ended December 31, 1997. Funds from operation was
$59.7 million, or $2.48 per basic share ($2.44 per diluted share), for the year
ended December 31, 1998 compared to $42.3 million, or $2.32 per basic share
($2.28 per diluted share), in 1997.
(Dollars in thousands) 1998 1997
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REVENUES
Master lease rental income $ 47,512 $ 40,298
Property operating income 35,269 14,631
Straight line rent 1,265 0
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Total rental income 84,046 54,929
Mortgage interest income 5,120 84
Management fees 2,056 1,499
Interest and other income 1,207 3,284
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92,429 59,796
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EXPENSES
General and administrative 11,126 3,807
Property operating expenses 11,978 5,008
Interest 13,057 7,969
Depreciation 15,965 11,468
Amortization 499 332
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52,625 28,584
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Net income before net gain on real estate disposals 39,804 31,212
Net gain on real estate disposals 675 0
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Net income $ 40,479 $ 31,212
===========================
Total revenues for the year ended December 31, 1998, compared to the
year ended December 31, 1997, increased $32.6 million or 54.6%. Excluding the
effect of the Capstone merger, total revenues for the year ended December 31,
1998 compared to the year ended December 31, 1997 increased $12.9 million. This
increase is primarily due to increases in master lease rental income and
property operating income. During 1998, the Company acquired nine properties,
and two properties under construction were completed and began operations.
Certain leases acquired from Capstone contain escalating rental rates over the
life of the leases; however, rental income is recognized as earned on a
straight line basis over the life of the lease.
Third party property management fees for the year ended December 31,
1998, compared to the year ended December 31, 1997, increased $0.6 million or
37.2% due primarily to the addition of over 60 buildings with approximately 2.6
million square feet under property management.
Interest and other income for the year ended December 31, 1998 was
$1.2 million compared to $3.3 million for the year ended December 31, 1997.
Excluding the effect of the Capstone merger, interest and other income
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decreased $2.4 million from the year ending December 31, 1997 to the year
ending December 31, 1998. During the first quarter of 1997, the Company
completed a secondary offering and maintained a higher than normal average cash
and short-term investment balance.
Total expenses for the year ended December 31, 1998 were $52.6
million, compared to $28.6 million for the year ended December 31, 1997, an
increase of $24.0 million or 84.1%. General and administrative expenses
increased $7.3 million. $6.3 million of this increase represents the write-off
of certain capitalized software costs, leasehold improvements, organization and
other deferred costs which were deemed to have no continuing value and
incremental internal costs incurred in conjunction with the Capstone merger.
The remaining $1.0 million increase is primarily due to the increased number of
employees for property management, development, and other service-based
activities.
Property operating expenses for the year ended December 31, 1998,
compared to the year ended December 31, 1997, increased $7.0 million. Property
operating expenses rose during 1998 for the same reasons property operating
income increased.
Interest expense for the year ended December 31, 1998, compared to the
year ended December 31, 1997, increased $5.1 million. At the time of the
Capstone merger, the Company repaid the outstanding balances under both
Capstone's and its own unsecured credit facilities and entered into a $265.0
million unsecured credit facility and a $200.0 million unsecured term loan.
During the year ended December 31, 1997, the Company had an average outstanding
balance under its unsecured credit facility of $18.1 million, compared to an
average outstanding balance under its unsecured credit facility and term loan
during the year ended December 31, 1998 of $82.3 million. In addition,
Capstone's subordinated convertible debentures and notes payable were assumed
by the Company in the merger, and capitalized interest increased $0.7 million
from 1997 to 1998.
Depreciation expense increased $4.5 million due to the significant
increase during 1998 in depreciable properties. Excluding the effect of the
Capstone merger, depreciation expense increased $1.6 million. This increase
primarily resulted from the acquisition of nine properties during 1998 and the
completion in 1998 of two properties under construction at December 31, 1997.
During 1998, the Company sold one facility and a tract of land
resulting in net gains of $0.7 million.
Liquidity and Capital Resources
On October 15, 1998, at the time of the Capstone merger, the Company
repaid the outstanding balances under both Capstone's and its own unsecured
credit facilities and entered into a $265.0 million unsecured credit facility
(the "Unsecured Credit Facility") with ten commercial banks. The Unsecured
Credit Facility bears interest at LIBOR plus 1.05%, payable quarterly, and
matures on October 15, 2001. In addition, the Company will pay, quarterly, a
commitment fee of 0.225 of 1% on the unused portion of funds available for
borrowings. At December 31, 1999, the Company had available borrowing capacity
of $13.0 million under the Unsecured Credit Facility.
At the time of the Capstone merger, the Company entered into a $200.0
million unsecured term loan (the "Term Loan Facility") with NationsBank (now
Bank of America). The Term Loan Facility, as amended, bears interest at LIBOR
plus 2.00%, payable quarterly, and matures on April 14, 2000. Effective January
14, 2000, the Company amended its Term Loan Facility agreement with Bank of
America. If the balance on the Term Loan Facility exceeds $25.0 million on
March 14, 2000, the interest rate will increase to LIBOR plus 2.50%. Since the
Capstone merger, the Company has received proceeds from the sale of assets and
from mortgage prepayments and reduced the unpaid balance of the Term Loan
Facility from $200.0 million to $113.7 million.
In 1995, the Company privately placed $90.0 million of unsecured notes
(the "Unsecured Notes") bearing interest at 7.41%, payable semi-annually ($3.6
million for 2000), that mature on September 1, 2002. The Company must repay
$18.0 million of principal annually. At December 31, 1999, $54.0 million was
outstanding under the Unsecured Notes.
The Company assumed in the Capstone merger 10.5% Convertible
Subordinated Debentures and 6.55% Convertible Subordinated Debentures having an
aggregate principal balance of $78.2 million at December 31, 1999. In 2000, the
Company will pay $5.3 million of interest on these subordinated debentures.
In 1998, the Company sold an aggregate of 1.4 million shares of its
common stock. The Company received an aggregate of $37.1 million in net
proceeds from these transactions. The proceeds were used to repay debt and were
also used for acquisitions, developments and general corporate purposes.
As of March 1, 2000, the Company can issue an aggregate of
approximately $123.8 million of securities remaining under the currently
effective registration statement. Due to the current market price of the
Company's stock, the Company does not presently plan to offer stock under its
registration statement. The Company may, under certain circumstances, borrow
additional amounts in connection with the renovation or expansion of its
properties, the acquisition or development of additional properties or, as
necessary, to meet distribution requirements for REITs under the Code. The
Company may raise additional capital or make investments by issuing, in public
or private transactions, debt securities, but the availability and terms of any
such issuance will depend upon market and other conditions.
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The Company generated net cash from operations in 1999 of $91.8
million, an increase of $70.0 million from 1998 and $51.4 million from 1997.
The increase from 1998 results primarily from the increase in net income. The
decrease in 1998 from 1997 resulted primarily from the payment of accounts
payable and accrued liabilities assumed in the Capstone merger. Other
significant sources and uses of cash for investing and financing activities are
set forth in the Statement of Cash Flows in the Consolidated Financial
Statements.
As of December 31, 1999, the Company had an investment of
approximately $20.0 million in six build-to-suit developments in progress,
which have a total remaining funding commitment of approximately $37.6 million.
Further, the Company had commitments to purchase or provide funding for the
construction of other properties totaling $12.4 million at December 31, 1999.
The Company also had six mortgages under development at December 31, 1999,
which have a total remaining funding commitment of approximately $1.9 million.
The Company intends to fund these commitments with internally generated cash
flow, proceeds from the sale of additional assets, proceeds from additional
prepayments of mortgage notes receivable, and additional capital market
financing.
At December 31, 1999, the Company had stockholders' equity of $1.0
billion. The debt to total capitalization ratio was approximately .352 to 1 at
January 31, 2000.
On January 25, 2000, the Company declared an increase in its quarterly
common stock dividend from $.545 per share ($2.18 annualized) to $.55 per share
($2.20 annualized) payable to stockholders of record on February 4, 2000. This
dividend was paid on February 16, 2000. The Company presently plans to continue
to pay its quarterly common stock dividends, with increases consistent with its
current practice. In the event that the Company cannot make additional
investments in 2000 because of an inability to obtain new capital by issuing
equity and debt securities, the Company will continue to be able to pay its
common stock dividends in a manner consistent with its current practice. Should
access to new capital not be available, the Company is uncertain of its ability
to increase its quarterly common stock dividends beyond 2000.
During 2000, the Company will pay quarterly dividends on its 8 7/8%
Series A Cumulative Preferred Stock in the annualized amount of $2.22 per
share.
Under the terms of the leases and other financial support agreements
relating to most of the properties, tenants or healthcare providers are
generally responsible for operating expenses and taxes relating to the
properties. As a result of these arrangements, with limited exceptions not
material to the performance of the Company, the Company does not believe that
any increases in the property operating expenses or taxes would significantly
impact the operating results of the Company during the respective terms of the
agreements. The Company anticipates entering into similar arrangements with
respect to additional properties it acquires or develops. After the term of the
lease or financial support agreement, or in the event the financial obligations
required by the agreement are not met, the Company anticipates that any
expenditures it might become responsible for in maintaining the properties will
be funded by cash from operations and, in the case of major expenditures,
possibly by borrowings. To the extent that unanticipated expenditures or
significant borrowings are required, the Company's cash available for
distribution and liquidity may be adversely affected.
The Company plans to continue to meet its liquidity needs, including
funding additional investments in 2000, paying its quarterly dividends (with
increases consistent with its current practices) and funding the debt service
on the 10.50% Convertible Subordinated Debentures, the 6.55% Convertible
Subordinated Debentures, the Unsecured Credit Facility, the Term Loan Facility,
and the Unsecured Notes from its cash flows, the proceeds of mortgage loan
repayments, sales of real estate investments and mortgage notes receivable, and
capital market financings. The Company is presently negotiating additional
capital market financing, the proceeds of which are expected to repay the Term
Loan Facility, the Unsecured Credit Facility and to fund other general
corporate purposes. The Company believes that its liquidity and sources of
capital are adequate to satisfy its cash requirements. The Company, however,
cannot be certain that these sources of funds will be available at a time and
upon terms acceptable to the Company in sufficient amounts to meet its
liquidity needs.
Impact of Inflation
Inflation has not significantly affected the earnings of the Company
because of the moderate inflation rate and the fact that most of the Company's
leases and financial support arrangements require tenants and sponsors to pay
all or some portion of the increases in operating expenses, thereby reducing
the risk of any adverse effects of inflation to the Company. In addition,
inflation will have the effect of increasing gross revenue the Company is to
receive under the terms of the leases and financial support arrangements.
Leases and financial support arrangements vary in the remaining terms of
obligations from one to 23 years, further reducing the risk of any adverse
effects of inflation to the Company. The Unsecured Credit Facility bears
interest at a variable rate; therefore, the amount of interest payable under
the Unsecured Credit Facility will be influenced by changes in short-term
rates, which tend to be sensitive to inflation.
8
Year 2000 Issue
During 1999, the Company completed its remediation and testing of
systems in connection with the Year 2000 issue. As a result of these efforts,
the Company experienced no disruptions or malfunctions at any of its
properties. The Company incurred costs of less than $50,000 in connection with
testing and remediation for the Year 2000 issue.
Market Risk
The Company is exposed to market risk, in the form of changing
interest rates, on its debt and mortgage notes receivable. The Company has no
market risk with respect to derivatives and foreign currency fluctuations.
Management uses daily monitoring of market conditions and analytical techniques
to manage this risk.
At December 31, 1999 and 1998, the fair value of the Company's
variable rate debt approximates its carrying value of $365.7 million and $350.2
million, respectively. By definition, because the interest rate is variable,
the carrying amount of variable rate debt will always approximate its fair
value. Assuming the December 31, 1999 and 1998 carrying value of $365.7 million
and $350.2 million, respectively, is held constant, the hypothetical increase
in interest expense resulting from a one percentage point increase in interest
rates, would be $3.7 million and $3.5 million, respectively. The interest rate
on variable rate debt is based on and variable with European interbank interest
rates (LIBOR).
At December 31, 1999 and 1998, the carrying value of the Company's
fixed rate debt is $198.2 million and $209.7 million, respectively, and the
fair value of the Company's fixed rate debt is approximately $190.9 million and
$209.7 million, respectively. The fair value is based on the present value of
future cash flows discounted at the market rate of interest. Market risk,
expressed as the hypothetical increase in fair value resulting from a one
percentage point increase in interest rates, is $4.1 million and $7.2 million,
respectively, for aggregate fixed rate debt.
At December 31, 1999 and 1998, the carrying value of the Company's
fixed rate mortgage notes receivable is $253.5 million and $237.6 million,
respectively, and the fair value is approximately $232.1 million and $237.6
million, respectively. The fair value is based on the present value of future
cash flows discounted at an assumed market rate of interest. Because no market
rates of interest are published for these assets, the market rate of interest
is assumed to be the same spread to U.S. Treasury yields for comparable
maturities that existed when the mortgage notes receivable were acquired in the
Capstone merger on October 15, 1998, adjusted to published U.S. Treasury
yields. Market risk, at December 31, 1999 and 1998, expressed as the
hypothetical decrease in fair value resulting from a one percentage point
increase in interest rates, is $10.6 million and $10.7 million, respectively,
on the aggregate portfolio of fixed rate mortgage notes receivable.
Cautionary Language Regarding Forward Looking Statements
Statements in this Annual Report on Form 10-K that are not historical,
factual statements are "forward looking statements" within the meaning of the
Private Securities Litigation Reform Act of 1995. The statements include, among
other things, statements regarding the intent, belief or expectations of the
Company and its officers and can be identified by the use of terminology such
as "may", "will", "expect", "believe", "intend", "plan", "estimate", "should"
and other comparable terms. In addition, the Company, through its senior
management, from time to time makes forward looking oral and written public
statements concerning the Company's expected future operations and other
developments. Shareholders and investors are cautioned that, while forward
looking statements reflect the Company's good faith beliefs and best judgment
based upon current information, they are not guarantees of future performance
and are subject to known and unknown risks and uncertainties. Actual results
may differ materially from the expectations contained in the forward looking
statements as a result of various factors. For a more detailed discussion of
these, and other factors, see Item 1 of the Company's Form 10-K for the fiscal
year ended December 31, 1999.
9
Report of
INDEPENDENT AUDITORS
THE BOARD OF DIRECTORS AND STOCKHOLDERS
HEALTHCARE REALTY TRUST INCORPORATED
We have audited the accompanying consolidated balance sheets of
Healthcare Realty Trust Incorporated as of December 31, 1999 and 1998, and the
related consolidated statements of income, stockholders' equity, and cash flows
for each of the three years in the period ended December 31, 1999. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with auditing standards
generally accepted in the United States. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
Healthcare Realty Trust Incorporated at December 31, 1999 and 1998, and the
consolidated results of its operations and its cash flows for each of the three
years in the period ended December 31, 1999 in conformity with accounting
principles generally accepted in the United States.
/s/ Ernst & Young, LLP
Nashville, Tennessee
January 25, 2000
10
Consolidated
BALANCE SHEETS
December 31,
-----------------------------------
(Dollars in thousands) 1999 1998
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ASSETS
Real estate properties:
Land $ 150,591 $ 140,617
Buildings and improvements 1,223,387 1,169,941
Personal property 5,165 4,825
Construction in progress 20,003 72,172
-----------------------------------
1,399,146 1,387,555
Less accumulated depreciation (83,996) (50,116)
-----------------------------------
Total real estate properties, net 1,315,150 1,337,439
Cash and cash equivalents 3,396 12,710
Restricted cash 990 1,701
Mortgage notes receivable 253,459 237,617
Other assets, net 34,969 22,956
-----------------------------------
Total assets $ 1,607,964 $ 1,612,423
===================================
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Notes and bonds payable $ 563,884 $ 559,924
Accounts payable and accrued liabilities 17,658 22,824
Other liabilities 8,519 11,971
-----------------------------------
Total liabilities 590,061 594,719
-----------------------------------
Commitments -- --
Stockholders' equity:
Preferred stock, $.01 par value; 50,000,000 shares authorized;
issued and outstanding 1999 and 1998 - 3,000,000 30 30
Common stock, $.01 par value; 150,000,000 shares authorized;
issued and outstanding 1999 - 40,004,579; 1998 - 39,792,775 400 398
Additional paid-in capital 1,054,405 1,049,039
Deferred compensation (9,509) (10,662)
Cumulative net income 215,373 129,346
Cumulative dividends (242,796) (150,447)
-----------------------------------
Total stockholders' equity 1,017,903 1,017,704
-----------------------------------
Total liabilities and stockholders' equity $ 1,607,964 $ 1,612,423
===================================
See accompanying notes.
11
Consolidated
STATEMENTS OF INCOME
Year Ended December 31,
-----------------------------------------
(Dollars in thousands, except per share data) 1999 1998 1997
- --------------------------------------------------------------------------------------------------------------
REVENUES
Master lease rental income $ 92,070 $ 47,512 $ 40,298
Property operating income 57,778 35,269 14,631
Straight line rent 6,885 1,265 0
Mortgage interest income 26,254 5,120 84
Management fees 2,727 2,056 1,499
Interest and other income 1,543 1,207 3,284
-----------------------------------------
187,257 92,429 59,796
-----------------------------------------
EXPENSES
General and administrative 7,287 11,126 3,807
Property operating expenses 21,077 11,978 5,008
Interest 38,603 13,057 7,969
Depreciation 38,566 15,965 11,468
Amortization 473 499 332
-----------------------------------------
106,006 52,625 28,584
-----------------------------------------
Net income before net gain on
real estate disposals 81,251 39,804 31,212
Net gain on real estate disposals 4,776 675 0
-----------------------------------------
Net income $ 86,027 $ 40,479 $ 31,212
=========================================
Net income per share - Basic $ 2.02 $ 1.66 $ 1.71
=========================================
Net income per share - Diluted $ 1.99 $ 1.63 $ 1.68
=========================================
Shares outstanding - Basic 39,326,594 24,043,942 18,222,243
=========================================
Shares outstanding - Diluted 39,810,306 24,524,600 18,572,492
=========================================
See accompanying notes.
12
Consolidated
STATEMENTS OF STOCKHOLDERS' EQUITY
Additional Cumulative Total
(Dollars in thousands, Preferred Common Paid-In Deferred Net Cumulative Stockholders'
except per share data) Stock Stock Capital Compensation Income Dividends Equity
- -------------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1996 $-- $139 $ 264,614 $ (4,702) $ 57,655 $ (71,742) $ 245,964
Issuance of stock -- 52 134,113 -- -- -- 134,165
Shares awarded as deferred
stock compensation -- 2 3,880 (3,882) -- -- --
Deferred stock compensation
amortization -- -- -- 895 -- -- 895
Net income -- -- -- -- 31,212 -- 31,212
Dividends ($1.99 per share) -- -- -- -- -- (35,764) (35,764)
-------------------------------------------------------------------------------------------
Balance at December 31, 1997 -- 193 402,607 (7,689) 88,867 (107,506) 376,472
Issuance of common stock -- 202 567,734 -- -- -- 567,936
Issuance of preferred stock 30 -- 71,956 -- -- -- 71,986
Shares awarded as deferred
stock compensation -- 2 4,331 (4,274) -- -- 59
Shares issued from warrants -- 1 2,411 -- -- -- 2,412
Deferred stock compensation
amortization -- -- -- 1,301 -- -- 1,301
Net income -- -- -- -- 40,479 -- 40,479
Dividends - common
($2.07 per share) -- -- -- -- -- (42,386) (42,386)
Dividends - preferred
($0.46224 per share) -- -- -- -- -- (555) (555)
-------------------------------------------------------------------------------------------
Balance at December 31, 1998 30 398 1,049,039 (10,662) 129,346 (150,447) 1,017,704
Issuance of common stock -- 2 5,345 -- -- -- 5,347
Shares awarded as deferred
stock compensation -- -- 21 (21) -- -- --
Deferred stock compensation
amortization -- -- -- 1,174 -- -- 1,174
Net income -- -- -- -- 86,027 -- 86,027
Dividends - common
($2.15 per share) -- -- -- -- -- (85,693) (85,693)
Dividends - preferred
($2.22 per share) -- -- -- -- -- (6,656) (6,656)
-------------------------------------------------------------------------------------------
Balance at December 31, 1999 $30 $400 $1,054,405 $ (9,509) $215,373 $(242,796) $1,017,903
===========================================================================================
See accompanying notes.
13
Consolidated Statements of
CASH FLOWS
December 31,
-----------------------------------------
(In thousands) 1999 1998 1997
- --------------------------------------------------------------------------------------------------------------
OPERATING ACTIVITIES
Net income $ 86,027 $ 40,479 $ 31,212
Adjustments to reconcile net income to cash provided by
operating activities:
Depreciation and amortization 41,225 17,122 12,073
Deferred compensation 1,153 1,247 672
Increase (decrease) in deferred income (743) (907) 114
Decrease in other liabilities (749) (2,474) --
Increase in other assets (17,638) (7,957) (2,346)
Decrease in accounts payable and accrued liabilities (5,781) (27,133) (1,340)
Increase in straight line rent (6,885) (1,265) --
Charge to operations -- 3,373 --
Gain on sales of real estate (4,776) (675) --
--------------------------------------
Net cash provided by operating activities 91,833 21,810 40,385
--------------------------------------
INVESTING ACTIVITIES
Acquisition and development of real estate properties (55,664) (94,066) (61,813)
Acquisition and development of mortgages (27,475) (27,851) (4,708)
Proceeds from mortgage repayments 18,749 8,522 --
Proceeds from sale of real estate 46,929 11,895 --
Receipt (disbursement) of security deposits (481) 134 (976)
Purchase of Capstone, net of cash acquired -- 5,437 --
--------------------------------------
Net cash used in investing activities (17,942) (95,929) (67,497)
--------------------------------------
FINANCING ACTIVITIES
Borrowings on notes and bonds payable 125,200 425,000 35,300
Repayments on notes and bonds payable (121,608) (338,689) (102,618)
Decrease in notes receivable 350 451 --
Dividends paid (92,349) (42,941) (35,764)
Proceeds from issuance of common stock 5,202 37,683 134,165
--------------------------------------
Net cash provided by (used in) financing activities (83,205) 81,504 31,083
--------------------------------------
Increase (decrease) in cash and cash equivalents (9,314) 7,385 3,971
Cash and cash equivalents, beginning of period 12,710 5,325 1,354
--------------------------------------
Cash and cash equivalents, end of period $ 3,396 $ 12,710 $ 5,325
======================================
See accompanying notes.
14
Notes to
CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Organization
The Company invests in healthcare-related properties and mortgages
located throughout the United States, including ancillary hospital facilities,
physician clinics, ambulatory surgery centers, inpatient rehab facilities,
assisted living facilities, skilled nursing facilities, comprehensive
ambulatory care centers, and other facilities. The Company provides management,
leasing and build-to-suit development, and capital for the construction of new
facilities as well as for the acquisition of existing properties. As of
December 31, 1999, the Company had invested or committed to invest in 285
properties and mortgages located in 34 states, affiliated with 74
healthcare-related entities.
Basis of Presentation
The financial statements include the accounts of the Company, its
wholly owned subsidiaries and certain other affiliated corporations with
respect to which the Company controls the operating activities and receives
substantially all economic benefits. Significant intercompany accounts and
transactions have been eliminated.
Use of Estimates in Financial Statements
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect amounts reported in the financial statements and
accompanying notes. Actual results may differ from those estimates.
Real Estate Properties
Real estate properties are recorded at cost. Transaction fees and
acquisition costs are included with the purchase price as appropriate. The cost
of real properties acquired is allocated between land, buildings, and personal
property based upon estimated market values at the time of acquisition.
Depreciation is provided for on a straight-line basis over the following
estimated useful lives:
Buildings and improvements 31.5 or 39.0 years
Personal property 3.0 to 7.0 years
Restricted Cash
Restricted cash includes security deposits and other funds set aside
for capital expenditures on certain investments of the Company.
Mortgage Notes Receivable
Mortgage notes receivable, substantially all of which were acquired in
the Capstone merger (see Note 2), were recorded at their fair value at the date
of acquisition. The mortgage portfolio has a weighted average maturity of
approximately 5.9 years. Interest rates, which range from 8% to 13%, are
generally adjustable each year to reflect actual increases in the Consumer
Price Index subject to a minimum increase of 4% of the current interest rate.
Substantially all of the mortgages are subject to a prepayment penalty.
Cash and Cash Equivalents
Short-term investments with maturities of three months or less at date
of purchase are classified as cash equivalents.
Federal Income Taxes
No provision has been made for federal income taxes. The Company
intends at all times to qualify as a real estate investment trust under
Sections 856 through 860 of the Internal Revenue Code of 1986, as amended. The
Company must distribute at least 95% of its real estate investment trust
taxable income to its stockholders and meet other requirements to continue to
qualify as a real estate investment trust.
Other Assets
Other assets consist primarily of receivables, deferred costs and
intangible assets. Deferred financing costs are amortized over the term of the
related credit facility using the interest method. Intangible assets are
amortized straight-line over the applicable lives of the assets, which range
from four to forty years. Accumulated amortization was $2.0 million and $1.1
million at December 31, 1999 and 1998, respectively.
15
Revenue Recognition
Rental income related to noncancelable operating leases is recognized
as earned over the life of the lease agreements on a straight-line basis. Any
additional rent, as defined in each lease agreement, is recognized as earned.
Stock Issued to Employees
The Company has elected to follow Accounting Principles Board ("APB")
Opinion No. 25, "Accounting for Stock Issued to Employees" and related
interpretations in accounting for its stock issued to employees.
Net Income Per Share
Basic earnings per share is calculated using weighted average shares
outstanding less issued and outstanding but unvested restricted shares of
Common Stock.
Diluted earnings per share is calculated using weighted average shares
outstanding plus the dilutive effect of convertible debt and restricted shares
of Common Stock and outstanding stock options, using the treasury stock method
and the average stock price during the period.
Significant Accounting Pronouncements
In June 1997, the Financial Accounting Standards Board ("FASB") issued
Financial Accounting Standards Board Statement No. 130, "Reporting
Comprehensive Income" ("FAS 130"), which establishes standards for reporting
and displaying comprehensive income and its components in a full set of general
purpose financial statements. The Company adopted FAS 130 effective for its
fiscal year ended December 31, 1998. Comprehensive income is the same as net
income for the Company.
In June 1997, the FASB issued Financial Accounting Standards Board
Statement No. 131, "Disclosures about Segments of an Enterprise and Related
Information" ("FAS 131"). The Company adopted FAS 131 effective for its fiscal
year ended December 31, 1998. The adoption of FAS 131 had no impact on the
Company, as the Company operates in only one business segment, consisting of
investments in healthcare-related properties and mortgages throughout the
United States.
Reclassification
Certain reclassifications have been made in the financial statements
for the years ended 1998 and 1997 to conform to the 1999 presentation. These
reclassifications had no effect on the results of operations as previously
reported.
2. CAPSTONE MERGER
On October 15, 1998, the Company acquired Capstone Capital Corporation
("Capstone") in a stock-for-stock merger in which the stockholders of Capstone
received a fixed ratio of .8518 shares of the Company's common stock and the
holders of Capstone preferred stock received one share of the Company's voting
preferred stock in exchange for each share of Capstone preferred stock. The
Company issued 18,906,909 shares of common stock and 3,000,000 shares of
preferred stock. The transaction was accounted for as a purchase and resulted
in no goodwill.
The purchase price is summarized as follows (in thousands):
Common stock $ 532,554
Preferred stock 72,052
Cash and cash equivalents 8,330
Liabilities assumed 424,897
------------
Total Purchase Price $ 1,037,833
============
The assets acquired in the Capstone merger are summarized as follows
(in thousands):
Real estate properties $ 804,178
Mortgage notes receivable 211,590
Cash and cash equivalents 13,767
Other assets 8,298
------------
Total Assets Acquired $ 1,037,833
============
The unaudited proforma results of operations for the two years ended
December 31, 1998 and 1997, assuming that the Capstone merger had occurred as
of the beginning of each of those periods, are (dollars in thousands, except
for per share data):
16
1998 1997
--------------------------------
Revenues $ 168,721 $ 116,974
Net income $ 73,186 $ 54,234
Net income per share - Basic $ 1.74 $ 1.39
Net income per share - Diluted $ 1.72 $ 1.38
3. REAL ESTATE PROPERTY LEASES
The Company's properties are generally leased or supported pursuant to
noncancelable, fixed-term operating leases and other financial support
arrangements with expiration dates from 2000 to 2023. Some leases and financial
arrangements provide for fixed rent renewal terms of five years, or multiples
thereof, in addition to market rent renewal terms. The leases generally provide
the lessee, during the term of the lease and for a short period thereafter,
with an option and a right of first refusal to purchase the leased property.
Each lease generally requires the lessee to pay minimum rent, additional rent
based upon increases in the Consumer Price Index or increases in net patient
revenues (as defined in the lease agreements), and all taxes (including
property tax), insurance, maintenance and other operating costs associated with
the leased property.
Amounts of rental income received from lessees who accounted for more
than 10% of the Company's rental income for the three years in the period ended
December 31, 1999 were (in thousands):
1999 1998 1997
----------------------------------------------------
Healthsouth $ 24,060 $ 4,727 $ 0
Columbia/HCA Healthcare Corporation 23,211 17,125 13,899
Tenet Healthcare 17,942 13,713 13,297
Phycor 9,228 8,899 8,218
Future minimum lease and guaranty payments under the noncancelable
operating leases and financial support arrangements as of December 31, 1999 are
as follows (in thousands):
2000 $ 143,330
2001 141,504
2002 139,479
2003 138,986
2004 143,082
2005 and thereafter 735,816
------------
$ 1,442,197
17
4. REAL ESTATE PROPERTIES
The following table summarizes the Company's real estate properties by
type of facility and by state as of December 31, 1999 (dollars in thousands).
NUMBER OF BUILDINGS AND
FACILITIES IMPROVEMENTS PERSONAL ACCUMULATED
(1) LAND AND CIP PROPERTY TOTAL DEPRECIATION
- ------------------------------------------------------------------------------------------------------------------------------
ANCILLARY HOSPITAL FACILITIES:
Alabama 6 $ 5,792 $ 37,173 $ 0 $ 42,965 $ 1,405
California 9 18,375 60,556 44 78,975 6,374
Florida 12 6,042 90,627 122 96,791 7,540
Texas 11 8,989 62,760 276 72,025 8,674
Virginia 9 13,832 65,429 94 79,355 5,533
Other states 13 10,545 102,710 67 113,322 6,794
--------------------------------------------------------------------------------------
60 63,575 419,255 603 483,433 36,320
SKILLED NURSING FACILITIES:
Michigan 5 193 12,338 183 12,714 2,507
Virginia 5 1,060 22,589 0 23,649 836
Colorado 3 2,886 23,522 0 26,408 1,662
Pennsylvania 3 479 20,138 0 20,617 748
Tennessee 2 228 8,107 0 8,335 537
Texas 2 1,795 17,671 0 19,466 1,340
Other states 7 4,625 39,124 32 43,781 4,001
--------------------------------------------------------------------------------------
27 11,266 143,489 215 154,970 11,631
PHYSICIAN CLINICS:
Florida 10 12,260 43,905 51 56,216 3,816
Virginia 6 621 3,188 0 3,809 244
Maine 5 4,284 26,502 0 30,786 979
Tennessee 5 2,943 7,728 0 10,671 347
Texas 2 5,796 15,581 20 21,397 1,238
Other states 8 4,674 40,733 1 45,408 1,767
--------------------------------------------------------------------------------------
36 30,578 137,637 72 168,287 8,391
COMPREHENSIVE AMBULATORY CARE
CENTERS:
Florida 6 2,593 36,637 0 39,230 1,437
Texas 2 1,643 20,008 69 21,720 3,351
Other states 5 9,196 54,595 7 63,798 1,746
--------------------------------------------------------------------------------------
13 13,432 111,240 76 124,748 6,534
AMBULATORY SURGERY CENTERS:
Florida 1 2,200 3,944 0 6,144 8
Missouri 1 1,686 3,621 0 5,307 132
Nevada 1 940 2,861 0 3,801 400
Texas 1 510 1,514 15 2,039 330
Other states 3 558 3,494 9 4,061 286
--------------------------------------------------------------------------------------
7 5,894 15,434 24 21,352 1,156
INPATIENT REHABILITATION FACILITIES
Alabama 1 0 17,722 0 17,722 562
Florida 1 0 11,703 0 11,703 372
Pennsylvania 6 4,718 107,529 0 112,247 3,780
Texas 1 1,117 11,800 0 12,917 436
--------------------------------------------------------------------------------------
9 5,835 148,754 0 154,589 5,150
ASSISTED LIVING FACILITIES:
Florida 3 1,171 18,957 0 20,128 78
Missouri 4 206 5,909 0 6,115 219
Pennsylvania 7 1,490 28,908 0 30,398 991
Texas 8 0 70,824 0 70,824 2,603
Virginia 3 889 15,846 0 16,735 586
Other states 7 2,899 43,635 0 46,534 1,437
--------------------------------------------------------------------------------------
32 6,655 184,079 0 190,734 5,914
OTHER:
Arizona 1 582 2,952 0 3,534 96
Florida 2 911 3,843 0 4,754 147
Missouri 1 2,040 8,857 0 10,897 343
Texas 3 1,667 14,361 441 16,469 1,913
Virginia 6 2,385 26,314 129 28,828 1,831
Other states 5 5,771 27,173 38 32,982 2,851
--------------------------------------------------------------------------------------
18 13,356 83,500 608 97,464 7,181
Corporate property 0 0 2 3,567 3,569 1,719
--------------------------------------------------------------------------------------
Total property 202 $ 150,591 $ 1,243,390 $ 5,165 $ 1,399,146 $ 83,996
======================================================================================
(1) Includes 6 lessee developments.
18
5. NOTES AND BONDS PAYABLE
Notes and bonds payable at December 31, 1999 and 1998 consisted of the
following (in thousands):
December 31,
------------------------------
1999 1998
- ---------------------------------------------------------------------------------------------------
Unsecured credit facility $ 252,000 $ 171,000
Term loan facility 113,700 179,200
Unsecured notes 54,000 72,000
6.55% convertible subordinated debentures, net 73,836 73,219
10.50% convertible subordinated debentures, net 3,573 3,823
Mortgage notes payable 59,775 60,682
Other note payable 7,000 --
------------------------------
$ 563,884 $ 559,924
==============================
Unsecured Credit Facility
On October 15, 1998, concurrent with the Capstone merger, the Company
repaid the outstanding balances under both Capstone and its own unsecured
credit facilities and entered into a $265.0 million unsecured credit facility
(the "Unsecured Credit Facility") with ten commercial banks. The Unsecured
Credit Facility bears interest at LIBOR plus 1.05%, payable quarterly, and
matures on October 15, 2001. In addition, the Company will pay, quarterly, a
commitment fee of 0.225 of 1% on the unused portion of funds available for
borrowings. The Unsecured Credit Facility contains certain representations,
warranties, and financial and other covenants customary in such loan
agreements. At December 31, 1999, the Company had available borrowing capacity
of $13.0 million under the Unsecured Credit Facility.
Term Loan Facility
On October 15, 1998, concurrent with the Capstone merger, the Company
entered into a $200.0 million unsecured term loan (the "Term Loan Facility")
with Bank of America (formerly NationsBank). Effective January 14, 2000, the
Company amended its Term Loan Facility agreement with Bank of America. The Term
Loan Facility, as amended, bears interest at LIBOR plus 2.00%, payable
quarterly, and matures on April 14, 2000. If the balance on the Term Loan
Facility exceeds $25.0 million on March 14, 2000, the interest rate will
increase to LIBOR plus 2.50%. The Term Loan Facility contains certain
representations, warranties and financial and other covenants customary in such
loan agreements, as well as restrictions on dividend payments if minimum
tangible capital requirements are not met. At December 31, 1999, the Company
had no additional available borrowing capacity under the Term Loan Facility.
Unsecured Notes
On September 18, 1995, the Company privately placed $90.0 million of
unsecured notes (the "Unsecured Notes") with 16 institutions. The Unsecured
Notes bear interest at 7.41%, payable semi-annually, and mature on September 1,
2002. Beginning on September 1, 1998 and on each September 1 through 2002, the
Company must repay $18.0 million of principal. The note agreements pursuant to
which the Unsecured Notes were purchased contain certain representations,
warranties and financial and other covenants customary in such loan agreements.
Convertible Subordinated Debentures
As part of the Capstone merger, the Company assumed and recorded at
fair value $74.7 million aggregate face amount of 6.55% Convertible
Subordinated Debentures (the "6.55% Debentures") of Capstone. At December 31,
1999, the Company had approximately $73.8 million aggregate principal amount of
6.55% Debentures outstanding with a face amount of $74.7 million and unaccreted
discount of $0.9 million. Such rate of interest and accretion of discount
represents a yield to maturity of 7.5% per annum (computed on a semiannual bond
equivalent basis). The 6.55% Debentures are due on March 14, 2002, unless
redeemed earlier by the Company or converted by the holder, and are callable on
March 16, 2000. Interest on the 6.55% Debentures is payable on March 14 and
September 14 in each year. The 6.55% Debentures are convertible into shares of
common stock of the Company at the option of the holder at any time prior to
redemption or stated maturity, at a conversion price rate of 33.6251 shares per
$1 thousand bond.
Also, as part of the Capstone merger, the Company assumed and recorded
at fair value $3.8 million aggregate face amount of 10.5% Convertible
Subordinated Debentures (the "10.5% Debentures") of Capstone. At December 31,
1999, the Company had approximately $3.6 million aggregate principal amount of
10.5% Debentures outstanding with a face amount of $3.4 million and unamortized
premium of $0.2 million. Such rate of interest and amortization of premium
represents a yield to maturity of 7.5% per annum (computed on a semiannual bond
equivalent basis). The
19
10.5% Debentures are due on April 1, 2002, unless redeemed earlier by the
Company or converted by the holder, and are callable on April 5, 2000. Interest
on the 10.5% Debentures is payable on April 1 and October 1 in each year. The
10.5% Debentures are convertible into shares of common stock of the Company at
the option of the holder at any time prior to redemption or stated maturity at
a conversion price rate of 52.8248 shares per $1 thousand bond.
Mortgage Notes
As part of the Capstone merger, the Company assumed six nonrecourse
mortgage notes payable, and the related collateral, as follows (dollars in
millions):
Book Value
Of Collateral at Balance at
Original December 31, December 31,
Mortgagor Balance Interest Rate Collateral 1999 1999
- -------------------------------------------------------------------------------------------------------------------------
Life Insurance Co. $ 23.3 8.500% Ancillary hospital facility $ 41.2 $ 22.6
Life Insurance Co. 4.7 7.625% Ancillary hospital facility 10.4 4.4
Life Insurance Co. 17.1 8.125% Two Ambulatory surgery centers 35.7 16.6
& one ancillary hospital facility
Bank 17.0 8.500% Six skilled nursing facilities 28.8 16.2
------------------------------------------------------------------------------------------------
$ 62.1 $116.1 $ 59.8
================================================================================================
The $23.3 million note is payable in monthly installments of principal
and interest based on a 30 year amortization with the final payment due in July
2026. The $4.7 million note is payable in monthly installments of principal and
interest based on a 20 year amortization with the final payment due in January
2017. The three notes totaling $17.1 million are payable in monthly
installments of principal and interest based on a 25 year amortization with a
balloon payment of the unpaid balance in September 2004. The $17.0 million note
bears interest at 50 basis points in excess of the prime rate, and is payable
in monthly installments of principal and interest based on a 25 year
amortization with a balloon payment of the unpaid balance in June 2000.
Other Notes
On July 31, 1999, the Company entered into a $7.0 million note with a
commercial institution. The note bears interest at 7.53%, is payable in equal
semi-annual installments of principal and interest and fully amortizes in July
2005.
Other Long-Term Debt Information
Future maturities of long-term debt are as follows (in thousands):
2000 $ 149,092
2001 271,653
2002 98,075
2003 1,971
2004 17,061
2005 and thereafter 26,032
------------
$ 563,884
============
During the years ended December 31, 1999, 1998 and the 1997, interest
paid totaled $41.5 million, $11.1 million and $9.0 million, and capitalized
interest totaled $1.9 million, $1.4 million and $0.7 million, respectively.
6. STOCKHOLDERS' EQUITY
The Company had common and preferred shares outstanding as of the
three years ended December 31, 1999 as follows:
Year Ended December 31,
--------------------------------------------------
1999 1998 1997
---- ---- ----
Common Shares
Balance, beginning of period 39,792,775 19,285,927 13,898,777
Issuance of stock 210,754 20,226,981 5,235,761
Shares awarded as deferred stock compensation 1,050 148,357 143,716
Shares issued from warrants -- 131,510 7,673
--------------------------------------------------
Balance, end of period 40,004,579 39,792,775 19,285,927
==================================================
Preferred Shares
Balance, beginning of period 3,000,000 -- --
Issuance of stock -- 3,000,000 --
--------------------------------------------------
Balance, end of period 3,000,000 3,000,000 --
==================================================
20
On October 15, 1998, the Company issued 18,906,909 shares of common
stock and 3,000,000 shares of 8 7/8% Series A Voting Cumulative preferred
stock, par value $.01 per share, in a stock-for-stock merger with Capstone
Capital Corporation (see Note 2). Upon dissolution of the Company, the
preferred stock is senior to common stock with respect to dividend rights and
rights upon dissolution. Holders of preferred stock are entitled to receive
cumulative preferential cash dividends of 8 7/8 % per annum of the liquidation
preference of $25.00 per share payable quarterly, in arrears. Preferred stock
is not redeemable prior to September 30, 2002. On or after September 2002, the
Company, at its option, may redeem preferred stock, in whole or in part, at any
time or from time to time, at the redemption price. The holder of each share of
preferred stock has one vote, together with the holders of common stock, on all
matters on which stockholders may vote.
In July 1998, warrants for 128,149 shares of common stock were
exercised. At December 31, 1999 and 1998, the Company has no warrants
outstanding. During April and May 1998, the Company sold an aggregate of 49,953
shares of common stock to a single institutional investor. In February 1998,
the Company participated in two unit investment trust offerings and sold an
aggregate of 1,224,026 shares of its common stock. The Company received an
aggregate of $37.1 million in proceeds for these transactions. The proceeds
were used to repay outstanding borrowings under the Company's previous
unsecured credit facility, acquisitions, developments and for general corporate
purposes.
Effective February 14, 1997, the Company sold 5,175,000 shares of its
common stock in a secondary offering (the "Secondary Offering") under its
currently effective registration statement pertaining to $250.0 million of
equity securities, debt securities and warrants. The Company received $133.4
million in net proceeds. Promptly thereafter, the net proceeds were used, in
part, to extinguish $71.9 million of indebtedness outstanding under the
Company's previous unsecured credit facility, and to repay or defease secured
indebtedness in the total amount of $6.7 million. Remaining proceeds of the
Secondary Offering of approximately $57.2 million were invested in additional
property acquisitions, build-to-suit property development and for general
corporate purposes.
7. BENEFIT PLANS
Executive Retirement Plan
The Company has an Executive Retirement Plan, under which an executive
designated by the Compensation Committee of the Board of Directors may receive
upon normal retirement (defined to be when the executive reaches age 65 and has
completed five years of service with the Company) 60% of the executives' final
average earnings (defined as the average of the executive's highest three
years' earnings) plus 6% of final average earnings times years of service after
age 60 (but not more than five years), less 100% of certain other retirement
benefits received by the executive.
Retirement Plan for Outside Directors
The Company has a retirement plan for outside directors which, upon
retirement, will pay annually, for a period not to exceed 15 years, an amount
equal to the director's pay immediately preceding retirement from the Board.
Retirement Plan Information
Net expense for both the Executive Retirement Plan and the Retirement
Plan for Outside Directors (the "Plans") for the two years ended December 31,
1999 is comprised of the following (in thousands):
1999 1998
- -------------------------------------------------------------------------------------------------------------
Service cost $ 233 $ 775
Interest cost 141 103
Other (27) 10
-------------------------------
$ 347 $ 888
===============================
21
The Plans are unfunded and benefits will be paid from earnings of the
Company. The following table sets forth the benefit obligations at December 31,
1999 and 1998 (in thousands).
1999 1998
- -------------------------------------------------------------------------------------------------------------
Benefit obligation at beginning of year $ 2,553 $ 1,213
Service cost 233 775
Interest cost 141 103
Other (27) 10
Actuarial gain (loss) (576) 452
-------------------------------
Benefit obligation at end of year 2,324 2,553
Unrecognized net actuarial (gain) loss 214 (362)
-------------------------------
Net pension liability in accrued liabilities $ 2,538 $ 2,191
===============================
Accounting for the Executive Retirement Plan for the years ended
December 31, 1999 and 1998 assumes discount rates of 8.03% and 7.04%,
respectively, and a compensation increase rate of 2.7%. Accounting for the
Retirement Plan for Outside Directors assumes discount rates of 8.03% and
7.04%, respectively.
8. STOCK PLANS AND WARRANTS
1993 Employees Stock Incentive Plan
The Company is authorized to issue stock representing up to 7.5% of
its outstanding shares of common stock, (the "Employee Plan Shares") under the
1993 Employees Stock Incentive Plan (the "Employee Plan"). As of December 31,
1999 and 1998, the Company had a total of 2,480,326 and 2,464,441 Employee Plan
Shares authorized, respectively, that had not been issued. Unless terminated
earlier, the Employee Plan will terminate on January 1, 2003. As of December
31, 1999 and 1998, the Company had issued a total of 520,017 and 520,017, and
had specifically reserved, but not issued, a total of 445,000 and 445,000
Employee Plan Shares (the "Reserved Stock"), respectively, for
performance-based awards to employees under the Employee Plan. The issuance of
Reserved Stock to eligible employees is contingent upon the achievement of
specific performance criteria. The Reserved Stock awards are subject to fixed
vesting periods varying from four to twelve years beginning on the date of
issue. If an employee voluntarily terminates employment with the Company before
the end of the vesting period, the shares are forfeited, at no cost to the
Company. Once the Reserved Stock has been issued, the employee has the right to
receive dividends and the right to vote the shares. For 1999 and 1998,
compensation expense resulting from the amortization of the value of these
shares was $1.1 million and $1.2 million, respectively.
Non-Employee Directors' Stock Plan
Pursuant to the 1995 Restricted Stock Plan for Non-Employee Directors
(the "1995 Directors' Plan"), the Directors' stock vests in each Director upon
the date three years from the date of issue and is subject to forfeiture prior
to such date upon termination of the Director's service, at no cost to the
Company. As of December 31, 1999 and 1998, the Company had a total of 94,750
and 95,800 authorized shares under the 1995 Directors' Plan, respectively, that
had not been issued. As of December 31, 1999 and 1998, the Company had issued a
total of 14,523 and 13,473 shares, respectively, pursuant to the 1995
Directors' Plan. For 1999 and 1998, compensation expense resulting from the
amortization of the value of these shares was $30,943 and $89,792 respectively.
1995 Employee Stock Purchase Plan
As of December 31, 1999 and 1998, the Company had a total of 772,819
and 851,232 shares authorized under the 1995 Employee Stock Purchase Plan (the
"Employee Purchase Plan"), respectively, that had not been issued or optioned.
Under the Employee Purchase Plan, each eligible employee as of May 1995 and
each subsequent January 1 has been or shall be granted an option to purchase up
to $25,000 of common stock at the lesser of 85% of the market price on the date
of grant or 85% of the market price on the date of exercise of such option (the
"Exercise Date"), but at not less than book value per share as of the December
31 immediately preceding the date of grant. The number of shares subject to
each year's option becomes fixed on the date of grant. Eligible employees
include those employees who were employed by the Company or a subsidiary on a
full-time basis as of May 1995 and those employees with six months of service
who are so employed by the Company or subsidiary as of each subsequent January
1. Options granted under the Employee Purchase Plan expire if not exercised 27
months after each such option's date of grant. The Employee Purchase Plan
results in no compensation expense to the Company.
A summary of Employee Purchase Plan activity and related information
for the years ended December 31 is as follows:
22
All Options
-------------------------------------------------------
1999 1998 1997
- ---------------------------------------------------------------------------------------------------------------------------------
Outstanding, beginning of year 85,716 65,573 71,073
Granted 144,886 74,472 69,930
Exercised (5,524) (12,289) (40,631)
Forfeited (37,775) (31,799) (23,723)
Expired (28,698) (10,241) (11,076)
-------------------------------------------------------
Outstanding and exercisable at end of year 158,605 85,716 65,573
Weighted-average fair value of options granted during the year
(calculated as of the grant date) $ 0.76 $ 5.94 $ 3.12
Weighted-average exercise price of options exercised during the year $ 18.00 $ 20.69 $ 19.48
Weighted-average exercise price of options outstanding (calculated as
of December 31) $ 22.57 $ 19.10 $ 21.58
Range of exercise prices of options outstanding (calculated as of
December 31) $ 19.52-$23.76 $ 18.43-$19.52 $ 19.71-$22.47
Weighted-average contractual life of outstanding options (calculated
as of December 31, in years) 1.0 0.9 0.9
The fair value for these options was estimated at the date of grant
using a Black-Scholes options pricing model with the following assumptions for
1999, 1998 and 1997; risk-free interest rates of 6.24%, 5.00% and 6.00%; a
dividend yield of 9.87%, 7.13% and 8.02%; a volatility factor of the expected
market price of the Company's Common Stock of .178, .139 and .096; and an
expected life of the option of 1.13 years, respectively.
The pro forma effect on net income and earnings per share for the
three years in the period ended December 31, 1999, calculated in accordance
with Statement of Financial Accounting Standards No. 123 "Accounting for
Stock-Based Compensation" is as follows (dollars in thousands, except for per
share data):
1999 1998 1997
--------------------------------------------------
Proforma net income $ 85,917 $ 40,037 $ 30,994
Proforma earnings per share
Basic $ 2.02 $ 1.64 $ 1.70
Assuming dilution $ 1.99 $ 1.61 $ 1.67
The Company is proposing a 2000 Employee Stock Purchase Plan which
will be voted on at the Company's annual shareholders' meeting in May 2000.
Other
In 1993, the Company issued warrants to purchase up to 188,712 shares
of common stock (the "Warrants"). The Warrants were exercisable for a period of
four years commencing July 1, 1994 at a price of $19.50 per share, the then
current fair market value, subject to adjustment under applicable antidilution
provisions. The holders of the Warrants had the right to require the Company to
include the common stock underlying such Warrants in any registration statement
filed by the Company at the Company's expense. As of December 31, 1998, all
Warrants had either been exercised or cancelled.
At December 31, 1999 and 1998, the Company had authorized 3,347,895
and 3,430,112 shares, respectively, for future issuance under stock plans.
The Company has revised its discretionary bonus incentive plan to
include restricted stock as part of bonuses for employees in management
positions. These restricted stock shares will vest over periods ranging from
three to five years. If an employee terminates employment with the Company
before the end of the vesting period, the shares are forfeited at no cost to
the Company. The Company's first bonus under this plan was issued March 1,
2000.
9. NET INCOME PER SHARE
The table below sets forth the computation of basic and diluted
earnings per share as required by FASB Statement No. 128 for the three years in
the period ended December 31, 1999.
23
Year Ended Year Ended Year Ended
Dec. 31, 1999 Dec. 31, 1998 Dec. 31, 1997
- ---------------------------------------------------------------------------------------------------------------------------------
BASIC EPS
Average Shares Outstanding 39,857,587 24,573,885 18,605,876
Actual Restricted Stock Shares (530,993) (529,943) (383,633)
-------------------------------------------------------
Denominator - Basic 39,326,594 24,043,942 18,222,243
=======================================================
Net Income $ 86,026,559 $ 40,478,407 $ 31,312,289
Preferred Stock Dividend (6,655,726) (554,688) 0
-------------------------------------------------------
Numerator - Basic $ 79,370,833 $ 39,923,719 $ 31,212,289
=======================================================
Per share amount $ 2.02 $ 1.66 $ 1.71
=======================================================
DILUTED EPS
Average Shares Outstanding 39,857,587 24,573,885 18,605,876
Actual Restricted Stock Shares (530,993) (529,943) (383,633)
Dilution for Convertible Debentures 0 40,017 0
Restricted Shares - Treasury 482,496 405,235 276,890
Dilution For Employee Stock Purchase Plan 1,216 15,597 25,032
Dilution for Warrants 0 19,809 48,327
-------------------------------------------------------
Denominator - Diluted 39,810,306 24,524,600 18,572,492
=======================================================
Numerator - Basic $ 79,370,833 $ 39,923,719 $ 31,212,289
Convertible Subordinated Debenture Interest 0 63,638 0
-------------------------------------------------------
Numerator - Diluted $ 79,370,833 $ 39,987,357 $ 31,212,289
=======================================================
Per share amount $ 1.99 $ 1.63 $ 1.68
=======================================================
10. COMMITMENTS AND CONTINGENCIES
As of December 31, 1999, the Company had a net investment of
approximately $20.0 million in six build-to-suit developments in progress,
which have a total remaining funding commitment of approximately $37.6 million.
Further, the Company has commitments to purchase or provide funding for the
construction of other properties totaling $12.4 million at December 31, 1999.
The Company also has six mortgages under development at December 31, 1999,
which have a total remaining funding commitment of approximately $1.9 million.
As part of the Capstone merger, agreements were entered into with
three individuals affiliated with Capstone that restrict competitive practices
and which the Company believes will protect and enhance the value of the real
estate properties acquired from Capstone. These agreements provide for the
issuance of 150,000 shares per year of common stock of the Company to the
individuals on October 15 of the years 1999, 2000, 2001, and 2002, provided all
terms of the agreements are met. Upon issuance, these shares are valued at
$28.0714 per share, the valuation as of the date of the Capstone merger. The
Company issued 150,000 shares during 1999 pursuant to these agreements.
On March 22, 1999, HR Acquisition I Corporation, formerly known as
Capstone Capital Corporation ("HRT"), a wholly-owned subsidiary of the Company,
filed suit against Medistar Corporation and its affiliate, Medix Construction
Company in United States District Court for the Northern District of Alabama,
Southern Division. HRT is seeking damages in excess of two million dollars
arising out of the development and construction of four real estate projects
located in different parts of the United States. Medistar and Medix served as
the developer and contractor, respectively, for the projects. HRT has asserted
claims for damages relating to, among others, alleged breaches of the
development and contracting obligations, failure to perform in accordance with
contract terms and specifications, and other deficiencies in performance by
Medistar and Medix. On June 10, 1999, Medistar and Medix filed its answer and
counterclaim asserting a variety of alleged legal theories, claims for damages
for alleged deficiencies by HRT and the Company in the performance of alleged
obligations, and for damage to their business reputation. Attempts at mediation
have not resulted in a settlement of the disputes. The Company's prosecution of
its claims and defense of the counterclaims will be vigorous. While the Company
cannot predict the range of possible loss or outcome, the Company believes
that, even though the asserted cross claims seek substantial monetary damages,
the allegations made by Medistar and Medix are not factually or legally
meritorious, are subject to sustainable defenses and are, to a significant
extent, covered by liability insurance.
24
11. OTHER DATA
Funds From Operations (Unaudited)
Funds from operations, as defined by the National Association of Real
Estate Investment Trusts, Inc. ("NAREIT") 1995 White Paper, means net income
(computed in accordance with generally accepted accounting principles),
excluding gains (or losses) from debt restructuring and sales of property, plus
depreciation from real estate assets. Funds from operations does not represent
cash generated from operating activities in accordance with generally accepted
accounting principles, is not necessarily indicative of cash available to fund
cash needs, and should not be considered as an alternative to net income as an
indicator of the Company's operating performance or as an alternative to cash
flow as a measure of liquidity.
Year Ended Dec. 31,
--------------------------------
(unaudited)
(Dollars in thousands except per share data) 1999 1998
- -----------------------------------------------------------------------------------------------------
NET INCOME (1) $ 86,027 $ 40,479
NON-RECURRING ITEMS (2) 0 6,308
GAIN OR LOSS ON DISPOSITIONS (3) (4,776) (675)
STRAIGHT LINE RENTS (6,885) (1,264)
PREFERRED STOCK DIVIDEND (6,656) (555)
DEPRECIATION
Real estate 38,017 15,374
Office F, F & E 0 0
Leasehold improvements 0 0
Other non-revenue producing assets 0 0
--------------------------------
38,017 15,374
AMORTIZATION
Acquired property contracts 0 0
Other non-revenue producing assets 0 0
Organization costs 0 0
0 0
--------------------------------
DEFERRED FINANCING COSTS 0 0
--------------------------------
TOTAL ADJUSTMENTS 19,700 19,188
--------------------------------
Funds From Operations - Basic $ 105,727 $ 59,667
================================
Convertible Subordinated Debenture Interest 0 64
================================
Funds From Operations - Diluted $ 105,727 $ 59,731
================================
Shares Outstanding - Basic 39,326,594 24,043,942
================================
Shares Outstanding - Diluted 39,810,306 24,524,600
================================
Funds From Operations Per Share - Basic $ 2.69 $ 2.48
================================
Funds From Operations Per Share - Diluted $ 2.66 $ 2.44
================================
(1) 1999 and 1998 amounts include $1.2 million and $1.3 million, respectively,
of stock-based, long-term, incentive compensation expense, a non-cash expense.
(2) Represents charges primarily to write off certain capitalized costs,
leasehold improvements, organization and other deferred costs in 1998.
(3) Represents net gains from sales of real estate properties.
Return of Capital
Distributions in excess of earnings and profits generally constitute a
return of capital. For the years ended December 31, 1999, 1998 and 1997,
dividends paid per share of common stock were $2.15, $2.07 and $1.99,
respectively, which consisted of ordinary income per share of $2.00, $2.07 and
$1.72 and return of capital per share of $0.15, $0.00 and $0.27 respectively.
For the years ended December 31, 1999 and 1998, dividends paid per share of
preferred stock were $2.22 and $0.46, respectively, all of which was ordinary
income.
25
12. FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts of cash, receivables and payables are a
reasonable estimate of their fair value at December 31, 1999 and 1998 due to
their short term nature. The fair value of notes and bonds payable is estimated
using cash flow analyses at December 31, 1999 and 1998, based on the Company's
current interest rates for similar types of borrowing arrangements. The
carrying amount of the Company's notes and bonds payable at December 31, 1999
is approximately $7.3 million greater than the fair value. The carrying amount
of the Company's mortgage notes receivable at December 31, 1999 is
approximately $21.4 million greater than the fair value. The fair value is
based on the present value of future cash flows discounted at an assumed market
rate of interest. Because no market rates of interest are published for these
assets, the market rate of interest is assumed to be the same spread to U.S.
Treasury yields for comparable maturities that existed when the mortgage notes
receivable were acquired in the Capstone merger on October 15, 1998, adjusted
to published U.S. Treasury yields. At December 31, 1998, the carrying value of
notes and bonds payable and mortgage notes receivable approximated fair value.
13. SUBSEQUENT EVENTS
On January 25, 2000, the Company declared an increase in its quarterly
common stock dividend from $.545 per share ($2.18 annualized) to $.55 per share
($2.20 annualized) payable on February 16, 2000 to shareholders of record on
February 4, 2000. The Company also announced its quarterly preferred stock
dividend of $.55469 per share ($2.22 annualized) payable on February 29, 2000
to shareholders of record on February 4, 2000.
14. SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
Quarterly financial information includes certain reclassifications to
conform to the December 31, 1999 presentation. This information for the years
ended December 31, 1999 and 1998 is summarized below:
Quarter Ended
-------------------------------------------------------------------
(In thousands, except per share data) March 31 June 30 September 30 December 31
- -------------------------------------------------------------------------------------------------------------------
1999
Total revenue $ 45,148 $ 46,160 $ 46,518 $ 49,431
---------------------------------------------------------------
Net income $ 20,742 $ 20,592 $ 20,230 $ 24,463
---------------------------------------------------------------
Funds from operations - Basic $ 25,730 $ 26,362 $ 26,530 $ 27,105
---------------------------------------------------------------
Funds from operations - Diluted $ 25,730 $ 26,420 $ 26,610 $ 27,105
---------------------------------------------------------------
Net income per share - Basic $ 0.49 $ 0.48 $ 0.47 $ 0.58
---------------------------------------------------------------
Net income per share - Diluted $ 0.48 $ 0.48 $ 0.47 $ 0.57
---------------------------------------------------------------
Funds from operations per share - Basic $ 0.66 $ 0.67 $ 0.68 $ 0.69
---------------------------------------------------------------
Funds from operations per share - Diluted $ 0.65 $ 0.66 $ 0.67 $ 0.68
---------------------------------------------------------------
1998
Total revenue $ 17,333 $ 17,730 $ 18,325 $ 39,041
---------------------------------------------------------------
Net income $ 8,606 $ 9,381 $ 3,050 $ 19,442
---------------------------------------------------------------
Funds from operations - Basic $ 11,604 $ 12,316 $ 12,368 $ 23,379
---------------------------------------------------------------
Funds from operations - Diluted $ 11,604 $ 12,316 $ 12,368 $ 23,443
---------------------------------------------------------------
Net income per share - Basic $ 0.44 $ 0.46 $ 0.15 $ 0.52
---------------------------------------------------------------
Net income per share - Diluted $ 0.43 $ 0.45 $ 0.15 $ 0.51
---------------------------------------------------------------
Funds from operations per share - Basic $ 0.60 $ 0.61 $ 0.61 $ 0.65
---------------------------------------------------------------
Funds from operations per share - Diluted $ 0.59 $ 0.60 $ 0.60 $ 0.64
---------------------------------------------------------------