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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
(X) QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934 FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2006
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NUMBER: 1-13136
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HOME PROPERTIES, INC.
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(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
MARYLAND 16-1455126
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(State of incorporation) (I.R.S. Employer Identification No.)
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850 Clinton Square, Rochester, New York 14604
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(Address of principal executive offices)(Zip Code)
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(585) 546-4900
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(Registrant's telephone number, including area code)
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N/A
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to the
filing requirements for at least the past 90 days.
Yes X No
----- -----
Indicate by check mark whether the registrant is a large accelerated filer,
an accelerated filer, or a non-accelerated filer. See definition of "accelerated
filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check
one):
Large accelerated filer X Accelerated filer Non-accelerated filer
----- ----- -----
Indicate by check mark whether the registrant is a shell company (as
defined in Rule 12b-2 of the Exchange Act).
Yes No X
----- -----
APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY
PROCEEDINGS DURING THE PRECEDING FIVE YEARS
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Sections 12, 13 or 15(d)of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court.
Yes No
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APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
Class of Common Stock Outstanding at July 31, 2006
--------------------- ----------------------------
$.01 par value 33,204,038
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HOME PROPERTIES, INC.
TABLE OF CONTENTS
PAGE
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets -
June 30, 2006 (Unaudited) and December 31, 2005 4
Consolidated Statements of Operations (Unaudited) -
Three months ended June 30, 2006 and 2005 5
Consolidated Statements of Operations (Unaudited) -
Six months ended June 30, 2006 and 2005 6
Consolidated Statements of Comprehensive Income (Unaudited) -
Three months ended June 30, 2006 and 2005 7
Consolidated Statements of Comprehensive Income (Unaudited) -
Six months ended June 30, 2006 and 2005 8
Consolidated Statements of Cash Flow (Unaudited) -
Six months ended June 30, 2006 and 2005 9
Notes to Consolidated Financial Statements (Unaudited) 10-19
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 20-32
Item 3. Quantitative and Qualitative Disclosures About Market Risk 33
Item 4. Controls and Procedures 34
PART II. OTHER INFORMATION
Item 1A. Risk Factors 35
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 35
Item 4. Submission of Matter to a Vote of Security Holders 36
Item 6. Exhibits 36
Signatures 37
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
HOME PROPERTIES, INC.
CONSOLIDATED BALANCE SHEETS
JUNE 30, 2006 AND DECEMBER 31, 2005
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
2006 2005
---- ----
(Unaudited) (Note 1)
ASSETS
Real estate:
Land $ 417,276 $ 402,299
Construction in progress 7,503 4,471
Buildings, improvements and equipment 2,858,177 2,704,372
Real estate held for sale or disposal, net - 219,776
----------- -----------
3,282,956 3,330,918
----------- -----------
Less: accumulated depreciation (495,738) (446,367)
----------- -----------
Real estate, net 2,787,218 2,884,551
Cash and cash equivalents 7,180 5,391
Cash in escrows 77,207 36,760
Accounts receivable 7,979 7,386
Prepaid expenses 11,547 16,141
Deferred charges 11,283 11,156
Other assets 11,509 12,536
Other assets held for sale - 3,949
----------- -----------
Total assets $ 2,913,923 $ 2,977,870
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Mortgage notes payable $ 1,822,305 $ 1,768,483
Line of credit 47,000 82,000
Accounts payable 17,104 19,458
Accrued interest payable 8,681 8,274
Accrued expenses and other liabilities 25,338 22,565
Security deposits 22,173 21,742
Liabilities held for sale - 75,267
----------- -----------
Total liabilities 1,942,601 1,997,789
----------- -----------
Commitments and contingencies
Minority interest 267,309 323,269
----------- -----------
Stockholders' equity:
Cumulative redeemable preferred stock, $.01 par value; 2,400,000
shares issued and outstanding at June 30, 2006 and December 31,
2005. 60,000 60,000
Common stock, $.01 par value; 80,000,000 shares authorized;
33,091,373 and 31,184,256 shares issued and outstanding at June
30, 2006 and December 31, 2005. 331 312
Excess stock, $.01 par value; 10,000,000 shares authorized; no
shares issued or outstanding - -
Additional paid-in capital 847,422 773,396
Accumulated other comprehensive income 319 206
Distributions in excess of accumulated earnings (204,059) (177,102)
----------- -----------
Total stockholders' equity 704,013 656,812
----------- -----------
Total liabilities and stockholders' equity $ 2,913,923 $ 2,977,870
=========== ===========
The accompanying notes are an integral part of these consolidated financial
statements.
HOME PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE MONTHS ENDED JUNE 30, 2006 AND 2005
(UNAUDITED, IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
2006 2005
---- ----
Revenues:
Rental income $ 113,358 $ 103,037
Property other income 7,966 5,385
Interest income 119 73
--------- --------
Other income 504 439
--------- --------
Total revenues 121,947 108,934
--------- --------
Expenses:
Operating and maintenance 49,397 47,593
General and administrative 6,057 4,144
Interest 27,717 23,445
--------- --------
Depreciation and amortization 25,591 21,551
--------- --------
Total expenses 108,762 96,733
--------- --------
Income from operations 13,185 12,201
--------- --------
Minority interest in operating partnerships (3,678) (3,494)
--------- --------
Income from continuing operations 9,507 8,707
--------- --------
Discontinued operations
Income from operations, net of $218 and $543 in 2006 and 2005
allocated to minority interest, respectively 485 1,089
Gain (loss) on disposition of property, net of $1,064 and ($39) in
2006 and 2005 allocated to minority interest, respectively 2,361 (77)
--------- --------
Discontinued operations 2,846 1,012
--------- --------
Net income 12,353 9,719
--------- --------
Preferred dividends (1,350) (1,681)
--------- --------
Net income available to common shareholders $ 11,003 $ 8,038
========= ========
Basic earnings per share data:
Income from continuing operations $ 0.24 $ 0.22
Discontinued operations 0.09 0.03
-------- --------
Net income available to common shareholders $ 0.33 $ 0.25
======== ========
Diluted earnings per share data:
Income from continuing operations $ 0.24 $ 0.22
Discontinued operations 0.09 0.03
-------- --------
Net income available to common shareholders $ 0.33 $ 0.25
======== ========
Weighted average number of shares outstanding:
Basic 32,936,880 31,843,551
========== ==========
Diluted 33,598,725 32,279,115
========== ==========
Dividends declared per share $ 0.64 $ 0.63
======== ========
The accompanying notes are an integral part of these consolidated financial
statements.
HOME PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE SIX MONTHS ENDED JUNE 30, 2006 AND 2005
(UNAUDITED, IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
2006 2005
---- ----
Revenues:
Rental income $ 224,996 $ 203,922
Property other income 15,136 9,899
Interest income 210 141
Other income 1,021 1,027
--------- --------
Total revenues 241,363 214,989
--------- --------
Expenses:
Operating and maintenance 107,532 98,819
General and administrative 11,096 9,549
Interest 54,912 46,646
Depreciation and amortization 50,637 42,819
Impairment of assets held as General Partner - 400
--------- --------
Total expenses 224,177 198,233
--------- --------
Income from operations 17,186 16,756
Minority interest in operating partnerships (4,600) (4,373)
--------- --------
Income from continuing operations 12,586 12,383
--------- --------
Discontinued operations
Income (loss) from operations, net of $1,503 and ($1,259) in 2006 and
2005 allocated to minority interest, respectively 2,894 (2,559)
Gain (loss) on disposition of property, net of $1,064 and ($39) in
2006 and 2005 allocated to minority interest, respectively 2,361 (77)
--------- --------
Discontinued operations 5,255 (2,636)
--------- --------
Net income 17,841 9,747
Preferred dividends (2,700) (3,579)
--------- --------
Net income available to common shareholders $ 15,141 $ 6,168
========= ========
Basic earnings per share data:
Income from continuing operations $ 0.31 $ 0.27
Discontinued operations 0.16 (0.08)
-------- --------
Net income available to common shareholders $ 0.47 $ 0.19
======== ========
Diluted earnings per share data:
Income from continuing operations $ 0.30 $ 0.27
Discontinued operations 0.16 (0.08)
-------- --------
Net income available to common shareholders $ 0.46 $ 0.19
======== ========
Weighted average number of shares outstanding:
Basic 32,101,587 31,831,604
========== ==========
Diluted 32,722,174 32,252,276
========== ==========
Dividends declared per share $ 1.28 $ 1.26
======== ========
The accompanying notes are an integral part of these consolidated financial
statements.
HOME PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
FOR THE THREE MONTHS ENDED JUNE 30, 2006 AND 2005
(UNAUDITED, IN THOUSANDS)
2006 2005
---- ----
Net income $ 12,353 $ 9,719
Other comprehensive income (loss):
Change in fair value of hedged instruments
30 (82)
-------- -------
Net comprehensive income $ 12,383 $ 9,637
======== =======
The accompanying notes are an integral part of these consolidated financial
statements.
HOME PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
FOR THE SIX MONTHS ENDED JUNE 30, 2006 AND 2005
(UNAUDITED, IN THOUSANDS)
2006 2005
---- ----
Net income $ 17,841 $ 9,747
Other comprehensive income:
Change in fair value of hedged instruments
113 271
-------- --------
Net comprehensive income $ 17,954 $ 10,018
======== ========
The accompanying notes are an integral part of these consolidated financial
statements.
HOME PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 2006 AND 2005
(UNAUDITED, IN THOUSANDS)
2006 2005
---- ----
Cash flows from operating activities:
Net income $17,841 $ 9,747
------- -------
Adjustments to reconcile net income to net cash provided by operating activities:
Income allocated to minority interest 7,167 3,075
Depreciation and amortization 51,144 49,719
Impairment of assets held as General Partner - 400
Impairment of real property - 7,325
Loss (gain) on disposition of property and business (3,425) 116
Issuance of restricted stock, compensation cost of stock options and
deferred compensation 2,287 1,350
Changes in assets and liabilities:
Other assets 8,093 5,277
Accounts payable and accrued liabilities (375) (13,005)
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Total adjustments 64,891 54,257
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Net cash provided by operating activities 82,732 64,004
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Cash flows from investing activities:
Purchase of properties and other assets, net of mortgage notes assumed and
UPREIT Units issued (20,164) (19,561)
Additions to properties (50,825) (42,226)
Proceeds from sale of properties and business, net 235,145 -
Additions to funds held in escrow from tax-free exchanges (41,383) -
-------- -------
Net cash provided by (used in) investing activities 122,773 (61,787)
-------- -------
Cash flows from financing activities:
Proceeds from sale of common stock, net 13,806 4,263
Repurchase of common stock (86,356) (53,320)
Proceeds from mortgage notes payable 122,980 150,207
Payments of mortgage notes payable (155,515) (54,741)
Proceeds from line of credit 210,800 152,200
Payments on line of credit (245,800) (132,200)
Payments of deferred loan costs (1,369) (1,641)
Withdrawals from (additions to) cash escrows, net 1,284 (1,909)
Dividends and distributions paid (63,546) (62,928)
-------- -------
Net cash used in financing activities (203,716) (69)
-------- -------
Net increase in cash and cash equivalents 1,789 2,148
-------- -------
Cash and cash equivalents:
Beginning of year 5,391 7,925
-------- -------
End of period $ 7,180 $10,073
======== =======
Supplemental disclosure of non-cash operating, investing and financing activities:
Cash paid for interest $ 60,101 $ 51,174
Mortgage loans assumed associated with property acquisitions 13,151 7,916
Issuance of UPREIT Units associated with property and other acquisitions - 12,611
Increase in real estate associated with the purchase of UPREIT Units 99,559 2,856
Exchange of UPREIT Units for common shares 59,173 2,136
Fair value of hedge instruments 357 253
Net real estate disposed in connection with FIN 46R consolidation - (30,651)
Other assets disposed in connection with FIN 46R consolidation - (4,403)
Mortgage debt disposed in connection with FIN 46R consolidation - (30,021)
Other liabilities disposed in connection with FIN 46R consolidation - (827)
The accompanying notes are an integral part of these consolidated financial
statements.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
1. Unaudited Interim Financial Statements
-------------------------------------------
The interim consolidated financial statements of Home Properties, Inc. (the
"Company") have been prepared in accordance with accounting principles generally
accepted in the United States of America for interim financial information and
the applicable rules and regulations of the Securities and Exchange Commission.
Accordingly, certain disclosures that would accompany annual financial
statements prepared in accordance with accounting principles generally accepted
in the United States of America are omitted. The year-end balance sheet data was
derived from audited financial statements, but does not include all disclosures
required by accounting principles generally accepted in the United States of
America. In the opinion of management, all adjustments, consisting solely of
normal recurring adjustments, necessary for the fair presentation of the
consolidated financial statements for the interim periods have been included.
The current period's results of operations are not necessarily indicative of
results which ultimately may be achieved for the year. The interim consolidated
financial statements and notes thereto should be read in conjunction with the
consolidated financial statements and notes thereto included in the Company's
Form 10-K for the year ended December 31, 2005.
2. Organization and Basis of Presentation
-------------------------------------------
Organization
Home Properties, Inc. (the "Company ") was formed in November 1993, as a
Maryland corporation and is engaged primarily in the ownership, management,
acquisition, and rehabilitation of residential apartment communities in the
Northeastern, Mid-Atlantic, Midwestern and Southeast Florida regions of the
United States. The Company conducts its business through Home Properties, L.P.
(the "Operating Partnership"), a New York limited partnership. As of June 30,
2006, the Company operated 140 apartment communities with 42,194 apartments. Of
this total, the Company owned 135 communities, consisting of 38,625 apartments,
managed as general partner one partnership that owned 868 apartments, and fee
managed four communities, consisting of 2,701 apartments for third parties.
The Company elected to be taxed as a REIT under the Internal Revenue Code, as
amended, for all periods presented. A corporate REIT is a legal entity which
holds real estate interests and must meet a number of organizational and
operational requirements, including a requirement that it currently distribute
at least 90% of its adjusted taxable income to stockholders. As a REIT, the
Company generally will not be subject to corporate level tax on taxable income
it distributes currently to its stockholders. Management believes that all such
conditions for the avoidance of income taxes have been met for the periods
presented. Accordingly, no provisions for federal and state income taxes have
been made.
Basis of Presentation
The accompanying consolidated financial statements include the accounts of the
Company and its 71.0% (65.2% at December 31, 2005 and 67.3% at June 30, 2005)
interest in the Operating Partnership. Such interest has been calculated as the
percentage of outstanding common shares divided by the total outstanding common
shares and Operating Partnership Units ("UPREIT Units") outstanding. The
remaining 29.0% (34.8% at December 31, 2005 and 32.7% at June 30, 2005) is
reflected as Minority Interest in these consolidated financial statements. The
Company owns a 1.0% general partner interest in the Operating Partnership and
the remainder indirectly as a limited partner through its wholly owned
subsidiary, Home Properties I, LLC, which owns 100% of the limited partner, Home
Properties Trust. Home Properties Trust was formed in September 1997, as a
Maryland real estate trust and as a qualified REIT subsidiary ("QRS") and owns
the Company's share of the limited partner interests in the Operating
Partnership. For financing purposes, the Company has formed a limited liability
company (the "LLC") and a partnership (the "Financing Partnership"), which
beneficially own certain apartment communities encumbered by mortgage
indebtedness. The LLC is wholly owned by the Operating Partnership. The
Financing Partnership is owned 99.9% by the Operating Partnership and 0.1% by
the QRS.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
2. Organization and Basis of Presentation (continued)
-------------------------------------------------------
During the second quarter of 2006, there were 3.0 million shares of UPREIT Units
converted to common stock. The Company made a $96.5 million adjustment to record
the fair market value of the conversion. This conversion resulted in the Company
recording a step-up in basis of the carrying values of land, buildings and
intangibles in accordance with SFAS 141.
The accompanying consolidated financial statements include the accounts of Home
Properties Management, Inc. and Home Properties Resident Services, Inc. (the
"Management Companies"). The Management Companies are wholly owned subsidiaries
of the Company. In addition, the Company consolidates one affordable housing
limited partnership in accordance with FASB Interpretation No. 46R,
Consolidation of Variable Interest Entities. All significant inter-company
balances and transactions have been eliminated in these consolidated financial
statements.
Reclassifications
Certain reclassifications have been made to the 2005 consolidated financial
statements to conform to the 2006 presentation.
Recent Accounting Pronouncements
In June 2006, the Financial Accounting Standards Board issued FASB
Interpretation No. 48, Accounting for Uncertainty in Income Taxes ("FIN 48").
FIN 48 addresses the recognition and measurement of assets and liabilities
associated with tax positions taken or expected to be taken in a tax return. The
Company is reviewing its current tax positions for any potential uncertain tax
positions that would qualify under FIN 48. Based on its preliminary review, the
Company does not anticipate that the adoption of FIN 48 in January 2007 will
have a material impact on the Company's financial position or results of
operations.
3. Stock Benefit Plan
-----------------------
The Company's 1994 Stock Benefit Plan (the "1994 Plan") was adopted by the
Company at the time of its initial public offering. On February 1, 2000, the
Company adopted the 2000 Stock Benefit Plan, which was subsequently amended (the
"2000 Plan"). On May 6, 2003, the Company adopted the 2003 Stock Benefit Plan
and on May 6, 2005, the shareholders approved the Amended and Restated 2003
Stock Benefit Plan (the "2003 Plan"). No additional options will be issued under
the 1994 Plan and the 2000 Plan. Participants in each of the above referenced
plans (the "Option Plans") include officers, non-employee directors, and key
employees of the Company. The 1994 Plan provided for the issuance of up to
1,596,000 options to officers and employees and 154,000 options to non-employee
directors. The 2000 Plan limits the number of shares issuable under the plan to
2,755,000, of which 205,000 were to be available for issuance to the
non-employee directors. The 2003 Plan limits the number of shares issuable under
the plan to 2,859,475, of which 249,475 are to be available for issuance to the
non-employee directors. Under the 1994 Plan, 1,542,381 shares have been granted
to employees and 153,654 shares have been granted to non-employee directors.
Awards for 2,451,922 shares have been granted to employees and awards for
166,460 shares have been granted to non-employee directors under the 2000 Plan.
Under the 2003 Plan and as of June 30, 2006, 2,260,226 awards for shares have
been issued to employees and 204,475 awards for shares have been issued to
non-employee directors and 639,874 and 45,000 common shares are available for
future grant of awards under the 2003 Plan for officers and employees and
non-employee directors, respectively. Options granted under the Option Plans
vest 20% for each year of service until 100% vested on the fifth anniversary,
except that options issued to certain officers (276,000) and all of the options
issued to non-employee directors under the 1994 Plan and 2000 Plan vested
immediately upon grant. The exercise price per share for stock options issued
under all of the Option Plans may not be less than 100% of the fair market value
of a share of common stock on the date the stock option is granted. Options
granted to non-employee directors under the 1994 Plan and the 2000 Plan expire
after five years from the date of grant. All other options expire after ten
years from the date of grant. The Option Plans allow
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
3. Stock Benefit Plan (continued)
-----------------------------------
for the grant of options, stock appreciation rights and restricted stock awards.
No stock appreciation rights have been granted.
On January 1, 2006, the Company adopted Statement of Financial Accounting
Standards No. 123R, Share Based Payments ("SFAS 123R"). The statement is a
revision of SFAS No. 123 Accounting for Stock-Based Compensation. SFAS 123R
supersedes APB Opinion No. 25 Accounting for Stock Issued to Employees and its
related implementation guidance. SFAS 123R requires that entities recognize the
cost of employee services received in exchange for awards of equity instruments
(i.e., stock options) based on the grant-date fair value of those awards. Prior
to January 1, 2006, the Company applied the provisions of SFAS No. 148
Accounting for Stock-Based Compensation - Transition and Disclosure, an
Amendment to SFAS No. 123 ("SFAS 148"). Under SFAS 148, the Company recognized
compensation cost related to stock option grants, based on the fair value on the
date of the grant, over the service period of the employee receiving the award.
Generally, the approach in SFAS 123R is similar to the approach described in
SFAS 148. The Company uses the Black-Scholes formula to estimate the fair value
of stock options granted to employees for both SFAS 123R and SFAS 148. SFAS 123R
and SFAS 148 require the estimation of forfeitures when recognizing compensation
expense and that this estimate of forfeitures be adjusted over the requisite
service period should actual forfeitures differ from such estimates. Changes in
estimated forfeitures are recognized through a cumulative catch-up adjustment,
which is recognized in the period of change and which impacts the amount of
unamortized compensation expense to be recognized in future periods. For options
granted prior to January 1, 2006, the Company uses the nominal vesting period
approach. For option grants after January 1, 2006, the Company applies the
non-substantive vesting period approach which resulted in $677 additional
compensation costs for retirement eligible employees and directors than would
have been recognized under SFAS 148. As a result of the adoption of SFAS 123R,
the Company began capitalizing stock-based compensation costs as a component of
employee compensation that is capitalized as part of self-constructed fixed
assets. The Company applied the modified prospective application in adopting
SFAS 123R. The adoption of SFAS 123R did not have a material impact on the
Company's results of operations, financial position or liquidity.
A summary of stock options activity for the six months ended June 30, 2006 is as
follows:
Weighted
Weighted Average
Average Remaining Aggregate
Number of Exercise Price Contractual Intrinsic
Options Per Option Term Value
------- ---------- ---- -----
Options outstanding at December 31, 2005 2,662,581 $36.18
Granted 550,530 51.06
Exercised (401,838) 33.28
Cancelled (103,618) 40.29
--------- -------
Options outstanding at June 30, 2006 2,707,655 $ 39.48 7.6 $ 43,404
========= ======= === ========
Options exercisable at June 30, 2006 901,017 $ 34.14 6.1 $ 19,255
========= ======= === ========
The total cash received from the exercise of options was $13,373 and $4,394
during the six months ended June 30, 2006 and 2005. The total intrinsic value of
options exercised was $6,693 and $1,595 during the six months ended June 30,
2006 and 2005. As of June 30, 2006, there was $3,831 of total unrecognized
compensation cost related to non-vested share-based compensation arrangements
granted under the stock option plans; that cost is expected to be recognized
over a weighted-average period of 2.29 years.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
3. Stock Benefit Plan (continued)
-----------------------------------
The fair value of each option grant is estimated on the date of grant using the
Black-Scholes option-pricing model with the following weighted average
assumptions for the three and six month periods ended June 30, 2006 and 2005 as
follows:
Three Months Six Months
------------ ----------
Assumption 2006 2005 2006 2005
---------- ---- ---- ---- ----
Expected dividend yields 6.24% 6.55% 6.24% 6.55%
Expected volatility 19.15% 18.76% 19.15% 18.76%
Expected lives of the options with a lifetime
of ten years 7.5 Years 7.5 Years 7.5 Years 7.5 Years
Expected lives of the options with a lifetime
of five years 5.0 Years 5.0 Years 5.0 Years 5.0 Years
Risk free interest rate 5.09% 4.10% 5.09% 4.10%
Our computation of expected dividend yield is computed using an anticipated
increase of the dividend by approximately 2% to 5% a year based on the annual
dividend exercised each year over the Black-Scholes stock value. The expected
volatility is based on the historical volatility of our stock over a time period
from the initial public offering and ending on the grant date. Our computation
of expected life was determined based upon historical experience of similar
awards, giving consideration to the contractual terms of the share-based awards.
The risk-free interest rates are based on the U.S. Treasury yield curve in
effect at the time of grant plus 105 and 115 basis points for 2006 and 2005,
respectively.
The Company recognized stock compensation costs related to its outstanding stock
options of $673 and $284 for the three months ended June 30, 2006 and 2005 and
$889 and $455 for the six months ended June 30, 2006 and 2005.
During the six months ended June 30, 2006 and 2005, the Company granted 60,566
and 57,375 shares of restricted stock to both employees and directors,
respectively. The directors' grants included above for the six months ended June
30, 2006 and 2005 were 9,000 and 7,875, respectively. All of the directors'
shares vest 100% on the fifth anniversary of the date of the grant. All of the
51,566 and 49,500 shares of restricted stock granted to key employees during
2006 and 2005 vest 25% on each anniversary of the date of the grant for a period
of four years. The restricted shares were granted during 2006 and 2005 at a
weighted average price of $50.81 and $41.47, respectively. Total compensation
cost recorded for the six month periods ended June 30, 2006 and 2005 for the
restricted shares was $1,282 and $801, respectively. The restricted stock
outstanding at June 30, 2006 and 2005 was 295,679 and 306,771, respectively.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
4. Earnings Per Common Share
------------------------------
Basic earnings per share ("EPS") is computed as net income available to common
shareholders divided by the weighted average number of common shares outstanding
for the period. Diluted EPS reflects the potential dilution that could occur
from common shares issuable through stock-based compensation including stock
options (using the treasury stock method), restricted stock, phantom shares
under the Company's incentive compensation plan, and the conversion of any
cumulative convertible preferred stock. The exchange of an UPREIT Unit for
common stock will have no effect on diluted EPS as Unitholders and stockholders
effectively share equally in the net income of the Operating Partnership. Income
from continuing operations is the same for both the basic and diluted
calculation.
The reconciliation of the basic and diluted earnings per share for the three and
six months ended June 30, 2006 and 2005 follows:
Three Months Six Months
------------ ----------
2006 2005 2006 2005
---- ---- ---- ----
Income from continuing operations $ 9,507 $ 8,707 $ 12,586 $ 12,383
Less: Preferred dividends (1,350) (1,681) (2,700) (3,579)
---------- ---------- ---------- ----------
Basic and Diluted - Income from continuing
operations applicable to common shareholders 8,157 7,026 9,886 8,804
Discontinued operations 2,846 1,012 5,255 (2,636)
---------- ---------- ---------- ----------
Net income available to common shareholders $ 11,003 $ 8,038 $ 15,141 $ 6,168
========== ========== ========== ==========
Basic weighted average number of shares outstanding 32,936,880 31,843,551 32,101,587 31,831,604
Effect of dilutive stock options 598,898 367,606 556,685 349,365
Effect of phantom and restricted shares 62,947 67,958 63,902 71,307
---------- ---------- ---------- ----------
Diluted weighted average number of shares
outstanding 33,598,725 32,279,115 32,722,174 32,252,276
========== ========== ========== ==========
Basic earnings per share data:
Income from continuing operations $ 0.24 $ 0.22 $ 0.31 $ 0.27
Discontinued operations $ 0.09 0.03 0.16 (0.08)
-------- -------- -------- --------
Net income available to common shareholders $ 0.33 $ 0.25 $ 0.47 $ 0.19
======== ======== ======== ========
Diluted earnings per share data:
Income from continuing operations $ 0.24 $ 0.22 $ 0.30 $ 0.27
Discontinued operations $ 0.09 0.03 0.16 (0.08)
-------- -------- -------- --------
Net income available to common shareholders $ 0.33 $ 0.25 $ 0.46 $ 0.19
======== ======== ======== ========
For the three and six month periods ended June 30, 2006 and 2005, unexercised
stock options to purchase 531,930 and 547,000 shares of the Company's common
stock were excluded in the computation of diluted EPS as the options' exercise
prices were greater than the average market price of the Company's stock during
each period, respectively.
For the three and six month periods ended June 30, 2005 the 833,333 common stock
equivalents on an as-converted basis of the Series D Convertible Cumulative
Preferred Stock have an antidilutive effect and are not included in the
computation of diluted EPS. On May 26, 2005, the Series D Convertible Cumulative
Preferred Stock was converted and the common shares issued upon such conversion
were included in outstanding common shares from the date of conversion.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
5. Other Income
-----------------
Other income for the three and six month periods ended June 30, 2006 and 2005
primarily reflects management and other real estate service fees.
6. Variable Interest Entities
-------------------------------
Effective March 31, 2004, the Company adopted FASB Interpretation No. 46R -
Consolidation of Variable Interest Entities, an interpretation of ARB No. 51 -
Consolidated Financial Statements. The interpretation addresses consolidation by
businesses of special purpose entities (variable interest entities, "VIE").
The Company is the general partner in one VIE syndicated using low income
housing tax credits under Section 42 of the Internal Revenue Code. As general
partner, the Company manages the day-to-day operations of the partnership for a
management fee. In addition, the Company has an operating deficit guarantee and
tax credit guarantee to its limited partners (as discussed in Note 11). The
Company is responsible to fund operating deficits to the extent there are any
and can receive operating incentive awards when cash flows reach certain levels.
The effect on the consolidated balance sheet as of June 30, 2006 is an increase
in "Total assets" of $20,422, an increase in "Total liabilities" of $17,965, and
an increase in "Minority interest" of $2,457. Of the $17,965 increase in "Total
liabilities," $16,878 represents non-recourse mortgage debt.
Effective June 30, 2005, the Company was under contract or letter of intent for
the sale of three VIEs. The Company performed a valuation analysis on the
underlying investment of one VIE, and as a result, recorded an impairment charge
of $400 for the six month period ended June 30, 2005 to adjust the net book
value of the Company's investment in the property to the Company's estimate of
fair market value. This VIE was no longer held for sale as of December 31, 2005,
and is included in the consolidated results of operations for both the three and
six month periods ended June 30, 2006 and 2005. The other two VIEs were disposed
of through a transfer of deed in lieu of foreclosure in September 2005. The
Company had repurchased the limited partner's interests in satisfaction of any
tax credit guarantees or other obligations to that partner in January, 2005 for
$5,700. In connection with the Company's decision to dispose of the property,
the Company performed a valuation analysis on the underlying real estate, and as
a result, recorded a $7,325 impairment of real estate during the first quarter
of 2005 to adjust the net book value of the property to the Company's estimate
of fair market value. The mortgage note was sold in March, 2005. Finally, on
September, 30, 2005, the deed was transferred to the mortgage holder in lieu of
foreclosure resulting in a gain on sale of real estate of $7,686.
7. Line of Credit
-------------------
As of June 30, 2006, the Company had an unsecured line of credit agreement with
M&T Bank of $140 million which expires September 1, 2008. The Company's
outstanding balance as of June 30, 2006, was $47 million. Borrowings under the
line of credit bear interest at .75% over the one-month LIBOR rate.
On June 7, 2006, the Company signed a supplemental demand note with M&T Bank
which expired on July 31, 2006. The note had a maximum principal amount of $40
million. Borrowings on the note bore interest at 0.95% over the one-month LIBOR
rate. The demand note was entered into to fund the Company's stock repurchase
program. There was no balance outstanding as of June 30, 2006 on the
supplemental demand note.
Accordingly, increases in interest rates will increase the Company's interest
expense and as a result will affect the Company's results of operations and
financial condition.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
8. Segment Reporting
----------------------
The Company is engaged in the ownership and management of primarily market rate
apartment communities. Each apartment community is considered a separate
operating segment. Each segment on a stand alone basis is less than 10% of the
revenues, profit or loss, and assets of the combined reported operating segments
and meets all of the aggregation criteria under SFAS No. 131. The operating
segments are aggregated as Core and Non-core properties.
Non-segment revenue to reconcile to total revenue consists of interest income
and other income. Non-segment assets to reconcile to total assets include cash
and cash equivalents, cash in escrows, accounts receivable, prepaid expenses,
deferred charges, other assets and other assets held for sale.
Core properties consist of all apartment communities which have been owned more
than one full calendar year. Therefore, the Core properties represent
communities owned as of January 1, 2005. Non-core properties consist of
apartment communities acquired during 2005 and 2006, such that full year
comparable operating results are not available. In addition, Core properties do
not include assets held for sale as of December 31, 2005.
The Company assesses and measures segment operating results based on a
performance measure referred to as net operating income. Net operating income is
defined as total revenues less operating and maintenance expenses.
The accounting policies of the segments are the same as those described in Notes
1 and 2 of the Company's Form 10-K for the year ended December 31, 2005.
The revenues, net operating income and assets for each of the reportable
segments are summarized as follows for the three and six months ended June 30,
2006 and 2005 as follows:
Three Months Six Months
------------ ----------
2006 2005 2006 2005
---- ---- ---- ----
Revenues
Apartments owned
Core properties $ 111,737 $ 105,970 $ 221,575 $ 209,583
Non-core properties 9,587 2,452 18,557 4,238
Reconciling items 623 512 1,231 1,168
--------- --------- --------- ---------
Total revenues $ 121,947 $ 108,934 $ 241,363 $ 214,989
========= ========= ========= =========
Net operating income
Apartments owned
Core properties $ 66,169 $ 59,754 $ 122,426 $ 113,345
Non-core properties 5,758 1,075 10,174 1,657
Reconciling items 623 512 1,231 1,168
--------- --------- --------- ---------
Combined segment net operating income 72,550 61,341 133,831 116,170
General & administrative expenses (6,057) (4,144) (11,096) (9,549)
Interest expense (27,717) (23,445) (54,912) (46,646)
Depreciation and amortization (25,591) (21,551) (50,637) (42,819)
Impairment of assets held as General Partner - - - (400)
Minority interest in operating partnership (3,678) (3,494) (4,600) (4,373)
--------- --------- --------- ---------
Income from continuing operations $ 9,507 $ 8,707 $ 12,586 $ 12,383
========= ========= ========= =========
Assets - As of June 30, 2006 and December 31, 2005
Apartments owned
Core properties $2,411,994 $2,082,413
Held for sale properties - 219,776
Non-core properties 375,224 582,362
Reconciling items 126,705 93,319
---------- ----------
Total Assets $2,913,923 $2,977,870
========== ==========
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
9. Derivative Financial Instruments
--------------------------------
The Company enters into financial derivative instruments only for the purpose of
minimizing risk and, thereby, protecting income. Derivative instruments utilized
as part of the Company's risk management strategy may include interest rate
swaps and caps. All derivatives are recognized on the balance sheet at fair
value. The Company does not employ leveraged derivative instruments, nor does it
enter into derivative instruments for trading or speculative purposes.
The Company has four interest rate swaps that effectively convert variable rate
debt to fixed rate debt. As of June 30, 2006, the aggregate fair value of the
Company's interest rate swaps was $357 prior to the allocation of minority
interest and is included in the consolidated balance sheets. For the three and
six month periods ending June 30, 2006 and 2005, as the critical terms of the
interest rate swaps and the hedged items are the same, no ineffectiveness was
recorded in the consolidated statements of operations. All components of the
interest rate swaps were included in the assessment of hedge effectiveness. The
fair value of the interest rate swaps is based upon the estimate of amounts the
Company would receive or pay to terminate the contract at the reporting date and
is estimated using interest rate market pricing models.
10. Acquisitions
-----------------
On May 31, 2006, the Company purchased a 172 unit apartment community for a
total purchase price of $17.9 million. The transaction consisted of the
assumption of a $6.3 million mortgage at 6.99%, maturing on January 1, 2029
(fair market value of $6.6 million). The balance was funded through the
Company's line of credit. On June 6, 2006, the Company purchased a 107 unit
apartment community for a total purchase price of $14.9 million. Consideration
included the assumption of a $6.2 million mortgage at an interest rate of 6.79%,
maturing on November 1, 2012 (fair market value of $6.5 million). The balance as
funded through the Company's line of credit.
11. Disposition of Property and Discontinued Operations
--------------------------------------------------------
In connection with the Company's strategic asset disposition program, management
is constantly reevaluating the performance of its portfolio on a
property-by-property basis. The Company from time to time determines that it is
in the best interest of the Company to dispose of assets that have reached their
potential or are less efficient to operate due to their size or remote location
and reinvest such proceeds in higher performing assets located in targeted
geographic markets. It is possible that the Company will sell such properties
at a loss. In addition, it is possible that for assets held for use, certain
holding period assumptions made by the Company may change which could result in
the Company's recording of an impairment charge.
On April 5, 2006, the Company sold two apartment communities with a total of 92
units, located in the New Jersey region for $9.2 million. A gain on sale of
approximately $4.5 million (before allocation of minority interest) was recorded
in the second quarter of 2006. On June 29, 2006, the Company completed the sale
of its entire Detroit portfolio. The portfolio consisted of 19 properties
containing 5,046 units and was sold for a total consideration of $230 million.
The loss on sale amounted to $1.1 million and was recorded in the second quarter
2006.
Included in discontinued operations for the three and six months ended June 30,
2006 and 2005 are the operating results, net of minority interest, of twenty-one
apartment communities sold during the three months ended June 30, 2006.
Included in discontinued operations for the three and six months ended June 30,
2005 are the operating results, net of minority interest, of four apartment
community dispositions (all sold in 2005) and four VIE dispositions (all sold in
2005).
For purposes of the discontinued operations presentation, the Company only
includes interest expense and losses from early extinguishment of debt
associated with specific mortgage indebtedness of the properties that are sold.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
11. Disposition of Property and Discontinued Operations (continued)
--------------------------------------------------------------------
The operating results of discontinued operations are summarized for the three
and six months ended June 30, 2006 and 2005 as follows:
Three Months Six Months
------------ ----------
2006 2005 2006 2005
---- ---- ---- ----
Revenues:
Rental Income $ 9,932 $14,008 $20,368 $28,282
Property other income 501 750 1,304 1,424
------- ------- ------- -------
Total revenues 10,433 14,758 21,672 29,706
------- ------- ------- -------
Operating and maintenance 5,483 8,150 11,705 16,509
Interest expense 4,247 2,007 5,533 3,770
Depreciation and amortization - 2,969 37 5,897
Impairment of real property - - - 7,325
------- ------- ------- -------
Total expenses 9,730 13,126 17,275 33,501
------- ------- ------- -------
Income (loss) from discontinued operations before minority
interest and gain (loss) on disposition of property 703 1,632 4,397 (3,795)
Minority interest in limited partnerships - - - (23)
Minority interest in operating partnerships (218) (543) (1,503) 1,259
------- ------- ------- -------
Income (loss) from discontinued operations $ 485 $ 1,089 $ 2,894 $ (2,559)
======= ======= ======= =======
The major classes of assets and liabilities held for sale as of December 31,
2005 were as follows:
2005
----
Real estate:
Land $ 27,820
Buildings, improvements and equipment 246,181
--------
274,001
Less: accumulated depreciation (54,225)
--------
Real estate held for sale, net 219,776
--------
Other assets:
Cash in escrows 348
Accounts receivable 650
Prepaid expenses 2,951
--------
Other assets held for sale 3,949
--------
Liabilities:
Mortgage notes payable 73,603
Accrued expenses and other liabilities 431
Security deposits 1,233
--------
Liabilities held for sale 75,267
--------
Net assets held for sale $148,458
========
12. Commitments and Contingencies
----------------------------------
Contingencies
The Company is not a party to any legal proceedings which are expected to have a
material adverse effect on the Company's liquidity, financial position or
results of operations. The Company is subject to a variety of legal actions for
personal injury or property damage arising in the ordinary course of its
business, most of which are covered by liability insurance. While the resolution
of these matters cannot be predicted with certainty, management believes that
the final outcome of such legal proceedings and claims will not have a material
adverse effect on the Company's liquidity, financial position or results of
operations.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
12. Commitments and Contingencies (continued)
----------------------------------------------
In connection with various UPREIT transactions, the Company has agreed to
maintain certain levels of nonrecourse debt for a period of 5 to 10 years
associated with the contributed properties acquired. In addition, the Company is
restricted in its ability to sell certain contributed properties (45% by number
of apartment units of the owned portfolio) for a period of 5 to 15 years except
through a tax deferred Internal Revenue Code Section 1031 like-kind exchange.
Guarantees
As of June 30, 2006, the Company, through its general partnership interest in an
affordable property limited partnership, has guaranteed low income housing tax
credits to limited partners for a remaining period of nine years totaling
approximately $3,000. As of June 30, 2006, there were no known conditions that
would make such payments necessary relating to these guarantees. In addition,
the Company, acting as general partner in this partnership, is obligated to
advance funds to meet partnership operating deficits.
13. Related Party Transactions
-------------------------------
On January 1, 2004, the Company sold certain assets of its commercial property
management division to Home Leasing LLC ("Home Leasing"), which is owned by
Nelson and Norman Leenhouts. This division managed approximately 2.2 million
square feet of gross leasable area, as well as certain planned communities. The
initial amount paid was $82. In addition, the Company is entitled to receive a
percentage of the management fee received by Home Leasing in connection with the
management of one of the commercial properties for a period not to exceed 36
months. The expected monthly fee as outlined in the contract is approximately
$3.4 or $40 per year. If Home Leasing continues to manage the property for three
years, the Company is expected to receive total additional deferred purchase
price of $135. Additional deferred purchase price of $24 was recognized during
the six months ended June 30, 2006. The cumulative gain recognized on the sale
of these assets through June 30, 2006 amounted to $88. If the management of this
property is retained for the entire three years the Company expects to receive
an additional $16 for the period July 1, 2006 through January 1, 2007. The gain
on sale would then be approximately $104.
14. Subsequent Events
----------------------
On August 1, 2006, the Board of Directors approved a dividend of $.64 per share
on its common stock for the quarter ended June 30, 2006. This is the equivalent
of an annual distribution of $2.56 per share. The dividend is payable August 25,
2006 to shareholders of record on August 15, 2006.
On August 1, 2006, the Company also declared a regular dividend of $.5625 per
share on its Series F Cumulative Redeemable Preferred Stock, for the quarter
ending August 31, 2006. The dividend on the preferred shares is payable on
August 31, 2006 to shareholders of record on August 15, 2006. This dividend is
equivalent to an annualized rate of $2.25 per share.
On August 1, 2006, the Company finalized its decision and the Board of Directors
approved the marketing for sale of the Upstate New York property portfolio. The
portfolio consists of eighteen communities with 4,567 units in total; four
properties and 1,644 apartment units in Buffalo, NY, nine properties and 1,680
apartment units in Rochester, NY and five properties and 1,243 apartment units
in Syracuse, NY. The Company anticipates the sales of the three portfolios to
close in the fourth quarter of 2006 and the first quarter of 2007.
HOME PROPERTIES, INC.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS
OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
The following discussion should be read in conjunction with the accompanying
consolidated financial statements and notes thereto.
Forward-Looking Statements
This discussion contains forward-looking statements. Although the Company
believes expectations reflected in such forward-looking statements are based on
reasonable assumptions, it can give no assurance that its expectations will be
achieved. Factors that may cause actual results to differ include general
economic and local real estate conditions, the weather and other conditions that
might affect operating expenses, the timely completion of repositioning
activities within anticipated budgets, the actual pace of future acquisitions
and sales and continued access to capital to fund growth.
Liquidity and Capital Resources
The Company's principal liquidity demands are expected to be distributions to
the common and preferred stockholders and UPREIT Unitholders, capital
improvements and repairs and maintenance for the properties, acquisition of
additional properties, property development, stock repurchases and debt
repayments.
The Company intends to meet its short-term liquidity requirements through net
cash flows provided by operating activities and its unsecured line of credit.
The Company considers its ability to generate cash to be adequate to meet all
operating requirements and make distributions to its stockholders in accordance
with the provisions of the Internal Revenue Code, as amended, applicable to
REITs.
Cash provided by operating activities was $82,732 and $64,004 for the six-month
period ended June 30, 2006 and 2005, respectively. Cash provided by (used in)
investing activities was $122,773 and ($61,787) for the six-month period ended
June 30, 2006 and 2005, respectively. Cash used in financing activities was
$203,716 and $69 for the six-month period ended June 30, 2006 and 2005,
respectively.
As of June 30, 2006, the Company has an unsecured line of credit agreement with
M&T Bank of $140 million which expires September 1, 2008. The Company's
outstanding balance as of June 30, 2006, was $47 million. Borrowings under the
line of credit bear interest at .75% over the one-month LIBOR rate. Accordingly,
increases in interest rates will increase the Company's interest expense and as
a result will affect the Company's results of operations and financial
condition.
On June 7, 2006, the Company signed a supplemental demand note with M&T Bank
which expired on July 31, 2006. The note has a maximum principal amount of $40
million. Borrowings on the note bore interest at 0.95% over the one-month LIBOR
rate. The demand note was entered into to fund the Company's stock repurchase
program. There was no balance outstanding as of June 30, 2006 on the
supplemental demand note.
To the extent that the Company does not satisfy its long-term liquidity
requirements through net cash flows provided by operating activities and its
credit facility, it intends to satisfy such requirements through property debt
financing, proceeds from the sale of properties, the issuance of UPREIT Units,
proceeds from the Dividend Reinvestment Plan ("DRIP"), or the issuance of
additional equity securities. As of June 30, 2006, the Company owned 22
properties with 4,460 apartment units, which were unencumbered by debt.
A significant source of liquidity in 2006 is expected to be from the sale of
properties. Management has included in its operating plan that the Company will
strategically dispose of assets in 2006. The Company has sold $238 million to
date. In August 2006, the Company announced their intention to strategically
dispose of its Upstate New York portfolio.
In May 1998, the Company's Form S-3 Registration Statement was declared
effective relating to the issuance of up to $400 million of common stock,
preferred stock or other securities. The available balance on the shelf
registration statement at June 30, 2006 was $144.4 million.
In June 2000, the Company issued $25 million of Series D Preferred Stock in a
private transaction with The Equitable Life Assurance Society of the United
States. The Series D Preferred Stock carried an annual dividend rate equal to
the greater of 8.775% or the actual dividend paid on the Company's common shares
into which the preferred shares can be converted. The stock had a conversion
price of $30 per share and a five-year, non-call provision. On May 26, 2005, all
250,000 shares of the Series D Preferred Stock were converted into 833,333
shares of common stock. The conversion of preferred shares to common shares did
not have an effect on the reported results of operations.
In March 2002, the Company issued 2,400,000 shares of its 9.00% Series F
Cumulative Redeemable Preferred Stock ("Series F Preferred Shares"), with a
$25.00 liquidation preference per share. This offering generated net proceeds of
approximately $58 million. The net proceeds were used to fund the Series B
preferred stock repurchase, property acquisitions, and property upgrades. The
Series F Preferred Shares are redeemable by the Company at anytime on or after
March 25, 2007 at a redemption price of $25.00 per share, plus any accumulated,
accrued and unpaid dividends. Each Series F Preferred share will receive an
annual dividend equal to 9.00% of the liquidation preference per share
(equivalent to a fixed annual amount of $2.25 per share).
The issuance of UPREIT Units for property acquisitions continues to be a source
of capital for the Company. During 2005, the Company issued $55,600 of UPREIT
Units as consideration for three acquired properties. During 2006, there were no
UPREIT Units issued as consideration for the 2006 acquisitions.
The DRIP was amended, effective December 10, 2004, in order to reduce
management's perceived dilution from issuing new shares at or below the
underlying net asset value. The discount on reinvested dividends and optional
cash purchases was reduced from 2% to 0%. The maximum monthly investment
(without receiving approval from the Company) is currently $1 thousand. As
expected, these changes significantly reduced participation in the plan.
Management will continue to monitor the relationship between the Company's stock
price and estimated net asset value. In addition, in the fourth quarter of 2004,
the Company began meeting share demand in the program through share repurchase
by the transfer agent in the open market on the Company's behalf instead of new
share issuance. This removes essentially 100% of the dilution caused by issuing
new shares at a price less than the net asset value in an economic and efficient
manner. During the first six months of 2006, the Company's additional capital
raised under the DRIP netted to zero after taking into account share repurchases
used in lieu of new stock issuance.
In 1997, the Company's Board of Directors approved a stock repurchase program
under which the Company may repurchase shares of its common stock or UPREIT
Units. The shares/units may be repurchased through open market or privately
negotiated transactions at the discretion of Company management. The Board's
action did not establish a target stock price or a specific timetable for
repurchase. During the six months ended June 30, 2006, 1,680,521 shares were
repurchased by the Company. At June 30, 2006, the Company had authorization to
repurchase an additional 1,539,674 shares. The Company will continue to monitor
stock prices, the published net asset value, and acquisition alternatives to
determine the current best use of capital between the two major uses of capital
- stock buyback and acquisitions.
As of June 30, 2006, the weighted average rate of interest on mortgage debt is
5.8% and the weighted average maturity is approximately seven years.
Approximately 96% of the debt bears interest at a fixed rate. This limits the
exposure to changes in interest rates, minimizing the effect on results of
operations and financial condition.
Variable Interest Entities
Effective March 31, 2004, the Company adopted FASB Interpretation No. 46R -
Consolidation of Variable Interest Entities, an interpretation of ARB No. 51 -
Consolidated Financial Statements. The interpretation addresses consolidation by
businesses of special purpose entities (variable interest entities, "VIE").
The Company is the general partner in one VIE syndicated using low income
housing tax credits under Section 42 of the Internal Revenue Code. As general
partner, the Company manages the day-to-day operations of the partnership for a
management fee. In addition, the Company has an operating deficit guarantee and
tax credit guarantee to its limited partner. The Company is responsible to fund
operating deficits to the extent there are any and can receive operating
incentive awards when cash flows reach certain levels. The effect on the
consolidated balance sheet as of June 30, 2006 is an increase in "Total assets"
of $20,422, an increase in "Total liabilities" of $17,965, and an increase in
"Minority interest" of $2,457. Of the $17,965 increase in total liabilities,
$16,878 represents non-recourse mortgage debt.
Effective June 30, 2005, the Company was under contract or letter of intent for
the sale of three VIEs. The Company performed a valuation analysis on the
underlying investment of one VIE, and as a result, recorded an impairment charge
of $400 for the six month period ended June 30, 2005 to adjust the net book
value of the Company's investment in the property to the estimate of fair market
value. This VIE was no longer considered held for sale as of December 31, 2005,
and is included in the consolidated results of operations for both the three and
six month periods ending June 30, 2006 and 2005.
In addition, the two other VIEs were disposed of in the third quarter of 2005
through a transfer of deed in lieu of foreclosure. The Company had repurchased
the limited partner's interests in satisfaction of any tax credit guarantees or
other obligations to that partner in January, 2005 for $5,700. In connection
with the Company's decision to dispose of the property, the Company performed a
valuation analysis on the underlying real estate, and as a result, recorded a
$7,325 impairment of real estate during the first quarter of 2005 to adjust the
net book value of the property to the Company's estimate of fair market value.
The mortgage note was sold in March, 2005. Finally, on September, 30, 2005, the
deed was transferred to the mortgage holder in lieu of foreclosure resulting in
a gain on sale of real estate of $7,686.
The Company, through its general partnership interest in an affordable property
limited partnership, has guaranteed the low income housing tax credits to the
limited partners for a remaining period of nine years totaling approximately
$3,000. Such guarantee requires the Company to operate the property in
compliance with Internal Revenue Code Section 42 for 15 years. In addition,
acting as the general partner in this partnership, the Company is obligated to
advance funds to meet partnership operating deficits. The Company believes the
property's operations conform to the applicable requirements as set forth above.
Acquisitions and Dispositions
On May 31, 2006, the Company purchased a 172 unit apartment community for a
total purchase price of $17.9 million. The transaction consisted of the
assumption of a $6.3 million mortgage at 6.99%, maturing on January 1, 2029
(fair market value of $6.6 million). The balance was funded through the
Company's line of credit.
On June 6, 2006, the Company purchased a 107 unit apartment community for a
total purchase price of $14.9 million. Consideration included the assumption of
a $6.2 million mortgage at an interest rate of 6.79%, maturing on November 1,
2012 (fair market value of $6.5 million). The balance as funded through the
Company's line of credit.
On April 5, 2006, the Company sold two apartment communities with a total of 92
units, located in the New Jersey region for $9.2 million. A gain on sale of
approximately $4.5 million (before allocation of minority interest) was recorded
in the second quarter of 2006. The weighted average first year capitalization
rate projected on these dispositions is 3.95%.
On June 29, 2006, the Company completed the sale of its entire Detroit
portfolio. The portfolio consisted of 19 properties containing 5,046 units and
was sold for a total consideration of $230 million. The loss on sale amounted to
$1.1 million and was recorded in the second quarter 2006. The weighted average
first year capitalization rate projected on these dispositions is 8.30%.
Contractual Obligations and Other Commitments
The primary obligations of the Company relate to its borrowings under the line
of credit and mortgage notes payable. The Company's line of credit matures in
September 2008 and had $47 million outstanding at June 30, 2006. The $1.8
billion in mortgage notes payable have varying maturities ranging from 1 to 36
years. The weighted average interest rate of the Company's fixed rate notes was
5.81% and 5.95% at June 30, 2006 and December 31, 2005, respectively. The
weighted average interest rate of the Company's variable rate notes and credit
facility was 5.67% and 4.82% at June 30, 2006 and December 31, 2005,
respectively.
The Company has a non-cancelable operating ground lease for one of its
properties. The lease expires May 1, 2020, with options to extend the term of
the lease for two successive terms of twenty-five years each. The lease provides
for contingent rental payments based on certain variable factors. At June 30,
2006, future minimum rental payments required under the lease are $70 per year
until the lease expires.
The Company leases its corporate office space from an affiliate and the office
space for its regional offices from third parties. The corporate office space
requires an annual base rent plus a pro-rata portion of property improvements,
real estate taxes, and common area maintenance. The regional office leases
require an annual base rent plus a pro-rata portion of real estate taxes.
On December 1, 2004, the Company entered into a lease agreement with a third
party owner to manage the operations of one of its communities. The lease has a
term of five years, but after two years, (from the 24th month to the 36th month)
the owner may require the Company to buy the property. From the 36th month to
the end of the lease term, the Company has the right to require the owner to
sell the property to the Company. It is the Company's expectation that closing
on the acquisition of the property will occur no later than 36 months after the
commencement of the lease. The estimated future acquisition cost is $141
million.
As discussed in the section entitled "Variable Interest Entities," the Company,
through its general partnership interest in an affordable property limited
partnership, has guaranteed low income housing tax credits to limited partners
totaling approximately $3 million. With respect to the guarantee of the low
income housing tax credits, the Company believes the property's operations
conform to the applicable requirements and does not anticipate any payment on
the guarantees. In addition, the Company, acting as general partner in this
partnership, is obligated to advance funds to meet partnership operating
deficits.
Capital Improvements
The Company's policy is to capitalize costs related to the acquisition,
development, rehabilitation, construction and improvement of properties. Capital
improvements are costs that increase the value and extend the useful life of an
asset. Ordinary repair and maintenance costs that do not extend the useful life
of the asset are expensed as incurred. Costs incurred on a lease turnover due to
normal wear and tear by the resident are expensed on the turn. Recurring capital
improvements typically include: appliances, carpeting and flooring, HVAC
equipment, kitchen/ bath cabinets, new roofs, site improvements and various
exterior building improvements. Non-recurring, revenue generating capital
improvements include, among other items: community centers, new windows, and
kitchen/ bath apartment upgrades. Revenue generating capital improvements will
directly result in rental earnings or expense savings. The Company capitalizes
interest and certain internal personnel costs related to the communities under
rehabilitation and construction.
The Company estimates that on an annual basis $525 per unit is spent on
recurring capital expenditures. During the three and six month periods ended
June 30, 2006 and 2005, approximately $131 per unit and $263 per unit,
respectively, was estimated to be spent on recurring capital expenditures. The
table below summarizes the actual total capital improvements, (including assets
held for sale) incurred by major categories for the three and six month periods
ended June 30, 2006 and 2005 and an estimate of the breakdown of total capital
improvements by major categories between recurring and non-recurring, revenue
generating capital improvements for the three and six month period ended June
30, 2006 as follows:
For the three-month period ended June 30,
(in thousands, except per unit data)
2006 2005
-------------------------------------------------------------------------------------------------------
Non- Total Total
Recurring Per Recurring Per Capital Per Capital Per
Cap Ex Unit(a) Cap Ex Unit(a) Improvements Unit(a) Improvements Unit(a)
------ ------- ------ ------- ------------ ------- ------------ -------
New Buildings $ - $ - $ 113 $ 3 $ 113 $ 3 $ 981 $ 27
Major building improvements 872 23 4,160 108 5,032 131 4,471 123
Roof replacements 316 8 425 11 741 19 958 26
Site improvements 316 8 2,371 62 2,687 70 1,987 55
Apartment upgrades 633 16 3,012 79 3,645 95 4,585 126
Appliances 537 14 422 11 959 25 971 27
Carpeting/Flooring 1,639 43 715 18 2,354 61 2,345 64
HVAC/Mechanicals 489 13 1,764 46 2,253 59 2,420 67
Miscellaneous 230 6 656 17 886 23 913 25
------ ---- ------- ---- ------- ---- ------- ----
Totals $5,032 $131 $13,638 $355 $18,670 $486 $19,631 $540
====== ==== ======= ==== ======= ==== ======= ====
(a) Calculated using the weighted average number of units outstanding,
including 35,820 core units, 2005 acquisition units of 2,430 and 2006
acquisition units of 89 for the three-month period ended June 30, 2006 and
35,820 core units and 2005 acquisition units of 550 for the three-month
period ended June 30, 2005.
For the six-month period ended June 30,
(in thousands, except per unit data)
2006 2005
----------------------------------------------------------------------------------------------------
Non- Total Total
Recurring Per Recurring Per Capital Per Capital Per
Cap Ex Unit(a) Cap Ex Unit(a) Improvements Unit(a) Improvements Unit(a)
------ ------- ------ ------- ------------ ------- ------------ -------
New Buildings $ - $ - $ 1,536 $ 40 $ 1,536 $ 40 $ 2,304 $ 64
Major building improvements 1,742 45 7,652 200 9,394 245 6,417 177
Roof replacements 632 17 895 23 1,527 40 1,922 53
Site improvements 632 17 3,048 80 3,680 97 2,604 72
Apartment upgrades 1,264 33 6,382 167 7,646 200 8,930 246
Appliances 1,072 28 879 23 1,951 51 1,799 50
Carpeting/Flooring 3,274 85 1,308 34 4,582 119 4,263 118
HVAC/Mechanicals 977 26 4,337 113 5,314 139 4,476 124
Miscellaneous 460 12 1,284 34 1,744 46 1,814 50
------- ---- ------- ---- ------- ---- ------- ----
Totals $10,053 $263 $27,321 $714 $37,374 $977 $34,529 $954
======= ==== ======= ==== ======= ==== ======= ====
(a) Calculated using the weighted average number of units outstanding,
including 35,820 core units, 2005 acquisition units of 2,430 and 2006
acquisition units of 45 for the six-month period ended June 30, 2006 and
35,820 core units and 2005 acquisition units of 422 for the six-month
period ended June 30, 2005.
The schedule below summarizes the breakdown of total capital improvements
between core and non-core as follows:
For the three-month period ended June 30,
(in thousands, except per unit data)
2006 2005
----------------------------------------------------------------------------------------------
Non- Total Total
Recurring Per Recurring Per Capital Per Capital Per
Cap Ex Unit Cap Ex Unit Improvements Unit Improvements Unit
------ ---- ------ ---- ------------ ---- ------------ ----
Core Communities $ 4,702 $131 $ 11,814 $330 $ 16,516 $461 $ 19,278 $ 538
2006 Acquisition Communities 12 131 73 820 85 951 - -
2005 Acquisition Communities 318 131 1,751 721 2,069 852 353 642
-------- ---- -------- ----- -------- ---- -------- -----
Sub-total 5,032 131 13,638 355 18,670 486 19,631 540
2006 Disposed Communities 647 131 873 177 1,520 308 1,559 303
2005 Disposed Communities - - - - - - 1,184 1,451
Corporate office expenditures(1) - - - 893 - 213 -
-------- ---- -------- ----- -------- ---- -------- -----
$ 5,679 $131 $ 14,511 $335 $ 21,083 $466 $ 22,587 $ 529
======= ==== ======== ==== ======== ==== ======== =====
Totals
For the six-month period ended June 30,
(in thousands, except per unit data)
2006 2005
-----------------------------------------------------------------------------------------------------------
Non- Total Total
Recurring Per Recurring Per Capital Per Capital Per
Cap Ex Unit Cap Ex Unit Improvements Unit Improvements Unit
------ ---- ------ ---- ------------ ---- ------------ ----
Core Communities $ 9,403 $263 $ 24,004 $ 670 $ 33,407 $ 933 $ 34,049 $ 951
2006 Acquisition Communities 12 263 73 1,622 85 1,885 - -
2005 Acquisition Communities 638 263 3,244 1,335 3,882 1,598 480 1,137
-------- ---- -------- ----- -------- ---- -------- -----
Sub-total 10,053 263 27,321 714 37,374 977 34,529 954
2006 Disposed Communities 1,325 263 1,876 372 3,201 635 2,411 469
2005 Disposed Communities - - - - - - 2,102 2,576
Corporate office expenditures(1) - -_ - - 1,964 - 501 -
-------- ---- -------- ----- -------- ---- -------- -----
$ 11,378 $263 $ 29,197 $ 674 $ 42,539 $937 $ 39,543 $ 925
======== ==== ======== ===== ======== ==== ======== =====
Totals
(1) No distinction is made between recurring and non-recurring expenditures for
corporate office. Corporate office expenditures includes principally
computer hardware, software and office furniture and fixtures.
Results of Operations
Summary of Core properties
The Company had 124 apartment communities with 35,820 units which were owned
during the three and six month periods being presented (the "Core Properties").
The Company has acquired/developed an additional eleven apartment communities
with 2,805 units during 2006 and 2005 (the "Acquisition Communities"). The
Company also disposed of four properties with a total of 816 units during 2005
(the "2005 Disposition Communities"). During 2006, the Company disposed of
twenty-one properties with a total of 5,138 units (the "2006 Disposition
Communities"). The results of these disposed properties have been classified as
discontinued operations and are not included in the table below. The inclusion
of the Acquisition Communities generally accounted for the significant changes
in operating results for the three and six months ended June 30, 2006. In
addition, the reported income from operations include the consolidated report of
one investment where the Company is the managing general partner that has been
determined to be a VIE.
A summary of the net operating income from Core Properties is as follows (in
thousands):
Three Months Six Months
------------ ----------
2006 2005 $ Change % Change 2006 2005 $ Change % Change
---- ---- -------- -------- ---- ---- -------- --------
Rent $104,235 $100,702 $3,533 3.5% $207,180 $199,837 $7,343 3.7%
======== ======== ====== === ======== ======== ====== ===
Utility recovery revenue 1,840 176 1,664 945.5% 3,630 279 3,351 1201.1%
Other income 5,662 5,092 570 11.2% 10,765 9,467 1,298 13.7%
-------- -------- ------ --- -------- -------- ------ ---
Total property other income 7,502 5,268 2,234 42.4% 14,395 9,746 4,649 47.7%
-------- -------- ------ --- -------- -------- ------ ---
Total revenue 111,737 105,970 5,767 5.4% 221,575 209,583 11,992 5.7%
Operating and maintenance (45,568) (46,216) 648 1.4% (99,149) (96,238) (2,911) (3.0%)
-------- -------- ------ --- -------- -------- ------ ---
Net operating income $ 66,169 $ 59,754 $6,415 10.7% $122,426 $113,345 $9,081 8.0%
======== ======== ====== ==== ======== ======== ====== ===
A summary of the net operating income from continuing operations is as follows
(in thousands):
Three Months Six Months
------------ ----------
2006 2005 $ Change % Change 2006 2005 $ Change % Change
---- ---- -------- -------- ---- ---- -------- --------
Rent $113,358 $103,037 $10,321 10.0% $224,996 $203,922 $21,074 10.3%
======== ======== ======= ==== ======== ======== ======= ====
Utility recovery revenue 2,061 186 1,875 1008.1% 3,961 290 3,671 1265.9%
Other income 5,905 5,199 706 13.6% 11,175 9,609 1,566 16.3%
-------- -------- ------ --- -------- -------- ------ ---
Total property other income 7,966 5,385 2,581 47.9% 15,136 9,899 5,237 52.9%
-------- -------- ------ --- -------- -------- ------ ---
Total revenue 121,324 108,422 12,902 11.9% 240,132 213,821 26,311 12.3%
Operating and maintenance (49,397) (47,593) (1,804) (3.8%) (107,532) (98,819) (8,713) (8.8%)
-------- -------- ------ --- -------- -------- ------ ---
Net operating income $71,927 $60,829 $11,098 18.2% $132,600 $115,002 $17,598 15.3%
======= ======= ======= ==== ======== ======== ======= ====
Net Operating Income ("NOI") may fall within the definition of "non-GAAP
financial measure" set forth in Item 10(e) of Regulation S-K and, as a result,
the Company may be required to include in this report a statement disclosing the
reasons why management believes that presentation of this measure provides
useful information to investors. The Company believes that NOI is helpful to
investors as a supplemental measure of the operating performance of a real
estate company because it is a direct measure of the actual operating results of
the Company's apartment properties. In addition, the apartment communities are
valued and sold in the market by using a multiple of NOI. The Company also uses
this measure to compare its performance to that of its peer group.
Comparison of three-months ended June 30, 2006 to the same period in 2005
Of the $10,321 increase in rental income, $6,659 is attributable to the Acquired
Communities and $129 is attributable to the VIE. The balance of this increase,
or $3,533 which is from the Core Properties, was the result of an increase of
2.9% in weighted average rental rates, plus an increase in occupancy from 93.7%
to 94.2%. Occupancy is defined as total possible rental income, net of vacancy
and bad debt expense as a percentage of total possible rental income. Total
possible rental income is determined by valuing occupied units at contract rates
and vacant units at market rents.
Property other income, which consists primarily of income from utility recovery
charges, operation of laundry facilities, late charges, administrative fees,
garage and carport charges, revenue from corporate apartments, cable revenue,
pet charges, and miscellaneous charges to residents increased by $2,581. Of this
increase, $366 is attributable to the Acquired Communities and $2,234 represents
a 42.4% increase from the Core Properties, partially offset by a $19 decrease
attributable to the VIE. Included in the Core increase is $1,664 which
represents increased utility recovery charges compared to 2005 attributable to
the Company's water & sewer and heat & electric recovery programs, which became
fully phased in during the second quarter of 2006: and a $570 increase in Core
property other income resulting from increased emphasis on charging late fees
and early termination fees and an increase in corporate rentals compared to
2005.
Other income increased $65 due primarily to the receipt of a development fee in
connection with an affordable limited partnership.
Of the $1,804 increase in operating and maintenance expenses, $2,475 is
attributable to the Acquired Communities, partially offset by a $23 decrease
attributable to the consolidation of the VIE. The balance, a $648 decrease, is
attributable to the Core Properties and is primarily due to increases in water &
sewer and property insurance expense more than offset by reductions in natural
gas heating costs, personnel costs, advertising and real estate taxes. Water &
sewer costs were up $374 or 14% for the quarter due to general cost increases
being assessed by local municipalities; however, our water & sewer recovery
program, which became fully phased in during the second quarter of 2006, enables
the Company to recapture much of these cost increases from our residents.
Property insurance increased $213, or 14.5%, for the period primarily due to a
general increase in our property and general liability premiums, and losses to
date which have been projected using actuarial assumptions. Natural gas heating
costs were down $269 or 7.3% over 2005 as the 2006 quarter experienced milder
weather than in 2005 and the Company realized the benefits of conservation
measures implemented during 2006. Personnel expenses were down $566, or 5.6%,
due to favorable experience with workers compensation and health insurance,
which resulted in a cost savings year over year. Advertising continues to
provide positive comparisons as we target our dollar spend in ways that produce
results, netting a $339 or 22.7% savings versus 2005. Real estate taxes were
down $450 or 4.1% in the current period, driven by successful tax assessment
appeals resulting in refunds of $555 recognized in the current period, which was
partially offset by $105 or 1% higher taxes across the portfolio.
For the upcoming 2006/2007 heating season we now have fixed contracts for 98.5%
of our natural gas usage at a weighted average cost of $9.63 per decatherm. The
cost for the 2005/2006 heating season was approximately $10.20 per decatherm.
General and administrative expense increased in 2006 by $1,913. General and
administrative expenses as a percentage of total revenues were 4.6% for 2006 as
compared to 3.4% for 2005. The recently enacted accounting rules effecting stock
options and restricted stock, SFAS 123R, required the Company to recognize
compensation costs on the second quarter 2006 grant date for retirement eligible
employees and directors, resulting in $677 expense for the quarter. The balance
of the increase is the direct result of the increase in corporate incentive
compensation bonus accrued in 2006, plus increases in external costs incurred
for auditing, tax and consultation expense and external costs associated with
the implementation of a property management software system.
Interest expense increased in 2006 by $4,272 as a result of the increased
borrowings in connection the Acquisition Communities and additional mortgage
debt and refinanced mortgage debt incurred during 2006.
Depreciation and amortization expense increased $4,040 due to the depreciation
on the Acquisition Communities and the capital additions to the Core Properties.
In addition, included in discontinued operations for the three-months ended June
30, 2006 and 2005 are the operating results, net of minority interest, of
twenty-one apartment communities sold as of June 30, 2006. For purposes of the
discontinued operations presentation, the Company only includes interest expense
associated with specific mortgage indebtedness of the properties that are sold.
Included in discontinued operations for the three-months ended June 30, 2005 are
the operating results, net of minority interest, of four apartment community
dispositions (all sold in 2005) and four VIE dispositions (all sold in 2005).
Included in the $2,361 net gain on disposition of property reported for the
three-months ended June 30, 2006 is the sale of two apartment communities in New
Jersey, where the Company recorded a gain on sale of in the second quarter, net
of minority interest, of approximately $3,112. This gain was partially offset by
the loss on sale of 19 properties located in southeast Michigan in the second
quarter, where the Company recorded a loss, net of minority interest, of $751.
Comparison of six-months ended June 30, 2006 to the same period in 2005
Of the $21,074 increase in rental income, $13,478 is attributable to the
Acquired Communities and $253 is attributable to the VIE. The balance of this
increase, or $7,343 which is from the Core Properties, was the result of an
increase of 2.7% in weighted average rental rates, plus an increase in occupancy
from 93.3% to 94.1%. Occupancy is defined as total possible rental income, net
of vacancy and bad debt expense as a percentage of total possible rental income.
Total possible rental income is determined by valuing occupied units at contract
rates and vacant units at market rents.
Property other income, which consists primarily of income from utility recovery
charges, operation of laundry facilities, late charges, administrative fees,
garage and carport charges, revenue from corporate apartments, cable revenue,
pet charges, and miscellaneous charges to residents increased by $5,237. Of this
increase, $615 is attributable to the Acquired Communities and $4,649 represents
a 47.7% increase from the Core Properties, partially offset by a $27 decrease
attributable to the VIE. Included in the Core increase is $3,351 which
represents increased utility recovery charges compared to 2005 and $1,298
increase in Core property other income resulting from increased emphasis on
charging late fees and early termination fees and an increase in corporate
rentals compared to 2005.
Of the $8,713 increase in operating and maintenance expenses, $5,346 is
attributable to the Acquired Communities, and a $455 increase attributable to
the consolidation of the VIE. The balance, a $2,911 increase, is attributable to
the Core Properties and is primarily due to increases in natural gas heating
costs, water & sewer and property insurance expense partially offset by
reductions in personnel costs, advertising, real estate taxes and snow removal
costs. Natural gas heating costs were up $2,105 or 17.3% over 2005. The natural
gas costs in the first quarter of 2006 were up $2,374 or 28.0% over the same
period of 2005, due primarily to significant increases in the cost of natural
gas per decatherm. In last year's first quarter we had a weighted average cost
of $6.23 per decatherm versus this year's first quarter average cost of $9.65.
In the second quarter of 2006 we realized a savings versus the second quarter of
2005, due to a combination of milder weather and conservation measures put in
place during 2006. Water & sewer costs were up $567 or 10.5% for the year due to
general cost increases being assessed by local municipalities; however, our
water & sewer recovery program, which became fully phased in during the second
quarter of 2006, enables the Company to recapture much of these cost increases
from our residents. Property insurance increased $948, or 32.5%, for the period
primarily due to a general increase in our property and general liability
premiums, and losses to date which have been projected using actuarial
assumptions. Personnel expenses were down $1,023 or 4.9%, due to favorable
experience with workers compensation and health insurance, which resulted in a
cost savings year over year. Advertising continues to provide positive
comparisons as we target our dollar spend in ways that produce results, netting
a $441 or 15.6% savings versus 2005. Real estate taxes were down $342 or 1.6% in
the current period, driven by successful tax assessment appeals resulting in
refunds of $555 recognized in the current period, which was partially offset by
$213 or 1% higher taxes across the portfolio. Snow removal costs were down $547
or 48.1%. The first half of 2006 produced below normal snowfalls compared to
normal snowfall in 2005.
For the upcoming 2006/2007 heating season we now have fixed contracts for 98.5%
of our natural gas usage at a weighted average cost of $9.63 per decatherm. The
cost for the 2005/2006 heating season was approximately $10.20 per decatherm.
General and administrative expense increased in 2006 by $1,547. General and
administrative expenses as a percentage of total revenues were 4.3% for 2006 as
compared to 4.0% for 2005. The recently enacted accounting rules effecting stock
options and restricted stock, SFAS 123R, required the Company to recognize
compensation costs on the second quarter 2006 grant date for retirement eligible
employees and directors, resulting in $677 expense for the quarter. The balance
of the increase is the direct result of the increase in corporate incentive
compensation bonus accrued in 2006, plus external costs associated with the
implementation of a property management software system, partially offset by a
$910 reduction in external costs incurred for auditing, tax and consultation
expense, including costs to comply with Section 404 of Sarbanes-Oxley. A
significant portion of the costs in 2005 related to the non-recurring first year
efforts for 404 compliance.
Interest expense increased in 2006 by $8,266 as a result of the increased
borrowings in connection the Acquisition Communities and additional mortgage
debt and refinanced mortgage debt incurred during 2006.
Depreciation and amortization expense increased $7,818 due to the depreciation
on the Acquisition Communities and the capital additions to the Core Properties.
The Company has sold virtually all of the assets associated with its general
partner interests in the affordable properties in order to focus solely on the
direct ownership and management of market rate apartment communities. During the
first three months of 2005, the Company recorded impairment charges of $400,
which pertains to an impairment charge taken on the one remaining VIE to reduce
its investment to fair market value.
In addition, included in discontinued operations for the six-months ended June
30, 2006 and 2005 are the operating results, net of minority interest, of
twenty-one apartment communities sold as of June 30, 2006. For purposes of the
discontinued operations presentation, the Company only includes interest expense
associated with specific mortgage indebtedness of the properties that are sold.
Included in discontinued operations for the six-months ended June 30, 2005 are
the operating results, net of minority interest, of four apartment community
dispositions (all sold in 2005) and four VIE dispositions (all sold in 2005).
Included in the $2,361 net gain on disposition of property reported for the
six-months ended June 30, 2006 is the sale of two apartment communities in New
Jersey, where the Company recorded a gain on sale of in the second quarter, net
of minority interest, of approximately $3,112. This gain was partially offset by
the loss on sale of 19 properties located in southeast Michigan in the second
quarter, where the Company recorded a loss, net of minority interest, of $751.
During the six-months ended June 30, 2005, the Company reported a combined $77
loss, net of minority interest, relating to additional expenses incurred in the
same period for sales which took place during 2004. These costs represent a
change in estimate from those accrued at the time of sale.
Funds From Operations
Pursuant to the revised definition of Funds From Operations ("FFO") adopted by
the Board of Governors of the National Association of Real Estate Investment
Trusts ("NAREIT"), FFO is defined as net income (computed in accordance with
accounting principles generally accepted in the United States of America
("GAAP")) excluding gains or losses from sales of property, minority interest,
extraordinary items and cumulative effect of change in accounting principle plus
depreciation from real property including adjustments for unconsolidated
partnerships and joint ventures less dividends from non-convertible preferred
shares. Because of the limitations of the FFO definition as published by NAREIT
as set forth above, the Company has made certain interpretations in applying the
definition. The Company believes all adjustments not specifically provided for
are consistent with the definition.
Management believes that in order to facilitate a clear understanding of the
combined historical operating results of the Company, FFO should be considered
in conjunction with net income as presented in the consolidated financial
statements included elsewhere herein. Management believes that by excluding
gains or losses related to dispositions of property and excluding real estate
depreciation (which can vary among owners of similar assets in similar condition
based on historical cost accounting and useful life estimates), FFO can help one
compare the operating performance of a company's real estate between periods or
as compared to different companies. FFO does not represent cash generated from
operating activities in accordance with GAAP and is not necessarily indicative
of cash available to fund cash needs. FFO does not include the cost incurred for
capital improvements (including capitalized interest) reflected as an increase
to real estate assets. The Company's total capital improvements include an
annual reserve for anticipated recurring, non-revenue generating capitalized
costs of $525 per apartment unit. Please refer to the "Capital Improvements"
section above in MD&A. FFO should not be considered as an alternative to net
income as an indication of the Company's performance or to cash flow as a
measure of liquidity.
The calculation of FFO and reconciliation to GAAP net income available to common
shareholders for the three and six months ended June 30, 2006 and 2005 are
presented below (in thousands):
Three Months Six Months
------------ ----------
2006 2005 2006 2005
---- ---- ---- ----
Net income (loss) available to common shareholders $ 11,003 $8,038 $ 15,141 $ 6,168
Real property depreciation and amortization 25,041 23,925 49,539 47,528
Minority interest 3,678 3,494 4,600 4,373
Minority interest - income (loss) from discontinued operations 218 543 1,503 (1,259)
Loss (gain) on disposition of discontinued operations (2,361) 77 (2,361) 77
-------- -------- -------- --------
FFO - Basic as defined above 37,579 36,077 68,422 56,887
Loss from early extinguishment of debt in connection with sale of
real estate 2,970 - 2,970 -
-------- -------- -------- --------
FFO - Basic as adjusted by the Company 40,549 36,077 71,392 56,887
Convertible preferred dividends (2) - 330 - -
-------- -------- -------- --------
FFO - Diluted $ 37,579 $36,407 $ 68,422 $ 56,887
======== ======== ======== ========
Weighted average common shares/units outstanding (1):
- Basic 47,788.1 47,684.2 47,853.3 47,598.2
======== ======== ======== ========
- Diluted (2) 48,450.0 48,623.5 48,473.9 48,018.9
======== ======== ======== ========
(1) The calculation assumes the conversion of dilutive common stock equivalents
including convertible preferred stock and the conversion of all UPREIT
Units to common shares.
(2) The convertible preferred stock had an anti-dilutive effect; therefore, the
convertible preferred dividends are not included in FFO diluted for the six
months ended June 30, 2005.
All REITs may not be using the same definition for FFO. Accordingly, the above
presentation may not be comparable to other similarly titled measures of FFO of
other REITs.
Covenants
Series F Preferred Stock
In connection with the issuance of the Series F Preferred Stock, the Company is
required to maintain for each fiscal quarterly period a fixed charge coverage
ratio, as defined in the Series F Cumulative Redeemable Preferred Stock Article
Supplementary, of at least 1.75 to 1.0. The fixed charge coverage ratio and the
components thereof do not represent a measure of cash generated from operating
activities in accordance with generally accepted accounting principles and are
not necessarily indicative of cash available to fund cash needs. Further, this
ratio should not be considered as an alternative measure to net income as an
indication of the Company's performance or of cash flow as a measure of
liquidity. The Company has been in compliance with the covenant since the Series
F Preferred Stock was issued. If the Company fails to be in compliance with this
covenant for six or more consecutive fiscal quarters, the holders of the Series
F Preferred Stock would be entitled to elect two directors to the board of
directors of the Company. The calculation of the fixed charge coverage ratio for
the four most recent quarters since the issuance of the Series F Preferred Stock
is presented below (in thousands). Net operating income from discontinued
operations in the following calculation is defined as total revenues from
discontinued operations less operating and maintenance expenses.
Calculation Presented for Series F Preferred Covenant
Three-months ended
----------------------------------------------
June 30, Mar. 31, Dec. 31, Sept. 30,
2006 2006 2005 2005
-------- -------- -------- --------
EBITDA
Total revenues $121,947 $119,416 $114,835 $125,775
Net operating income (loss) from discontinued operations 4,950 5,017 5,677 1,045
Operating and maintenance (49,397) (58,135) (51,801) (54,161)
General and administrative (6,057) (5,039) (5,209) (4,894)
-------- -------- -------- --------
$ 71,443 $ 61,259 $ 63,502 $ 67,765
Fixed Charges
Interest expense $ 27,717 $ 27,195 $ 25,793 $ 27,059
Interest expense on discontinued operations 4,246 1,286 1,578 382
Preferred dividends 1,350 1,350 1,350 1,350
Capitalized interest 346 313 312 254
$ 33,659 $ 30,144 $ 29,033 $ 29,045
-------- -------- -------- --------
Times Coverage ratio: 2.12 2.03 2.19 2.33
Line of Credit
The Credit Agreement relating to the Company's line of credit provides for the
Company to maintain certain financial ratios and measurements. The line of
credit has not been used for long-term financing but adds a certain amount of
flexibility, especially in meeting the Company's acquisition goals. Many times
it is easier to temporarily finance an acquisition or stock repurchases in a
short-term nature through the line of credit, with long-term secured financing
or other sources of capital replenishing the line of credit availability.
Economic Conditions
Substantially all of the leases at the Company's apartment communities are for a
term of one year or less, which enables the Company to seek increased rents upon
renewal of existing leases or commencement of new leases. These short-term
leases minimize the potential adverse effect of inflation on rental income,
although residents may leave without penalty at the end of their lease terms and
may do so if rents are increased significantly.
Historically, real estate has been subject to a wide range of cyclical economic
conditions, which affect various real estate sectors and geographic regions with
differing intensities and at different times. Starting in 2001 and continuing
into 2004 many regions of the United States had experienced varying degrees of
economic recession and certain recessionary trends, such as a temporary
reduction in occupancy and reduced pricing power limiting the ability to
aggressively raise rents. Starting in the second half on 2004 and continuing
into 2006, we have seen a reversal of these recessionary trends. In light of
this, we will continue to review our business strategy; however, we believe that
given our property type and the geographic regions in which we are located, we
do not anticipate any changes in our strategy or material effects on financial
performance.
Declaration of Dividend
On August 1, 2006, the Board of Directors approved a dividend of $.64 per share
on its common stock for the quarter ended June 30, 2006. This is the equivalent
of an annual distribution of $2.56 per share. The dividend is payable August 25,
2006 to shareholders of record on August 15, 2006.
On August 1, 2006, the Company also declared a regular dividend of $.5625 per
share on its Series F Cumulative Redeemable Preferred Stock, for the quarter
ending August 31, 2006. The dividend on the preferred shares is payable on
August 31, 2006 to shareholders of record on August 15, 2006. This dividend is
equivalent to an annualized rate of $2.25 per share.
Contingency
The Company is not a party to any legal proceedings which are expected to have a
material adverse effect on the Company's liquidity, financial position or
results of operations. The Company is subject to a variety of legal actions for
personal injury or property damage arising in the ordinary course of its
business, most of which are covered by liability insurance. While the resolution
of these matters cannot be predicted with certainty, management believes that
the final outcome of such legal proceedings and claims will not have a material
adverse effect on the Company's liquidity, financial position or results of
operations.
In connection with the issuance of the Series F Preferred Stock, the Company is
required to maintain for each fiscal quarterly period a fixed charge coverage
ratio, as defined in the Series F Cumulative Redeemable Preferred Stock Articles
Supplementary to the Company's Articles of Incorporation, of at least 1.75 to
1.0. The fixed charge coverage ratio and the components thereof do not represent
a measure of cash generated from operating activities in accordance with
generally accepted accounting principles and are not necessarily indicative of
cash available to fund cash needs. Further, this ratio should not be considered
as an alternative measure to net income as an indication of the Company's
performance or of cash flow as a measure of liquidity. The Company has been in
compliance with the covenant since the Series F Preferred Stock was issued. If
the Company fails to be in compliance with this covenant for six or more
consecutive fiscal quarters, the holders of the Series F Preferred Stock would
be entitled to elect two directors to the board of directors of the Company.
Recent Accounting Pronouncements
In June 2006, the Financial Accounting Standards Board issued FASB
Interpretation No. 48, Accounting for Uncertainty in Income Taxes ("FIN 48").
FIN 48 addresses the recognition and measurement of assets and liabilities
associated with tax positions taken or expected to be taken in a tax return. The
Company is reviewing its current tax positions for any potential uncertain tax
positions that would qualify under FIN 48. Based on its preliminary review, the
Company does not anticipate that the adoption of FIN 48 in January 2007 will
have a material impact on the Company's financial position or results of
operations.
HOME PROPERTIES, INC.
ITEM 3. QUANTITATIVE AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISK
The Company's primary market risk exposure is interest rate risk. At June 30,
2006 and December 31, 2005, approximately 96% and 91%, respectively, of the
Company's debt bore interest at fixed rates with a weighted average maturity of
approximately 6.5 and 7 years, respectively, and a weighted average interest
rate of approximately 5.81% and 5.95%, respectively, including the $28 million
and $29 million, respectively, of debt which has been swapped to a fixed rate.
The remainder of the Company's debt bears interest at variable rates with a
weighted average maturity of approximately 18 and 12 years, respectively, and a
weighted average interest rate of 5.16% and 4.54%, respectively, at June 30,
2006 and December 31, 2005. The Company does not intend to utilize a significant
amount of permanent variable rate debt to acquire properties in the future. On
occasion, the Company may use its line of credit in connection with a property
acquisition or stock repurchase with the intention to refinance at a later date.
The Company believes, however, that in no event would increases in interest
expense as a result of inflation significantly impact the Company's
distributable cash flow.
At June 30, 2006 and December 31, 2005, the interest rate risk on $28 million
and $29 million, respectively, of such variable rate debt has been mitigated
through the use of interest rate swap agreements (the "Swaps") with major
financial institutions. The Company is exposed to credit risk in the event of
non-performance by the counter-parties to the Swaps. The Company believes it
mitigates its credit risk by entering into these Swaps with major financial
institutions. The Swaps effectively convert the variable rate mortgages to fixed
rates of 5.35%, 5.39%, 8.22% and 8.40%.
At June 30, 2006 and December 31, 2005, the fair value of the Company's fixed
and variable rate debt, including the $28 million and $29 million, respectively,
which was swapped to a fixed rate, amounted to a liability of $1.80 billion and
$1.89 billion, respectively, compared to its carrying amount of $1.82 billion
and $1.84 billion, respectively. The Company estimates that a 100 basis point
increase in market interest rates at June 30, 2006 would have changed the fair
value of the Company's fixed and variable rate debt to a liability of
$1.72 billion.
The Company intends to continuously monitor and actively manage interest costs
on its variable rate debt portfolio and may enter into swap positions based upon
market fluctuations. In addition, the Company believes that it has the ability
to obtain funds through additional equity offerings and/or the issuance of
UPREIT Units. Accordingly, the cost of obtaining such interest rate protection
agreements in relation to the Company's access to capital markets will continue
to be evaluated. The Company has not, and does not plan to, enter into any
derivative financial instruments for trading or speculative purposes. As of June
30, 2006, the Company had no other material exposure to market risk.
HOME PROPERTIES, INC.
ITEM 4. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
The Company maintains disclosure controls and procedures that are designed to
ensure that information required to be disclosed in the reports filed or
submitted by the Company under the Securities Exchange Act of 1934 is recorded,
processed, summarized and reported within the time periods specified in the
Securities and Exchange Commission's rules and forms, and that such information
is accumulated and communicated to the officers who certify the Company's
financial reports and to the other members of senior management and the Board of
Directors.
The principal executive officer and principal financial officer evaluated, as of
June 30, 2006, the effectiveness of the disclosure controls and procedures (as
defined in Rules 13a-15(e) and 15-d-15(e) under the Securities Exchange Act of
1934, as amended (the "Exchange Act")) and have determined that such disclosure
controls and procedures are effective.
There have been no changes in the internal controls over financial reporting
identified in connection with that evaluation, or that occurred during the
second quarter of the year ended December 31, 2006 that has materially affected,
or is reasonably likely to materially affect, the Company's internal control
over financial reporting. The Company has not identified any material weaknesses
in its internal controls.
HOME PROPERTIES, INC.
PART II - OTHER INFORMATION
ITEM 1A. RISK FACTORS
Refer to the Risk Factors disclosure in the Company's Form 10-K for the year
ended December 31, 2005. There have been no material changes in these risk
factors during the six-months ended June 30, 2006 and through the date of this
report.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES; USE OF PROCEEDS FROM REGISTERED
SECURITIES
In 1997, the Company's Board of Directors approved a stock repurchase program
under which the Company may repurchase shares of its outstanding common stock
and UPREIT Units. The shares/units may be repurchased through open market or
privately negotiated transactions at the discretion of Company management. The
Board's action does not establish a specific target stock price or a specific
timetable for share repurchase. In addition, participants in the Company's Stock
Benefit Plan can use common stock of the Company that they already own to pay
all or a portion of the exercise price payable to the Company upon the exercise
of an option. In such event, the common stock used to pay the exercise price is
returned to authorized but unissued status, and for purposes of this table is
deemed to have been repurchased by the Company. At December 31, 2005, the
Company had authorization to repurchase 3,220,195 shares of common stock and
UPREIT Units under the stock repurchase program. During 2006, the Company
repurchased 1,680,521 shares at a cost of $84,532,601. The following table
summarizes the total number of shares (units) repurchased by the Company during
the three months ended June 30, 2006.
Total shares (units) Maximum shares
Total shares Average Purchased as (units) that may
(units) price per part of publicly- yet be purchased
Period purchased(1) share (unit) announced Plan under the Plan
Balance March 31, 2006 3,112,395
April 1, 2006 to April 30, 2006 1,189 $ 49.54 - 3,112,395
May 1, 2006 to May 31, 2006 309,035 $ 47.71 308,000 2,804,395
June 1, 2006 to June 30, 2006 1,274,839 $ 51.67 1,264,721 1,539,674
--------- -------- --------- ---------
1,585,063 $ 50.90 1,572,721 1,539,674
========= ======== ========= =========
(1) During the three months ended June 30, 2006, the Company repurchased 12,342
shares of common stock through share repurchase by the transfer agent in
the open market in connection with the Company's Dividend Reinvestment Plan
("DRIP"), which are included in this table.
Item 4. Submission of Matter to a Vote of Security Holders
The annual meeting of the Company's stockholders was held on May 4, 2006. The
following is a brief description of each matter voted upon at the meeting and
the number of votes cast for, withheld or against, abstentions and the number of
broker non-votes, as applicable, with respect to each matter.
The twelve directors proposed by the Company for re-election were elected to one
year terms by the following vote:
DIRECTOR NAME SHARES FOR SHARES WITHHELD
------------- ---------- ---------------
William Balderston, III 27,286,772 842,322
Josh E. Fidler 27,188,509 940,585
Alan L. Gosule 27,541,618 587,476
Leonard F. Helbig, III 27,325,803 803,291
Roger W. Kober 27,291,601 837,493
Norman P. Leenhouts 27,298,606 830,488
Nelson B. Leenhouts 27,299,503 829,591
Edward J. Pettinella 27,318,532 810,562
Clifford W. Smith, Jr. 27,325,797 803,297
Paul L. Smith 27,294,857 834,237
Thomas S. Summer 27,571,205 557,889
Amy L. Tait 27,301,984 827,110
The stockholders ratified the appointment of PricewaterhouseCoopers, LLP as the
Company's independent registered public accounting firm for 2006.
Shares Voted For: 27,793,126
Shares Voted Against: 307,845
Shares Abstaining: 28,122
ITEM 6. EXHIBITS
Exhibit 10.84 Amendment Nos. Eighty-One and Eighty-Two to the Second Amended and
Restated Limited Partnership Agreement
Exhibit 31.1 Section 302 Certification of Chief Executive Officer
Exhibit 31.2 Section 302 Certification of Chief Financial Officer
Exhibit 32.1 Section 906 Certification of Chief Executive Officer
Exhibit 32.2 Section 906 Certification of Chief Financial Officer
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
HOME PROPERTIES, INC.
(Registrant)
Date: August 8, 2006
By: /s/ Edward J. Pettinella
Edward J. Pettinella
President and Chief Executive Officer
Date: August 8, 2006
By: /s/ David P. Gardner
David P. Gardner
Executive Vice President and
Chief Financial Officer