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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
(Mark One)
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2003
-------------------------------------------------
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
Commission File Number 1-13136
------------------------------
HOME PROPERTIES, INC.
---------------------
(Exact name of registrant as specified in its charter)
MARYLAND 16-1455126
-------- ----------
(State or other jurisdiction of (IRS Employer Identification
incorporation or organization) Number)
850 Clinton Square, Rochester, New York 14604
---------------------------------------------
(Address of principal executive offices) (Zip Code)
(585) 546-4900
--------------
(Registrant's telephone number, including area code)
N/A
---
(Former name, former address and former
year, if changed since last report)
Indicate by check mark whether registrant (1) has filed all reports required to
be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
YES X NO
--- ---
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).
YES X No
--- ---
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date:
Class of Common Stock Outstanding at October 31, 2003
- --------------------- -------------------------------
$.01 par value 30,839,400
HOME PROPERTIES, INC.
TABLE OF CONTENTS
PAGE
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets -
September 30, 2003 (Unaudited) and December 31, 2002 3
Consolidated Statements of Operations (Unaudited) -
Nine months ended September 30, 2003 and 2002 4
Consolidated Statements of Operations (Unaudited) -
Three months ended September 30, 2003 and 2002 5
Consolidated Statements of Comprehensive Income (Unaudited) -
Nine months ended September 30, 2003 and 2002 6
Consolidated Statements of Comprehensive Income (Unaudited) - 7
Three months ended September 30, 2003 and 2002
Consolidated Statements of Cash Flows (Unaudited) - 8
Nine months ended September 30, 2003 and 2002
Notes to Consolidated Financial Statements (Unaudited) 9-21
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations 23-37
Item 3. Quantitative and Qualitative Disclosures About Market Risk 38
Item 4. Controls and Procedures 39
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K 40
Signatures 41-46
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
HOME PROPERTIES, INC.
CONSOLIDATED BALANCE SHEETS
SEPTEMBER 30, 2003 AND DECEMBER 31, 2002
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
2003 2002
---- ----
(Unaudited) (Note 1)
ASSETS
Real estate:
Land $ 389,513 $ 376,998
Buildings, improvements and equipment 2,347,624 2,220,280
---------- ----------
2,737,137 2,597,278
Less: accumulated depreciation ( 311,795) ( 257,284)
---------- ----------
Real estate, net 2,425,342 2,339,994
Cash and cash equivalents 7,251 8,782
Cash in escrows 41,089 45,735
Accounts receivable 5,683 7,576
Prepaid expenses 18,685 19,046
Investment in and advances to affiliates 5,967 19,475
Deferred charges 8,759 9,093
Other assets 10,163 6,565
---------- ----------
Total assets $2,522,939 $2,456,266
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Mortgage notes payable $1,346,470 $1,300,807
Line of credit 64,000 35,000
Accounts payable 15,716 19,880
Accrued interest payable 6,999 6,612
Accrued expenses and other liabilities 15,545 12,412
Security deposits 22,229 22,252
---------- ----------
Total liabilities 1,470,959 1,396,963
---------- ----------
Commitments and contingencies
Minority interest 330,045 333,061
---------- ----------
Stockholders' equity:
Cumulative redeemable preferred stock, $.01 par value; 3,000,000 shares
authorized; 2,400,000 shares issued and outstanding at
September 30, 2003 and December 31, 2002 60,000 60,000
Convertible cumulative preferred stock, $.01 par value; 10,000,000 shares
authorized; 350,000 and 1,086,800 shares issued and outstanding at
September 30, 2003 and December 31, 2002, respectively 34,500 107,680
Common stock, $.01 par value; 80,000,000 shares authorized; 30,605,627 and
27,027,003 shares issued and outstanding at September 30, 2003 and
December 31, 2002, respectively 306 270
Excess stock, $.01 par value; 10,000,000 shares authorized; no shares
issued or outstanding - -
Additional paid-in capital 746,854 649,489
Accumulated other comprehensive income (loss) ( 707) ( 972)
Distributions in excess of accumulated earnings ( 118,698) ( 89,452)
Officer and director notes for stock purchases ( 320) ( 773)
---------- ----------
Total stockholders' equity 721,935 726,242
---------- ----------
Total liabilities and stockholders' equity $2,522,939 $2,456,266
========== ==========
The accompanying notes are an integral part of these consolidated financial
statements.
HOME PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002
(UNAUDITED, IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
2003 2002
---- ----
Revenues:
Rental income $310,371 $272,237
Property other income 11,716 10,698
Interest and dividend income 402 1,079
Other income 3,349 1,630
---------- ----------
Total Revenues 325,838 285,644
---------- ----------
Expenses:
Operating and maintenance 141,230 118,866
General and administrative 14,371 8,758
Interest 64,026 56,112
Prepayment penalty 1,610 -
Depreciation and amortization 58,177 47,453
Impairment of assets held as General Partner 2,408 350
---------- -----------
Total Expenses 281,822 231,539
---------- ----------
Income from operations 44,016 54,105
Equity in earnings (losses) of unconsolidated affiliates ( 1,497) ( 1,408)
---------- ----------
Income before minority interest and discontinued operations 42,519 52,697
Minority interest 11,935 13,965
---------- ---------
Income from continuing operations 30,584 38,732
---------- ----------
Discontinued operations
Income from operations, net of $105 in 2003 and $868 in 2002 allocated to
minority interest 191 1,372
Gain on disposition of property, net of $207 in 2003 and $3,402 in 2002
allocated to minority interest 355 5,601
---------- ----------
Discontinued operations 546 6,973
---------- ----------
Income before loss on disposition of property 31,130 45,705
Loss on disposition of property, net of $1 in 2003 and $157 in 2002 allocated
to minority interest ( 2) ( 245)
---------- ----------
Net income 31,128 45,460
Preferred dividends ( 9,356) ( 11,027)
Premium on Series B preferred stock repurchase - ( 5,025)
---------- ----------
Net income available to common shareholders $ 21,772 $ 29,408
========== ==========
Basic earnings per share data:
Income from continuing operations $.74 $ .87
Discontinued operations .02 .27
---------- ----------
Net income available to common shareholders $.76 $1.14
========== ==========
Diluted earnings per share data:
Income from continuing operations $.73 $ .86
Discontinued operations .02 .27
---------- ----------
Net income available to common shareholders $.75 $1.13
========== ==========
Weighted average number of shares outstanding:
Basic 28,485,398 25,780,578
========== ==========
Diluted 28,874,160 26,099,471
========== ==========
The accompanying notes are an integral part of these consolidated financial
statements.
HOME PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002
(UNAUDITED, IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
2003 2002
---- ----
Revenues:
Rental income $106,091 $ 95,957
Property other income 3,978 4,120
Interest and dividend income 103 284
Other income 1,028 546
---------- ----------
Total Revenues 111,200 100,907
---------- ----------
Expenses:
Operating and maintenance 46,472 39,923
General and administrative 4,670 2,837
Interest 21,456 19,713
Prepayment penalty 261 -
Depreciation and amortization 19,976 16,992
Impairment of assets held as General Partner 1,888 350
---------- ----------
Total Expenses 94,723 79,815
---------- ----------
Income from operations 16,477 21,092
Equity in earnings (losses) of unconsolidated affiliates ( 313) ( 308)
---------- ----------
Income before minority interest and discontinued operations 16,164 20,784
Minority interest 4,776 6,391
---------- ----------
Income from continuing operations 11,388 14,393
---------- ----------
Discontinued operations
Income (loss) from operations, net of $95 in 2003 and ($271) in 2002
allocated to minority interest 173 (449)
Gain on disposition of property, net of $19 in 2003 and $1,756 in 2002
allocated to minority interest 35 2,912
---------- ----------
Discontinued operations 208 2,463
---------- ----------
Income before loss on disposition of property 11,596 16,856
Gain on disposition of property, net of $5 allocated to minority interest 8 -
---------- ----------
Net income 11,604 16,856
Preferred dividends ( 2,646) ( 3,793)
---------- ----------
Net income available to common shareholders $ 8,958 $ 13,063
========== ==========
Basic earnings per share data:
Income from continuing operations $.30 $.40
Discontinued operations - .09
---------- ----------
Net income available to common shareholders $.30 $.49
========== ==========
Diluted earnings per share data:
Income from continuing operations $.30 $.40
Discontinued operations - .09
---------- ----------
Net income available to common shareholders $.30 $.49
========== ==========
Weighted average number of shares outstanding:
Basic 29,522,274 26,428,655
========== ==========
Diluted 30,037,671 26,755,132
========== ==========
The accompanying notes are an integral part of these consolidated financial
statements.
HOME PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002
(UNAUDITED, IN THOUSANDS)
2003 2002
---- ----
Net income $31,128 $45,460
Other comprehensive income (net of minority interest):
Change in fair value of hedge instruments 265 ( 67)
------- -------
Comprehensive income $31,393 $45,393
======= =======
The accompanying notes are an integral part of these consolidated financial
statements.
HOME PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002
(UNAUDITED, IN THOUSANDS)
2003 2002
---- ----
Net income $11,604 $16,856
Other comprehensive income (net of minority interest):
Change in fair value of hedge instruments 173 ( 348)
------- -------
Comprehensive income $11,777 $16,508
======= =======
The accompanying notes are an integral part of these consolidated financial
statements.
HOME PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002
(UNAUDITED, IN THOUSANDS)
2003 2002
---- ----
Cash flows from operating activities:
Net income $ 31,128 $ 45,460
---------- ----------
Adjustments to reconcile net income to net cash provided by operating
activities:
Equity in (earnings) losses of unconsolidated affiliates 1,497 1,408
Income allocated to minority interest 12,246 18,078
Depreciation and amortization 59,681 50,181
Impairment of assets held as General Partner 2,408 350
Impairment of real property 423 1,565
Gain on disposition of property ( 559) ( 8,601)
Loss from early extinguishment of debt 1,610 -
Changes in assets and liabilities:
Other assets 517 ( 1,301)
Accounts payable and accrued liabilities ( 418) ( 1,145)
---------- ----------
Total adjustments 77,405 60,535
---------- ----------
Net cash provided by operating activities 108,533 105,995
---------- ----------
Cash flows used in investing activities:
Purchase of properties and other assets, net of mortgage
notes assumed and UPREIT Units issued ( 66,760) (222,345)
Additions to properties ( 78,658) ( 83,838)
Proceeds from sale of properties, net 38,313 79,374
Advances to affiliates ( 2,445) ( 8,244)
Payments on advances to affiliates 7,411 12,733
---------- ----------
Net cash used in investing activities (102,139) (222,320)
---------- ----------
Cash flows from financing activities:
Proceeds from sale of preferred stock, net - 58,098
Proceeds from sale of common stock, net 29,688 47,451
Repurchase of Series B preferred stock - ( 29,392)
Proceeds from mortgage notes payable 77,367 118,472
Payments of mortgage notes payable ( 56,939) ( 46,229)
Payment of prepayment penalty in connection with the early
extinguishment of debt ( 1,610) -
Proceeds from line of credit 154,000 161,000
Payments on line of credit (125,000) (107,500)
Payments of deferred loan costs ( 822) ( 3,001)
Additions to cash escrows, net 4,646 ( 4,685)
Repayment of officer loans 453 4,555
Dividends and distributions paid ( 89,708) ( 85,349)
---------- ----------
Net cash provided by (used in) financing activities ( 7,925) 113,420
---------- ----------
Net decrease in cash and cash equivalents ( 1,531) ( 2,905)
Cash and cash equivalents:
Beginning of year 8,782 10,719
---------- ----------
End of year $ 7,251 $ 7,814
========== ==========
Supplemental disclosure of non-cash operating, investing and financing
activities:
Mortgage loans assumed associated with property acquisitions $ 25,235 $128,678
Conversion of preferred to common stock 73,180 6,320
Exchange of UPREIT Units/partnership interest for common shares 4,686 1,929
Fair value of hedge instruments 1,205 1,611
Issuance of UPREIT Units associated with property and other acquisitions 4,806 11,526
Increase in real estate associated with the purchase of UPREIT units 3,000 -
Compensation cost of stock options issued 675 -
The accompanying notes are an integral part of these consolidated financial
statements.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(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 accompanying 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, 2002.
2. Organization and Basis of Presentation
Organization
The Company is engaged primarily in the ownership, management, acquisition,
and rehabilitation of residential apartment communities in the
Northeastern, Mid-Atlantic and Midwestern United States. As of September
30, 2003, the Company operated 250 apartment communities with 49,688
apartments. Of this total, the Company owned 149 communities, consisting of
41,576 apartments, managed as general partner 6,303 apartments and fee
managed 1,809 apartments for affiliates and third parties. The Company also
fee manages 2.2 million square feet of office and retail properties.
Basis of Presentation
The accompanying consolidated financial statements include the accounts of
the Company and its 65.5% (62.2% at September 30, 2002) partnership
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 34.5% (37.8% at September 30, 2002) is reflected
as Minority Interest in these consolidated financial statements. The
Company owns a 1.0% general partner interest in the Operating Partnership
and the remainder as a limited partner through its wholly owned subsidiary,
Home Properties I, LLC, which owns 100% of the limited partner, Home
Properties Trust. Home Properties Trust was formed in September 1997, as a
Maryland real estate trust and as a qualified REIT subsidiary ("QRS") and
owns the Company's share of the limited partner interests in the Operating
Partnership. For financing purposes, the Company has formed a limited
liability company (the "LLC") and a partnership (the "Financing
Partnership"), which beneficially own certain apartment communities
encumbered by mortgage indebtedness. The LLC is wholly owned by the
Operating Partnership. The Financing Partnership is owned 99.9% by the
Operating Partnership and 0.1% by the QRS.
Effective January 1, 2003, the accompanying consolidated financial
statements include the accounts of Home Properties Management, Inc. and
Home Properties Resident Services, Inc. (the "Management Companies"). The
Operating Partnership acquired all of the shares held by Nelson and Norman
Leenhouts ("the Leenhoutses") in the first quarter of 2003. The value of
the Leenhoutses shares was based upon an internal valuation and amounted to
approximately $81.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
2. Organization and Basis of Presentation (continued)
As a result, the Management Companies are now wholly owned subsidiaries of
the Company. Prior to January 1, 2003, investments in these entities were
accounted for using the equity method. All significant intercompany
balances and transactions have been eliminated in these consolidated
financial statements.
The Company accounts for its investment as managing general partner ("GP")
in unconsolidated affordable housing limited partnerships ("LP") using the
equity method of accounting. As managing GP of the LP, the Company has the
ability to exercise significant influence over operating and financial
policies. This influence is evident in the terms of the respective
partnership agreements, participation in policy-making processes, and the
employment of its management personnel. However, the Company does not have
a controlling interest in the respective LPs. The limited partners have
significant rights, such as the right to replace the general partner (for
cause) and the right to approve the sale or refinancing of the assets of
the respective partnership in accordance with the partnership agreement.
The Company records its allocable share of the respective partnership's
income or loss based on the terms of the agreement. To the extent it is
determined that the LPs cannot absorb their share of the losses, if any,
the GP will record the LPs share of such losses. In addition to the extent
the Company has outstanding loans or advances and the limited partner has
no remaining capital account, the Company will absorb such losses.
Reclassifications
Certain reclassifications have been made to the 2002 consolidated financial
statements to conform to the 2003 presentation.
New Accounting Standards
In January 2003, the FASB issued Interpretation No. 46 - "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"). This interpretation addresses consolidation by business
enterprises of variable interest entities in which the equity investment at
risk is not sufficient to permit the entity to finance its activities
without additional subordinated financial support from other parties or in
which the equity investors do not have the characteristics of a controlling
financial interest. This interpretation requires a variable interest entity
to be consolidated by a company if that company is subject to a majority of
the risk of loss from the variable interest entity's activities or entitled
to receive a majority of the entity's residual returns or both. The
interpretation also requires disclosures about variable interest entities
that the company is not required to consolidate but in which it has a
significant variable interest. The consolidation requirements of this
interpretation apply immediately to variable interest entities created
after January 31, 2003 but a deferral has been granted until the end of the
first fiscal year or interim period ending after December 15, 2003 for
VIE's existing before February 1, 2003. Therefore it is effective on
December 31, 2003 for the Company. Management is uncertain but is assuming
it is reasonably possible that each of the limited partnerships in which it
holds the general partnership interest as of December 31, 2003 would be
considered a VIE. The Company is determining where it is the primary
beneficiary, and as a result the Company may consolidate all or a certain
number of the limited partnership's assets and liabilities.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
2. Organization and Basis of Presentation (continued)
In April 2003, the FASB issued SFAS No. 149 "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities". This Statement amends and
clarifies financial accounting and reporting for derivative instruments,
including certain derivative instruments embedded in other contracts and
for hedging activities under SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." This Statement is effective for
contracts entered into or modified after June 30, 2003. The provisions of
FAS 149 are not expected to have a material impact on the Company's
financial statements.
In May 2003, FASB issued SFAS 150, "Accounting for Certain Financial
Instruments with Characteristics of Both Liabilities and Equity." This
Statement establishes standards for how an issuer classifies and measures
certain financial instruments with characteristics of both liabilities and
equity. It requires that an issuer classify a financial instrument that is
within its scope as a liability (or an asset in some circumstances). This
Statement is effective for financial instruments entered into or modified
after May 31, 2003, and otherwise is effective at the beginning of the
first interim period beginning after June 15, 2003. On October 29, 2003 the
FASB indefinitely deferred the provisions of paragraphs 9 and 10 of SFAS
150 as they apply to mandatorily redeemable noncontrolling interests. This
deferral applies to minority interest ownerships in limited partnerships
which are mandatorily redeemable upon termination of the partnership and
therefore is potentially applicable to the affordable portfolio.
3. Adoption of New Accounting Policy
Effective January 1, 2003, the Company adopted the provisions of SFAS 148
"Accounting for Stock Based Compensation - An Amendment of SFAS 123." Under
the transition provisions of this Statement, the Company has elected the
"Modified Prospective Method" for recognizing stock-based compensation
costs for the three and nine-month periods ended September 30, 2003. Under
this method the Company recognizes stock-based compensation cost from the
beginning of the fiscal year in which the recognition provisions are first
applied as if the fair value based accounting method in this Statement had
been used to account for all employee awards granted, modified, or settled
in fiscal years beginning after December 15, 1994. For the three and
nine-months ended September 30, 2003, the Company recognized $424 and
$1,076, respectively, in stock compensation costs related to its stock
compensation plans. Of this total, $266 and $675, for the three and
nine-month periods ended September 30, 2003, respectively, related to the
expensing of stock compensation costs associated with stock options granted
by the Company. The remaining $158 and $401, for the three and nine-month
periods ended September 30, 2003, respectively, pertains to the stock
compensation costs recognized by the Company relative to its restricted
stock grants.
For the three and nine-months ended September 30, 2002, the Company used
the intrinsic value method in accordance with the Accounting Principle
Board Opinion No. 25 ("APB No. 25") to account for stock-based employee
compensation arrangements. Under this method, the Company did not recognize
compensation cost for stock options when the option exercise price equals
or exceeded the market value on the date of grant. Restricted stock grants
were recognized as compensation expense over the vesting period based upon
the market value on the date of grant. Had the Company determined
compensation cost based upon the fair value of the stock option grants
under SFAS No. 123, "Accounting for Stock-Based Compensation," the fair
values of the options granted at the grant dates would be recognized as
compensation expense over the vesting periods, and the Company's net income
and earnings per share for the three and nine-month periods ended September
30, 2002 would have been as follows:
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
3. Adoption of New Accounting Policy (continued)
Nine Months Three Months
2002 2002
---- ----
Net income, as reported $45,460 $16,856
Total stock compensation cost recognized 180 64
Total stock compensation cost had SFAS 123 been adopted ( 813) ( 322)
------- -------
Proforma net income had SFAS 123 been adopted $44,827 $16,598
======= =======
Per share data:
Basic - as reported $1.14 $0.49
===== =====
Basic - proforma $1.12 $0.48
===== =====
Diluted - as reported $1.13 $0.49
===== =====
Diluted - proforma $1.10 $0.48
===== =====
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes option-pricing model with the following assumptions used
for grants in 2003 and 2002: dividend yields ranging from 8.40% to 9.40%;
expected volatility of 19.17%; and expected lives of 7.5 years for the
options with a lifetime of ten years, and five years for options with a
lifetime of five years. The interest rate used in the option-pricing model
is based on a risk free interest rate ranging from 4.29% to 6.87%.
4. Earnings Per Common Share
Basic earnings per share ("EPS") is computed as net income available to
common shareholders divided by the weighted average number of common shares
outstanding for the period. Diluted EPS reflects the potential dilution
that could occur from common shares issuable through stock-based
compensation including stock options, restricted stock, phantom shares
under the Company's incentive compensation plan, warrants and the
conversion of any cumulative convertible preferred stock. The exchange of
an Operating Partnership 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.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
4. Earnings Per Common Share (continued)
The reconciliation of the basic weighted average shares outstanding and
diluted weighted average shares outstanding for the nine and three-months
ended September 30, 2003 and 2002 is as follows:
Nine Months Three Months
----------- ------------
2003 2002 2003 2002
---- ---- ---- ----
Income from continuing operations $30,584 $38,732 $11,388 $14,393
Add (Less): Gain (loss) on disposal of property ( 2) ( 245) 8 -
Less: Preferred dividends ( 9,356) (11,027) ( 2,646) ( 3,793)
Less: Premium on Series B preferred stock repurchase - ( 5,025) - -
---------- ---------- ---------- ----------
Basic and Diluted - Income from continuing
operations
applicable to common shareholders $21,226 $22,435 $ 8,750 $10,600
Discontinued operations 546 6,973 208 2,463
---------- ---------- ---------- ----------
Net income available to common shareholders $21,772 $29,408 $ 8,958 $13,063
========== ========== ========== ==========
Basic weighted average number of shares outstanding 28,485,398 25,780,578 29,522,274 26,428,655
Effect of dilutive stock options 322,176 318,893 451,260 326,427
Effect of phantom and restricted shares 66,586 - 64,137 -
---------- ---------- ---------- ----------
Diluted weighted average number of shares
outstanding 28,874,160 26,099,471 30,037,671 26,755,132
========== ========== ========== ==========
Basic earnings per share
Income from continuing operations $.74 $ .87 $.30 $.40
Discontinued operations .02 .27 - .09
---------- ---------- ---------- ----------
Net Income available to common shareholders $.76 $1.14 $.30 $.49
========== ========== ========== ==========
Diluted earnings per share
Income from continuing operations $.73 $ .86 $.30 $.40
Discontinued operations .02 .27 - .09
---------- ---------- ---------- ----------
Net Income available to common shareholders $.75 $1.13 $.30 $.49
========== ========== ========== ==========
For the nine and three-month periods ended September 30, 2003, unexercised
stock options and warrants to purchase 1,873,453 and 1,334,399 shares
(excluding 733,970 and 1,273,024 anti-dilutive shares), respectively, of
the Company's common stock are dilutive and included in diluted weighted
average number of shares outstanding as of September 30, 2003. For both the
nine and three-month periods ended September 30, 2002, unexercised stock
options and warrants to purchase 2,355,705 shares (excluding 678,490
anti-dilutive shares) of the Company's common stock are dilutive and
included in diluted weighted average number of shares outstanding as of
September 30, 2002. For the nine and three-months periods ended September
30, 2003 (as applicable and on a weighted average basis), the 810,073 and
593,478, respectively, of the Series C, D and E Convertible Cumulative
Preferred Stock (2,657,914 and 1,951,605 common stock equivalents,
respectively) have an anti-dilutive effect and are not included in the
computation of diluted EPS. In addition, for the nine and three-months
periods ended September 30, 2002 (as applicable and on a weighted average
basis), the 1,788,629 and 1,121,148, respectively, of the Series B, C, D
and E Convertible Cumulative Preferred Stock (4,317,515 and 3,677,041
common stock equivalents, respectively) on an as-converted basis have an
anti-dilutive effect and are not included in the computation of diluted
EPS.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
5. Stockholders Equity
On January 9, 2003, 100,000 shares of Series C Preferred Shares were
converted into 330,579 shares of common stock. The conversion had no effect
on the reported results of operations of the Company.
On May 6, 2003, 36,800 shares of Series E Preferred Shares were converted
into 116,456 shares of common stock. The conversion had no effect on the
reported results of operations of the Company.
On May 8, 2003, 200,000 shares of Series C Preferred Shares were converted
into 661,157 shares of common stock. The conversion had no effect on the
reported results of operations of the Company.
On August 26, 2003, 200,000 shares of Series C and 200,000 shares of Series
E preferred stock were converted into 661,157 and 632,911 common shares,
respectively. The conversion had no effect on the reported results of
operations of the Company.
On September 9, 2003, 17,780 and 17,100 warrants issued in connection with
the Series C and Series E Cumulative Preferred Stock, respectively, were
exercised. This exercise had no effect on the reported results of
operations of the Company.
6. Other income
Other income for the nine and three-month periods ended September 30, 2003
and 2002 is summarized as follows:
Nine Months Three-months
----------- ------------
2003 2002 2003 2002
---- ---- ---- ----
Management fees $3,262 $ 1,506 $1,003 $537
Other 87 124 25 9
------ ------- ------ ----
$3,349 $1,630 $1,028 $546
====== ====== ====== ====
7. Equity in earnings (losses) of unconsolidated affiliates
Certain property management, leasing and development activities are
performed by the Management Companies. Both are Maryland corporations and,
effective January 1, 2001, have elected to convert to taxable REIT
subsidiaries under the Tax Relief Extension Act of 1999. Through December
31, 2002, the Operating Partnership owned non-voting common stock in the
Management Companies which entitled the Operating Partnership to receive
95% and 99% of the economic interest in Home Properties Management, Inc.
and Home Properties Resident Services, respectively. Effective January 1,
2003, the Operating Partnership acquired all of the remaining shares held
by the Leenhoutses. As a result of this transaction, the Management
Companies are now wholly owned subsidiaries of the Company and are
reflected in the consolidated financial statements from January 1, 2003.
Prior to January 1, 2003, the operations of the Management Companies were
recorded using the equity method of accounting.
In addition, the Company accounts for its investment as managing general
partner in unconsolidated affordable housing limited partnerships using the
equity method of accounting.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
7. Equity in earnings (losses) of unconsolidated affiliates (continued)
The Company's share of earnings (losses) from these investments are
included in this line item. The Company assesses the financial status and
cash flow of each of the partnerships at each balance sheet date in order
to assess recoverability of its investment in and advances to these
affiliates.
The Company's share of earnings (losses) from the Management Companies and
investment in limited partnerships for the nine and three-months ended
September 30, 2003 and 2002 is summarized as follows:
Nine Months Three Months
----------- ------------
2003 2002 2003 2002
---- ---- ---- ----
Management fees $ - $ 2,134 $ - $ 717
Interest income - 637 - 260
Miscellaneous - 31 - ( 2)
General and administrative - ( 2,720) - ( 978)
Interest expense - ( 562) - ( 176)
Other expense - ( 349) - ( 150)
------- ------- ------- ------
Net loss - ($ 829) - ($ 329)
------- ------- ------- ------
Company's share - ($ 829) - ($ 326)
Company's share of earnings (losses)
from investment in limited partnerships ( 1,497) ( 579) ( 313) 18
------- ------- ------- ------
Equity in earnings (losses) of unconsolidated
affiliates ($1,497) ($ 1,408) ($ 313) ($ 308)
======== ======== ======== =======
The general and administrative expenses reflected above represent an
allocation of direct and indirect costs incurred by the Company estimated
by management to be associated with the operations of the management
companies.
In December 2002, the Company, including its equity affiliates, determined
that it would market for sale virtually all of the assets associated with
its interest in various affordable housing limited partnerships. Such
assets include the equity interest in the affordable housing partnerships,
loans, advances and management contracts.
The Company intends to sell the assets in three phases:
Phase I consisting of the Company's interest in 35 properties containing
1,119 units, of which all were New York State Rural Development properties,
was sold on September 5, 2003. The sale price of $1,540 resulted in a gain
on sale of approximately $72 that was recorded in the third quarter. Not
included in the above closing but part of the Phase I contract is one
property with 24 units expected to close in the first quarter of 2004.
Phase II consists of the Company's interest in 51 properties with 1,519
units, all Pennsylvania, New York and Ohio Rural Development properties. An
offer has been accepted for approximately book value and the final contract
has been negotiated. The Company anticipates closing on this phase during
the fourth quarter of 2003.
Phase III consists of the Company's interest in the remaining 37 properties
with 3,583 units, primarily located in Upstate New York, Ohio and Maryland.
The Company has received competitive bids and has selected a qualified
buyer and is working towards a closing anticipated in the first quarter of
2004.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
7. Equity in earnings (losses) of unconsolidated affiliates (continued)
The Company has one property with 24 units in Rochester, New York under
contract and is expected to close in the fourth quarter of 2003. In
addition, the Company has two partnerships in Pittsburgh, Pennsylvania with
1,072 units that are being marketed for sale separately.
The Company plans on retaining the general partner interest in one 77-unit
property located in Rochester, New York. The property is 80% market rate
and is managed as a market rate community.
In the third quarter of 2003, the Company recorded an impairment charge of
$2,233 to adjust these assets to management's estimate of fair market
value, $1,888 classified in the financial statements as "Impairment of
assets held as general partner" and $345 included in "Equity in earnings
(losses) of unconsolidated affiliates." A portion of the total $2,233
charge, or $537, represents monies loaned to certain affordable properties
during the third quarter of 2003 to fund operating shortfalls, which are
not anticipated to be recovered from projected sale proceeds. The remaining
balance of $1,696 pertains to an additional net impairment charge taken on
Phase III to reduce the assets to fair market value. For the nine-month
period ended September 30, 2003, the Company has recorded impairment
charges totaling $3,099, $1,403 of which relates to cash advances to fund
operating shortfalls.
The Company's ability to sell the affordable assets on the timelines
described above is dependent on a variety of factors, some of which are
outside of the Company's control, such as the receipt of the approvals of
various partners, lenders and governmental agencies necessary for the sale.
8. Segment Reporting
The Company is engaged in the ownership and management of market rate
apartment communities. Each apartment community is considered a separate
operating segment. Each segment on a stand alone basis is less than 10% of
the revenues, profit or loss, and assets of the combined reported operating
segments and meets the majority of the aggregation criteria under SFAS No.
131. The operating segments are aggregated and segregated as Core and
Non-core properties.
Non-segment revenue to reconcile to total revenue consists of interest and
dividend income and other income. Non-segment assets to reconcile to total
assets include cash and cash equivalents, cash in escrows, accounts
receivable, prepaid expenses, investments in and advances to affiliates,
deferred charges and other assets.
Core properties consist of all apartment communities which have been owned
more than one full calendar year. Therefore, the Core Properties represent
communities owned as of January 1, 2002. Non-core properties consist of
apartment communities acquired during 2002 and 2003, such that full year
comparable operating results are not available.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
8. Segment Reporting (continued)
The accounting policies of the segments are the same as those described in
Notes 1 and 2 of the Company's Form 10-K.
The Company assesses and measures segment operating results based on a
performance measure referred to as Funds from Operations ("FFO"). FFO is
generally defined as net income (loss), before gains (losses) from the sale
of property, impairment charges on depreciable property or investments,
extraordinary items, plus real estate depreciation including adjustments
for unconsolidated partnerships and joint ventures less dividends from
non-convertible preferred shares. The Company considers debt extinguishment
costs, which are incurred as a result of repaying property specific debt,
as a component of the gain or loss on sale of the property. FFO is not a
measure of operating results or cash flows from operating activities as
measured by generally accepted accounting principles and it is not
indicative of cash available to fund cash needs and should not be
considered an alternative to cash flows as a measure of liquidity. Other
companies may calculate similarly titled performance measures in a
different manner.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
8. Segment Reporting (continued)
The revenues, profit (loss), and assets for each of the reportable
segments are summarized as follows as of and for the nine and
three-month periods ended September 30, 2003, and 2002.
Nine Months Three Months
----------- ------------
2003 2002 2003 2002
---- ---- ---- ----
Revenues
Apartments owned
Core properties $278,001 $269,724 $ 94,657 $ 92,228
Non-core properties 44,086 13,211 15,412 7,849
Reconciling items 3,751 2,709 1,131 830
-------- ------- -------- ---------
Total Revenue $325,838 $285,644 $111,200 $ 100,907
======== ======== ======== =========
Profit (loss)
Funds from operations:
Apartments owned
Core properties $153,832 $155,445 $ 53,685 $ 54,913
Non-core properties 27,025 8,624 9,912 5,241
Reconciling items 3,751 2,709 1,131 830
-------- ------- -------- ---------
Segment contribution to FFO 184,608 166,778 64,728 60,984
General and administrative expenses ( 14,371) ( 8,758) ( 4,670) ( 2,837)
Interest expense ( 64,026) (56,112) ( 21,456) ( 19,713)
Depreciation of unconsolidated affiliates 1,837 505 725 68
Non-real estate depreciation/amortization ( 1,687) ( 823) ( 540) ( 420)
Redeemable preferred dividend (Series F) ( 4,050) ( 2,805) ( 1,350) ( 1,350)
Equity in earnings (losses) of unconsolidated affiliates ( 1,497) ( 1,408) ( 313) ( 308)
Impairment of assets held as General Partner ( 2,408) ( 350) ( 1,888) ( 350)
Impairment of affordable assets not in FFO 1,862 - 1,862 -
Income from discontinued operations before minority
interest, depreciation and loss on disposition of property 1,118 5,801 344 1,293
-------- ------- -------- ---------
Funds from Operations 101,386 102,828 37,442 37,367
Depreciation - apartments owned ( 56,889) ( 48,626) ( 19,512) ( 17,020)
Depreciation of unconsolidated affiliates ( 1,837) ( 505) ( 725) ( 68)
Redeemable preferred dividend 4,050 2,805 1,350 1,350
Prepayment penalty ( 1,610) - ( 261) -
Impairment of real property ( 423) ( 1,565) - ( 1,565)
Impairment of affordable assets not in FFO ( 1,862) - ( 1,862) -
(Income) loss from discontinued operations before minority
interest and loss on disposition of property ( 296) ( 2,240) ( 268) 720
Minority interest ( 11,935) (13,965) ( 4,776) ( 6,391)
-------- ------- -------- ---------
Income from continuing operations $ 30,584 $38,732 $ 11,388 $ 14,393
======== ======= ======== =========
Assets - As of September 30, 2003 and December 31, 2002 Apartments
owned:
- Core $1,877,204 $1,872,424
- Non-core 548,138 467,570
Reconciling items 97,597 116,272
---------- ----------
Total Assets $2,522,939 $2,456,266
========== ==========
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
9. Pro Forma Condensed Financial Information
The Company acquired two apartment communities ("2003 Acquired
Communities") with a combined 730 units in two unrelated transactions
during the nine-month period ended September 30, 2003. The total combined
purchase price (including closing costs) of $92,876 equates to
approximately $127 per unit. Consideration for the community was funded
through the assumption of $24,695 in debt and $68,181 from the Company's
line of credit.
In addition, the Company disposed of five apartment communities ("2003
Disposed Properties") with 934 units in five unrelated transactions during
the first three quarters of 2003. The total selling price (including
closing costs) of $40,597 resulted in a $634 gain on disposition of
property, net of minority interest. Due to the prepayment of debt
associated with the sale of two of the properties, a $1,610 charge was
recorded during the first three quarters of 2003. During the second and
third quarters of 2003, the Company reported a combined $279 loss, net of
minority interest, relating to additional expenses incurred in the same
quarters for sales which took place during 2002. These costs represent a
change in estimate from those accrued at the time of sale.
The following proforma information was prepared as if (i) the 2003
transaction related to the acquisition of the "2003 Acquired Communities"
had occurred on January 1, 2002, (ii) the 2002 transactions related to the
acquisition of 20 apartment communities in seven separate transactions had
occurred on January 1, 2002, (iii) the disposition of the "2003 Disposed
Properties" had occurred on January 1, 2002, (iv) the 2002 transactions
related to the disposition of twelve apartment communities in eight
separate transactions had occurred on January 1, 2002, and (v) the 2002
Series F Preferred Share offering and the two common equity offerings had
occurred on January 1, 2002. The proforma financial information is based
upon the historical consolidated financial statements and is not
necessarily indicative of the consolidated results which actually would
have occurred if the transactions had been consummated at the beginning of
2002, nor does it purport to represent the results of operations for future
periods. Adjustments to the proforma condensed combined statement of
operations for the nine and three-months ended September 30, 2003 and 2002,
consist principally of providing net operating activity and recording
interest, depreciation and amortization from January 1, 2002 to the earlier
of September 30, 2003 or 2002, as applicable, or the acquisition date.
For the Nine-months Ended For the Three-months Ended
------------------------- --------------------------
September 30 September 30
2003 2002 2003 2002
---- ---- ---- ----
Total revenues $330,193 $318,257 $113,639 $108,800
Net income available to common shareholders 22,309 30,331 9,562 12,297
Per common share data:
Net income available to common shareholders
Basic $0.78 $1.15 $0.32 $0.47
======== ======== ======== ========
Diluted $0.77 $1.13 $0.32 $0.46
======== ======== ======== ========
Weighted average numbers of shares outstanding:
Basic 28,485.4 26,405.2 29,522.3 26,428.7
======== ======== ======== ========
Diluted 28,874.2 26,724.1 30,037.7 26,755.1
======== ======== ======== ========
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
10. Derivative Financial Instruments
The Company has three interest rate swaps that effectively convert variable
rate debt to fixed rate debt. As of September 30, 2003, the aggregate fair
value of the Company's interest rate swaps was $1,205 prior to the
allocation of minority interest and is included in accrued expenses and
other liabilities in the consolidated balance sheets. For the nine-months
ending September 30, 2003, 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.
11. Disposition of Property and Discontinued Operations
Included in discontinued operations for the nine-month period ended
September 30, 2002 are seventeen apartment community dispositions (five and
twelve sold in 2003 and 2002, respectively) and five properties sold in
2003 for the nine-month period ended September 30, 2003 and one property
held for sale for both the nine-month periods ended September 30, 2003 and
2002. For purposes of the discontinued operations presentation, the Company
only includes interest expense associated with specific mortgage
indebtedness of the properties that are sold or classified as held for
sale. Properties classified in this manner through September 30, 2003, have
been reflected on a comparative basis for the period ended September 30,
2002.
Assets and liabilities for the one apartment community held for sale at
September 30, 2003 of $3,282 and $2,875, respectively, are included in the
Consolidated Balance Sheet and relate primarily to real estate and mortgage
debt, respectively. This apartment community was previously classified in
the Company's Core Properties Segment.
As part of its strategic disposition program, during 2002, the Company sold
twelve properties with a total of 1,724 units for total consideration of
$87,287, or an average of $51 per unit. During the nine-months ended
September 30, 2003, the Company sold the five apartment communities
referred to above having 934 units in five unrelated transactions. The
total sales price of $40,597 equates to $43.4 per unit. A gain on sale of
approximately $634, net of minority interest, was recorded in the first
three quarters from these transactions and is reflected in discontinued
operations. Due to the prepayment of debt associated with the sale of two
of the properties, a $1,610 charge was recorded during the first three
quarters. During the second and third quarters, the Company reported a
combined $279 loss, net of minority interest, relating to additional
expenses incurred in the same quarters for sales which took place during
2002. These costs represent a change in estimate from those accrued at the
time of sale.
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.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
11. Disposition of Property and Discontinued Operations (continued)
The operating results of the components of discontinued operations are
summarized as follows for the nine and three-month periods ended September
30, 2003 and 2002.
Nine months Three months
----------- ------------
2003 2002 2003 2002
---- ---- ---- ----
Revenues:
Rental Income $2,783 $11,144 $639 $ 2,627
Property other income 101 304 25 79
----- ------- ---- -------
Total Revenues 2,884 11,448 664 2,706
----- ------- ---- -------
Operating and Maintenance 1,253 4,561 204 1,136
Interest expense 513 1,086 116 277
Depreciation and amortization 399 1,996 76 448
Impairment of real property 423 1,565 - 1,565
----- ------- ---- -------
Total Expenses 2,588 9,208 396 3,426
----- ------- ---- -------
Income (loss) from discontinued operations before
minority interest and gain (loss) on
disposition of property 296 2,240 268 ( 720)
Minority interest 105 868 95 ( 271)
----- ------- ---- -------
Income from discontinued operations before gain
(loss) on disposition of property and related
minority interest 191 1,372 173 ( 449)
Gain (loss) on disposition of property 355 5,601 35 2,912
----- ------- ---- -------
Income (loss) from discontinued operations $ 546 $ 6,973 $208 $ 2,463
===== ======= ==== =======
12. Commitments and Contingencies
Contingencies
In 2001, the Company underwent a state tax audit. The state has assessed
taxes of $469 for the 1998 and 1999 tax years under audit. If the state's
position is applied to all tax years through December 31, 2001, the
assessment would be $1.3 million. At the time, the Company believed the
assessment and the state's underlying position was neither supportable by
the law nor consistent with previously provided interpretative guidance
from the office of the State Secretary of Revenue. After two subsequent
enactments by the state legislature during 2002 affecting the pertinent tax
statute, the Company has been advised by its third party legal counsel that
its filing position for 1998-2001 should prevail. Based upon this
information as of September 30, 2003, the Company has recorded an accrual
of $525, representing only its 2002 liability. Effective January 1, 2003,
the Company reorganized the ownership of Home Properties Trust, subjecting
the Company to a much lower level of tax going forward.
HOME PROPERTIES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
12. Commitments and Contingencies (continued)
Guarantees
The Company has guaranteed a total of $596 of debt associated with two
entities where the Company is the general partner. All other mortgage notes
payable of affiliates are non-recourse debt to the limited partnerships and
the Company. In addition, the Company, through its general partnership
interests in certain affordable property limited partnerships, has
guaranteed the Low Income Housing Tax Credits to limited partners in 75
partnerships totaling approximately $63.8 million. As of September 30,
2003, there were no known conditions that would make such payments
necessary, and no amounts have been recorded. In addition, the Company,
acting as general partner in certain partnerships, is obligated to advance
funds to meet partnership operating deficits.
13. Subsequent events
Subsequent to the end of the third quarter, the Company announced that
effective January 1, 2004, Norman and Nelson Leenhouts were retiring as
Co-CEO's and Edward Pettinella will become President and CEO. In
recognition of the value created under their leadership, Norman and Nelson
received restricted stock grants with a combined value of approximately $5
million. A one time, non-recurring charge equal to this $5 million will be
recorded in the fourth quarter of 2003 and included in general and
administrative expense.
In addition, the Company announced that on January 1, 2004, the commercial
property management division of Home Properties will be sold to Home
Leasing LLC, which is owned by Norman and Nelson Leenhouts, in order to
avoid conflicts of interest and focus Home Properties solely on the direct
ownership and management of market rate apartment communities. The
commercial property management division consists of the business of
managing under contract six commercial properties, three single-family land
developments and one affordable multifamily apartment community. The
majority of these properties were all managed by Home Leasing Corporation,
also owned by Norman and Nelson Leenhouts, prior to the Companies IPO. The
right to manage these properties would revert to Home Leasing Corporation
for no consideration upon termination of the Leenhoutses' employment on
December 31, 2006. The consideration to be paid is $68 plus a percentage of
the management fee received by Home Leasing in connection with the
management of one of the commercial properties for so long as the
management of that property is retained. If Home Leasing continues to
manage that property for three years, the consideration would increase
$166. This division currently contributes approximately $130 annually to
operations. The revenue from this division is reflected in other income and
the majority of the expenses are included in general and administrative.
Also subsequent to the end of the quarter, holders of the remaining 100,000
shares of Series C Preferred Shares elected to convert those shares into
330,579 shares of common stock.
HOME PROPERTIES, INC.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS
OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION
(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 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 Operating Partnership Unitholders,
capital improvements and repairs and maintenance for the properties, acquisition
of additional properties, property development and debt repayments.
The Company intends to meet its short-term liquidity requirements through net
cash flows provided by operating activities and its unsecured line of credit.
The Company considers its ability to generate cash to be adequate to meet all
operating requirements and make distributions to its stockholders in accordance
with the provisions of the Internal Revenue Code, as amended, applicable to
REITs.
As of September 30, 2003, the Company had an unsecured line of credit from M
& T Bank of $115 million. The Company's outstanding balance as of September
30, 2003, was $64 million. Borrowings under the line of credit bear interest at
1.15% 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. The line of credit
expires on September 1, 2005.
To the extent that the Company does not satisfy its long-term liquidity
requirements through net cash flows provided by operating activities and its
credit facility, it intends to satisfy such requirements through the issuance of
UPREIT units, proceeds from the Dividend Reinvestment Plan ("DRIP"), proceeds
from the sale of properties, additional long term secured or unsecured
indebtedness, or the issuance of additional equity securities. As of September
30, 2003, the Company owned 22 properties with 3,563 apartment units, which were
unencumbered by debt.
In May 1998, the Company's Form S-3 Registration Statement was declared
effective relating to the issuance of up to $400 million of common stock,
preferred stock or other securities. The available balance on the shelf
registration statement at September 30, 2003 was $144.4 million.
In September 1999, the Company completed the sale of $50 million of Series B
Preferred Stock in a private transaction with GE Capital. The Series B Preferred
stock carried an annual dividend rate equal to the greater of 8.36% or the
actual dividend paid on the Company's common shares into which the preferred
shares could be converted. The stock had a liquidation preference of $25.00 per
share, a conversion price of $29.77 per share, and a five-year, non-call
provision. On February 14, 2002, 1,000,000 shares of the Series B Preferred
stock were converted to 839,771 common shares. The conversion had no effect on
the reported results of operations. On May 24, 2002 the Company repurchased the
remaining 1.0 million shares outstanding at an amount equivalent to 839,772
common shares (as if the preferred shares had been converted). The Company
repurchased the shares for $29,392 equal to the $35.00 common stock trading
price when the transaction was consummated. A premium of $5,025 was incurred on
the repurchase.
In May and June 2000, the Company completed the sale of $60 million of Series C
Preferred Stock in a private transaction with affiliates of Prudential Real
Estate Investors ("Prudential"), Teachers Insurance and Annuity Association of
America ("Teachers"), affiliates of AEW Capital Management and Pacific Life
Insurance Company. The Series C Preferred Stock carries an annual dividend rate
equal to the greater of 8.75% or the actual dividend paid on the Company's
common shares into which the preferred shares can be converted. The stock has a
conversion price of $30.25 per share and a five-year, non-call provision. As
part of the Series C Preferred Stock transaction, the Company also issued
240,000 warrants to purchase common shares at a price of $30.25 per share,
expiring in five years. On January 9, 2003, holders of 100,000 shares of Series
C Preferred Shares elected to convert those shares for 330,579 shares of common
stock. On May 8, 2003, 200,000 shares of Series C Preferred Shares were
converted into 661,157 shares of common stock. On August 26, 2003, 200,000
shares of Series C Preferred Shares were converted into 661,157 of common stock.
On September 9, 2003, 17,780 warrants were exercised, resulting in the issuance
of 17,780 shares of common stock. Neither the conversions nor the warrant
exercise had an effect on the reported results of operations.
Subsequent to the end of the quarter, holders of the remaining 100,000 shares of
Series C Preferred Shares elected to convert those shares into 330,579 shares of
common stock.
In June 2000, the Company completed the sale of $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 carries 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 has a conversion price of $30 per share and a five-year, non-call
provision.
In December 2000, the Company completed the sale of $30 million of Series E
Preferred Stock in a private transaction, again with affiliates of Prudential
and Teachers. The Series E Preferred Stock carries an annual dividend rate equal
to the greater of 8.55% or the actual dividend paid on the Company's common
shares into which the preferred shares can be converted. The stock has a
conversion price of $31.60 per share and a five-year, non-call provision. In
addition, as part of the Series E Preferred Stock transaction, the Company
issued warrants to purchase 285,000 common shares at a price of $31.60 per
share, expiring in five years. On August 20, 2002, 63,200 of the Series E
Convertible Preferred Shares were converted into 200,000 shares of common stock.
On May 6, 2003, 36,800 shares of Series E Preferred Shares were converted into
116,456 shares of common stock. The conversions had no effect on the reported
results of operations. On August 26, 2003 the remaining 200,000 shares of Series
E Preferred Shares were converted into 632,911 of common stock. On September 9,
2003, 17,100 warrants were exercised, resulting in the issuance of 17,100 shares
of common stock. Neither the conversions nor the warrant exercise had an effect
on the reported results of operations.
On February 28, 2002, the Company closed on two common equity offerings totaling
704,602 shares of the Company's common stock, at a weighted average price of
$30.99 per share, resulting in net proceeds to the Company of approximately
$21.8 million.
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 2003, the Company exercised an option to
acquire approximately 10 acres of land adjacent to one of its existing
properties for $2.8 million. In connection with this transaction, the Company
issued UPREIT units valued at approximately $2.8 million. In addition, $2
million of UPREIT units were issued to satisfy an existing liability. During
2002, the Company acquired an 864-unit property for a total purchase price of
$81.5 million. The Company issued UPREIT units valued at approximately $11.5
million, with the balance funded by the assumption of debt and cash.
During 2002, $27.4 million of common stock was issued under the Company's DRIP.
An additional $22.8 million has been raised through the DRIP program during the
first nine months of 2003.
The DRIP was amended, effective April 10, 2001, 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 3% to 2%. The maximum monthly investment (without receiving
approval from the Company) was reduced from $5 thousand to $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. During times when this difference is small,
management has the flexibility to issue waivers to DRIP participants to provide
for investments in excess of the $1 thousand maximum monthly investment. In
connection with the announcement of the February, 2002 dividend, the Company
announced such waivers will be considered beginning with the March 2002 optional
cash purchase, as management believed the stock was trading at or above its
estimate of net asset value. During the first quarter of 2002, the Company
granted 53 waivers for purchases aggregating a total of $3.9 million. No waivers
were granted during the balance of 2002 or the first nine months of 2003.
On August 6, 2002 the Board of Directors increased its authorization by
2,000,000 shares to repurchase its common stock or UPREIT units in connection
with the Company's stock repurchase program. The shares/units may be repurchased
through open market or privately negotiated transactions at the discretion of
Company management. The Board's action does not establish a target stock price
or a specific timetable for share repurchase. During the nine months of 2003,
there were no shares or UPREIT Units repurchased by the Company. At September
30, 2003 the Company had authorization to repurchase 3,135,800 shares of common
stock and UPREIT Units under the stock repurchase program.
As of September 30, 2003, the weighted average rate of interest on mortgage debt
is 6.40% and the weighted average maturity is approximately 8 years.
Approximately 93% of the debt is fixed rate. This limits the exposure to changes
in interest rates, minimizing the effect on results of operations and financial
condition.
Off-Balance Sheet Investments
The Company has investments in and advances to approximately 93 affordable
housing limited partnerships where the Company acts as the managing general
partner. The Company accounts for these investments on the equity method of
accounting, recording its share of the net income or loss based upon the terms
of the partnership agreement. To the extent that it is determined that the
limited partners cannot absorb their share of the losses, if any, the general
partner will record the limited partners' share of such losses.
The Company guaranteed the low income housing tax credits to the limited
partners for a period of five years (from the date of property development under
the tax credit program) in 75 partnerships totaling approximately $63.8 million.
Such guarantee requires the Company to operate the properties in compliance with
Internal Revenue Code Section 42 for 15 years. The weighted average number of
compliance years remaining is approximately 10 years. In addition, acting as the
general partner in certain partnerships, the Company is obligated to advance
funds to meet partnership operating deficits. However, such funding requirements
cease after a five-year period. If operating deficits continue to occur after
the expiration of the five-year period, the Company would determine on an
individual partnership basis if it is in the best interest of the Company to
continue to fund these deficits. The Company believes the properties' operations
conform to the applicable requirements as set forth above and do not anticipate
any payment on the tax credit guarantees described above.
These partnerships are funded with non-recourse financing. The Company's
proportionate share of non-recourse financing was $2.6 million at September 30,
2003. The Company has guaranteed a total of $596 of debt associated with two of
these partnerships. In addition, the Company, including the Management
Companies, has provided loans and advances to certain of the partnerships
aggregating $6.3 million at September 30, 2003. The Company assesses the
financial status and cash flow of each of the partnerships at each balance sheet
date in order to assess recoverability of its investment in and advances to
these affiliates.
In December 2002, the Company, including its equity affiliates, determined that
it would market for sale virtually all of the assets associated with its
interest in the aforementioned affordable housing limited partnerships. Such
assets include the equity interest in the affordable housing partnerships,
loans, advances and management contracts.
The Company intends to sell the assets in three phases:
Phase I consisting of the Company's interest in 35 properties containing 1,119
units, of which all were New York State Rural Development properties, was sold
on September 5, 2003. The sale price of $1,540 resulted in a gain on sale of
approximately $72 that was recorded in the third quarter. Not included in the
above closing but part of the Phase I contract is one property with 24 units
expected to close in the first quarter of 2004.
Phase II consists of the Company's interest in 51 properties with 1,519 units,
all Pennsylvania, New York and Ohio Rural Development properties. An offer has
been accepted for approximately book value and the final contract has been
negotiated. The Company anticipates closing on this phase during the fourth
quarter of 2003.
Phase III consists of the Company's interest in the remaining 37 properties with
3,583 units, primarily located in Upstate New York, Ohio and Maryland. The
Company has received competitive bids and has selected a qualified buyer and is
working towards a closing anticipated in the first quarter of 2004.
The Company has one property with 24 units in Rochester, New York under contract
and is expected to close in the fourth quarter of 2003. In addition, the Company
has two partnerships in Pittsburgh, Pennsylvania with 1,072 units that are being
marketed for sale separately.
The Company plans on retaining the general partner interest in one 77-unit
property located in Rochester, New York. The property is 80% market rate and is
managed as a market rate community.
The Company recorded impairment charges aggregating $3,099 during the first nine
months of 2003. Of this balance, $1,403 relates to monies loaned to certain
equity affiliates to fund operating shortfalls, which are not anticipated to be
recovered from projected sale proceeds. The remaining $1,696 pertains to an
additional net impairment charge taken on Phase III to reduce the assets to fair
market value.
The Company's ability to sell the affordable assets on the timelines described
above is dependent on a variety of factors, some of which are outside of the
Company's control, such as the receipt of the approvals of various partners,
lenders and governmental agencies necessary for the sale.
Acquisitions and Dispositions
In connection with the acquisition of an apartment community, the Company
performs a valuation and allocation to each asset and liability acquired in such
transaction, based on their estimated fair values at the date of acquisition in
accordance with SFAS No. 141 "Business Combinations." The valuation of assets
acquired includes both tangible and intangible assets. Tangible asset values,
consisting of land, buildings and appliances, are reflected in real estate
assets and depreciated over their estimated useful lives. Intangible asset
values, consisting of above/below market in place leases, leasehold interest
costs, and resident relationships, are reflected in other assets and other
liabilities and amortized over the weighted average remaining lease term for in
place leases and leasehold interest costs, and over the average turnover rate
for resident relationships.
During the first quarter of 2003, the Company acquired its second property in
the Boston area with 280 units in Stoughton, MA. The total purchase price of
$34,000, including closing costs, equates to approximately $121 per apartment
unit. The weighted average expected first year capitalization rate on this
acquisition is 7.7%. Capitalization rate ("cap rate") is defined as the rate of
interest used to convert the first year expected net operating income ("NOI")
less a 3.0% management fee into a single present value. NOI is defined by the
Company as rental income and property other income less operating and
maintenance expenses. Management generally considers NOI to be an appropriate
measure of operating performance because it helps investors to understand the
operations of a community. In addition the apartment communities are valued and
sold in the market by using a multiple of NOI.
During the third quarter of 2003, the Company acquired a 450-unit community in
Silver Spring, Maryland. The total purchase price of $58,876, including closing
costs, equates to approximately $131 per apartment unit. Management anticipates
a 7.1% weighted average expected first year capitalization rate on this
acquisition.
During the first nine months of 2003, the Company sold five communities with a
total of 934 apartment units in Indiana, Ohio, Pennsylvania, Maryland, and
Michigan for total consideration of $40,597, or an average of $43.4 per unit. A
gain on sale of approximately $634, net of minority interest, was recorded for
the nine-months ended September 30, 2003 from these transactions and is
reflected in discontinued operations. Due to the prepayment of debt associated
with the sale of two of these communities, a combined $1,610 charge was recorded
during the first nine-months.
Contractual Obligations and Other Commitments
The primary obligations of the Company relate to its mortgage notes payable and
its borrowings under the line of credit. The Company's mortgage notes payable
and line of credit outstanding at September 30, 2003 and December 31, 2002 are
summarized as follows (in thousands):
September 30, 2003 December 31, 2002
------------------ -----------------
Fixed rate mortgage notes payable $1,315,720 $1,279,752
Variable rate mortgage notes payable 30,750 21,055
---------- ----------
Total mortgage notes payable 1,346,470 1,300,807
Variable rate line of credit facility 64,000 35,000
---------- ----------
Total mortgage notes payable and line of credit facility $1,410,470 $1,335,807
========== ==========
Mortgage notes payable are collateralized by certain apartment communities and
mature at various dates from July, 2004 through June, 2036. The weighted average
interest rate of the Company's variable rate notes and credit facility was 2.22%
and 2.83% at September 30, 2003 and December 31, 2002, respectively. The
weighted average interest rate of the Company's fixed rate notes was 6.45% and
6.50% at September 30, 2003 and December 31, 2002, 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. At September 30,
2003, future minimum rental payments required under the lease are $70 per year
until the lease expires. The lease also provides for contingent rental payments
based on collected rents. The contingent rent expense for the nine-month period
ended September 30, 2003 amounted to $110.
As discussed in the section entitled "Off-Balance Sheet Investments," the
Company has the following guarantees or commitments relating to its equity
method partnership investments: a) guarantee for a total of $596 of debt
associated with two of partnerships, b) guarantee of the low income housing tax
credits to the limited partners for a period of five years in 75 partnerships
totaling approximately $63.8 million, and c) the obligation to advance funds to
meet partnership operating deficits for a five year period for certain
partnerships. The Company believes the properties' operations conform to the
applicable requirements as set forth above and do not anticipate any payment on
these tax credit guarantees.
Capital Improvements
The Company's policy is to capitalize costs related to the acquisition,
development, rehabilitation, construction and improvement of properties. Capital
improvements are costs that increase the value and extend the useful life of an
asset. Ordinary repair and maintenance costs that do not extend the useful life
of the asset are expensed as incurred. Costs incurred on a lease turnover due to
normal wear and tear by the resident are expensed on the turn. Recurring capital
improvements typically include: appliances, carpeting and flooring, HVAC
equipment, kitchen/ bath cabinets, new roofs, site improvements and various
exterior building improvements. Non- recurring, revenue generating capital
improvements include, among other items: community centers, new windows, and
kitchen/ bath apartment upgrades. Revenue generating capital improvements will
directly result in rental earnings or expense savings. The Company capitalizes
interest and certain internal personnel costs related to the communities under
rehabilitation and construction.
The Company estimates that on an annual basis $525 per unit is spent on
recurring capital expenditures. During the three and nine-month periods ended
September 30, 2003 approximately $131 and $393 per unit was estimated to be
spent on recurring capital expenditures. The table below summarizes the actual
total capital improvements incurred by major categories for the three and
nine-month periods ended September 30, 2003 and 2002 and an estimate of the
breakdown of total capital improvements by major categories between recurring
and non-recurring, revenue generating capital improvements for the three and
nine-month periods ended September 30, 2003 as follows:
For the three-month period ended September 30,
(in thousands, except per unit data)
2003 2002
----------------------------------------------------------------------------- ------------------------
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 $ - $ - $ 530 $13 $ 530 $13 $ 605 $15
Major building improvements 943 23 4,925 119 5,868 142 4,859 124
Roof replacements 360 9 1,582 38 1,942 47 1,353 34
Site improvements 345 8 2,700 65 3,045 73 2,860 73
Apartment upgrades 680 16 9,178 221 9,858 237 9,930 253
Appliances 565 14 793 19 1,358 33 1,349 34
Carpeting/Flooring 1,774 43 2,000 48 3,774 91 3,181 81
HVAC/Mechanicals 523 12 3,984 96 4,507 108 3,836 98
Miscellaneous 233 6 535 14 768 20 850 22
------- ---- ------- ------ ------- ------ ------- ------
Totals $5,423 $131 $26,227 $633 $31,650 $764 $28,823 $734
======= ==== ======= ====== ======= ====== ======= ======
(a) Calculated using the weighted average number of units outstanding,
including 36,566 core units, 2002 acquisition units of 4,492 and 2003
acquisition units of 385 for the three-month period ended September 30,
2003 and 36,566 core units and 2002 acquisition units of 2,683 for the
three-month period ended September 30, 2002.
For the nine-month period ended September 30,
(in thousands, except per unit data)
2003 2002
----------------------------------------------------------------------------- ------------------------
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 $ - $ - $1,413 $ 34 $1,413 $ 34 $3,614 $ 95
Major building improvements 2,821 68 12,945 313 15,766 381 14,935 392
Roof replacements 1,078 26 2,203 53 3,281 79 3,444 90
Site improvements 1,033 25 4,838 117 5,871 142 8,351 219
Apartment upgrades 2,036 49 23,904 578 25,940 627 24,796 651
Appliances 1,691 41 1,943 47 3,634 88 3,295 87
Carpeting/Flooring 5,308 128 3,768 91 9,076 219 8,020 211
HVAC/Mechanicals 1,564 38 8,490 205 10,054 243 8,585 226
Miscellaneous 694 18 2,085 52 2,779 70 3,020 80
------- ---- ------- ------ ------- ------ ------- ------
Totals $16,225 $393 $61,589 $1,490 $77,814 $1,883 $78,060 $2,051
======= ==== ======= ====== ======= ====== ======= ======
(a) Calculated using the weighted average number of units outstanding,
including 36,566 core units, 2002 acquisition units of 4,492 and 2003
acquisition units of 272 for the nine-month period ended September 30, 2003
and 36,566 core units and 2002 acquisition units of 1,498 for the
nine-month period ended September 30, 2002.
The schedule below summarizes the breakdown of total capital improvements
between core and non-core as follows:
For the three-month period ended September 30,
(in thousands, except per unit data)
2003 2002
----------------------------------------------------------------------------- ------------------------
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)
------ ------- ------ ------- ------------ ------- ------------ -------
Core Communities $4,785 $131 $19,916 $545 $24,701 $676 $26,556 $ 723
2003 Acquisition Communities 50 131 82 214 132 345 - -
2002 Acquisition Communities 588 131 6,229 1,387 6,817 1,518 2,267 1,546
------- ---- ------- ------ ------- ------ ------- ------
Sub-total 5,423 131 26,227 633 31,650 764 28,823 754
2003 Disposed Communities 27 131 119 569 146 700 746 799
2002 Disposed Communities - - - - - - 103 1,115
Corporate office expenditures (1) - - - - 869 - 1,019 -
------- ---- ------- ------ ------- ------ ------- ------
$5,450 $131 $26,346 $633 $32,665 $ 764 $30,691 $756
======= ==== ======= ====== ======= ====== ======= ======
For the nine-month period ended September 30,
(in thousands, except per unit data)
2003 2002
----------------------------------------------------------------------------- ------------------------
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)
------ ------- ------ ------- ------------ ------- ------------ -------
Core Communities $14,355 $393 $46,635 $1,275 $60,990 $1,668 $74,645 $2,041
2003 Acquisition Communities 107 393 78 287 185 680 - -
2002 Acquisition Communities 1,763 393 14,876 3,312 16,639 3,705 3,415 2,280
------- ---- ------- ------ ------- ------ ------- ------
Sub-total 16,225 393 61,589 1,490 77,814 1,883 78,060 2,051
2003 Disposed Communities 139 393 263 742 402 1,135 1,661 1,778
2002 Disposed Communities - - - - - - 1,104 1,274
Corporate office expenditures (1) - - - - 1,808 - 3,449 -
------- ---- ------- ------ ------- ------ ------- ------
$16,364 $393 $61,852 $1,484 $80,024 $1,876 $84,274 $2,027
======= ==== ======= ====== ======= ====== ======= ======
(1) No distinction is made between recurring and non-recurring expenditures for
corporate office.
Results of Operations
Summary of Core Properties
The Company had 127 apartment communities with 36,566 units which were owned
during the nine-month period being presented (the "Core Properties"). The
Company has acquired an additional 22 apartment communities with 5,010 units
during 2002 and 2003 (the "Acquired Communities"). In addition, the Company also
disposed of 17 properties with a total of 2,658 units during 2002 and 2003 (the
"Disposition Communities"). These dispositions have been classified as
discontinued operations. The inclusion of the Acquired Communities generally
accounted for the significant changes in operating results for the nine-months
ended September 30, 2003.
A summary of the Core Properties net operating income is as follows (in
thousands):
Nine Months Three Month
----------- -----------
2003 2002 %Chg 2003 2002 %Chg
---- ---- ---- ---- ---- ----
Rental income $267,173 $259,285 3.0% $91,018 $88,253 3.1%
Property other income 10,828 10,439 3.7% 3,639 3,975 (8.5%)
-------- -------- ---- ------ ------- ----
Total income 278,001 269,724 3.1% 94,657 92,228 2.6%
Operating and
Maintenance (124,169) (114,279) (8.7%) (40,972) (37,315) (9.8%)
-------- -------- ---- ------- ------- ----
Net operating income $153,832 $155,445 (1.0%) $53,685 $54,913 (2.2%)
======== ======== ====== ======= ======= ====
Comparison of nine-months ended September 30, 2003 to the same period in 2002
Of the $38,134 increase in rental income, $30,246 is attributable to the
Acquired Communities. The balance of this increase, which is from the Core
Properties, was the result of an increase of 3.0% in weighted average rental
rates, offset by a decrease in occupancy from 92.1% to 92.2%. 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 operation of
laundry facilities, late charges, administrative fees, garage and carport
charges, net profits from corporate apartments, cable revenue, pet charges, and
miscellaneous charges to residents increased by $1,018. Of this increase, $629
is attributable to the Acquired Communities and $389 represents a 3.7% increase
from the Core Properties.
Interest and dividend income decreased $677 due to decreased levels of financing
to affiliates and a lower interest rate environment.
Of the $22,364 increase in operating and maintenance expenses, $12,474 is
attributable to the Acquired Communities. The balance, a $9,890 increase, is
attributable to the Core Properties and is primarily due to increases in utility
costs, repairs and maintenance, personnel costs, property insurance, and
property management costs. The increase in personnel and snow removal costs of
$2,768 are significantly related to weather conditions. The regions in which the
Company operates, received higher than normal snowfall, and many regions that
get very little snow were hit with unusual snow storms. A significant amount of
overtime was incurred clearing and shoveling. The increase in repairs and
maintenance is primarily due to higher turnover of apartment units in the summer
months as property management has actively managed lease expirations so that
more leases are terminating in periods of higher traffic. Property insurance
increased compared to the same period one year ago due to the benefit the
Company continued to receive in the prior year from a legal settlement.
General and administrative expense increased in 2003 by $5,613, or 64.1%.
General and administrative expenses as a percentage of total revenues were 4.4%
for 2003 as compared to 3.1% for 2002. The increase primarily is attributed to
the consolidation of the Management Companies in 2003 which added an additional
$3,421 to this line item. Previously such expenses were allocated and charged to
the Management Companies and were included in the equity in earnings (losses) of
unconsolidated affiliates. Of the remaining $2,192 variance, $675 is related to
the expensing of stock options for the first time in both of the first three
quarters of 2003 and a $1,019 increase in incentive compensation costs compared
to the same period a year ago. The balance of this increase is attributable to
incremental increases in general and administrative costs related to the 2002
Acquisition Communities.
Subsequent to the end of the third quarter, the Company announced that effective
January 1, 2004, Norman and Nelson Leenhouts were retiring as Co-CEO's and
Edward Pettinella will become President and CEO. In recognition of the value
created under their leadership, Norman and Nelson received restricted stock
grants with a combined value of approximately $5 million. A one time,
non-recurring charge equal to this $5 million will be recorded in the fourth
quarter of 2003 and included in general and administrative expense.
In addition, the Company announced that on January 1, 2004, the commercial
property management division of Home Properties will be sold to Home Leasing
LLC, which is owned by Norman and Nelson Leenhouts, in order to avoid conflicts
of interest and focus Home Properties solely on the direct ownership and
management of market rate apartment communities. The commercial property
management division consists of the business of managing under contract six
commercial properties, three single-family land developments and one affordable
multifamily apartment community. The majority of these properties were all
managed by Home Leasing Corporation, also owned by Norman and Nelson Leenhouts,
prior to the Companies IPO. The right to manage these properties would revert to
Home Leasing Corporation for no consideration upon termination of the
Leenhoutses' employment on December 31, 2006. The consideration to be paid is
$68 plus a percentage of the management fee received by Home Leasing in
connection with the management of one of the commercial properties for so long
as the management of that property is retained. If Home Leasing continues to
manage that property for three years, the consideration would increase $166.
This division currently contributes approximately $130 annually to operations.
The revenue from this division is reflected in other income and the majority of
the expenses are included in general and administrative.
Interest expense increased $7,914 due to the increase in the amount of debt
outstanding associated with the Acquired Communities offset in part by lower
interest rates.
Due to the prepayment of debt associated with the sale of Candlewood Apartments
in Indiana during the first quarter, and Bayberry Place Apartments in Michigan
during the third quarter, a $1,610 charge was recorded for the nine-months ended
September 30, 2003.
Depreciation and amortization expense increased $10,724 due to the depreciation
on the Acquisition Communities, the additions to the Core Properties, net of the
Disposition Communities.
In the fourth quarter of 2002, the Company announced its intention to sell
virtually all of the assets associated with its general partner interests in the
affordable properties to focus solely on the direct ownership and management of
market rate apartment communities. At that time, the Company announced its
intention to sell the assets, which include principally loans, advances and
management contracts.
During the first nine-months of 2003, the Company recorded impairment charges of
$2,408. Of this total, $712 represents advances made to certain of the
affordable property limited partnerships during the first nine months of 2003
which the Company believes will not be repaid upon the sale of the loans. The
remaining $1,696 pertains to an additional net impairment charge taken on Phase
III to reduce the assets to fair market value.
The equity in earnings (losses) of unconsolidated affiliates of $1,497 is
primarily the result of the general partner recording a greater share of the
underlying investment's losses due to the loans and advances to certain of the
affordable property limited partnerships where the limited partner has no
capital account. This is pursuant to the accounting requirements of EITF 99-10,
"Percentage Used to Determine the Amount of Equity Method Losses." Included and
classified in the account are $691 of advances made during the first nine months
of 2003 which the Company believes will not be repaid upon sale of the loans.
Minority interest decreased $2,030 due to the impairment of assets held by the
General Partner recorded in the first nine months of 2003 together with an
overall reduction in income from operations as a result of increased interest
and depreciation costs as compared to the previous period. Both of these items
were offset by the impact of the premium paid on the repurchase of the Series B
Convertible Cumulative Preferred Stock which had been treated as a charge to net
income available to common shareholders in the previous year.
Included in discontinued operations for the nine-month period ended September
30, 2002 are seventeen apartment community dispositions (five and twelve sold in
2003 and 2002, respectively) and five properties sold in 2003 for the nine-month
period ended September 30, 2003 and one property held for sale for both the
nine-month periods ended September 30, 2003 and 2002. The operations of these
seventeen properties have been reflected on a comparative basis for the period
ended September 30, 2002.
The Company reported a $245 loss, net of minority interest, on disposition of
property in the first quarter of 2002 relating to additional expenses incurred
in the same quarter for a sale which closed in the fourth quarter of 2001. These
costs represented a change in estimate from those accrued at the time of sale.
Comparison of the three-months ended September 30, 2003 to the same period in
2002
Of the $10,134 increase in rental income, $7,369 is attributable to the Acquired
Communities. The balance of this increase, which is from the Core Properties,
was the result of an increase of 3.1% in weighted average rental rates.
Occupancy reflected a slight increase and was 93.3%, up from 93.2% for the same
period a year ago. Occupancy is defined as total possible rental income, net of
vacancy and bad debt expense as a percentage of total possible rental income.
Total possible rental income is determined by valuing occupied units at contract
rates and vacant units at market rents.
Property other income, which consists primarily of income from operation of
laundry facilities, late charges, administrative fees, garage and carport
charges, net profits from corporate apartments, cable revenue, pet charges, and
miscellaneous charges to residents decreased by $142. Of this decrease, $194 is
attributable to an increase from the Acquired Communities and $336 represents an
8.5% decrease from the Core Properties.
Interest and dividend income decreased $181 due to decreased levels of financing
to affiliates and a lower interest rate environment.
Of the $6,549 increase in operating and maintenance expenses, $2,892 is
attributable to the Acquired Communities. The balance, a $3,657 increase, is
attributable to the Core Properties and is primarily due to increases in repairs
and maintenance, advertising, property insurance and allocated property
management costs. A significant amount of the increase in both repairs and
maintenance and advertising expense relates to increased turnover during June,
July, and August. This is a result of actively managing lease expirations to
better match lease termination dates with higher traffic periods. Property
insurance expenses in 2002 continued to benefit from the legal settlement
received a couple of years ago.
General and administrative expense increased in 2003 by $1,833, or 64.6%.
General and administrative expenses as a percentage of total revenues were 4.2%
for 2003 as compared to 2.8% for 2002. The increase primarily is attributed to
the consolidation of the Management Companies in 2003 which added an additional
$1,151 to this line item. Previously such expenses were allocated and charged to
the Management Companies and were included in the equity in earnings (losses) of
unconsolidated affiliates. The primary contributors to the remaining $682
variance are $266 related to the expensing of stock options for the first time
in the third quarter of 2003 and a $258 increase in incentive compensation costs
compared to the same period a year ago.
Interest expense increased $1,743 due to the increase in the amount of debt
outstanding associated with the Acquired Communities offset in part by lower
interest rates.
Due to the prepayment of debt associated with the sale of Bayberry Place
Apartments in Michigan during the third quarter, a $261 charge was recorded
during the three-months ended September 30, 2003.
Depreciation and amortization expense increased $2,984 due to the depreciation
on the Acquisition Communities and the additions to the Core Properties.
In the fourth quarter of 2002, the Company announced its intention to sell
virtually all of the assets associated with its general partner interests in the
affordable properties to focus solely on the direct ownership and management of
market rate apartment communities. At that time, the Company announced its
intention to sell the assets, which include principally loans, advances and
management contracts.
During the third quarter of 2003, the Company recorded impairment charges of
$1,888. Of this total, $192 represents advances made to certain of the
affordable property limited partnerships during the third quarter which the
Company believes will not be repaid upon the sale of the loans. The remaining
$1,696 pertains to an additional net impairment charge taken on Phase III to
reduce the assets to fair market value.
The equity in earnings (losses) of unconsolidated affiliates of $313 is
primarily the result of the general partner recording a greater share of the
underlying investment's losses due to the loans and advances to certain of the
affordable property limited partnerships where the limited partner has no
capital account. This is pursuant to the accounting requirements of EITF 99-10,
"Percentage Used to Determine the Amount of Equity Method Losses." Included and
classified in the account are $345 of advances made during the third quarter of
2003 which the Company believes will not be repaid upon sale of the loans.
Minority interest decreased $1,615 due to the impairment of assets held by the
General Partner recorded in the third quarter of 2003 together with an overall
reduction in income from operations as a result of increased interest and
depreciation costs as compared to the previous period.
Included in discontinued operations for the three-month period ended September
30, 2002 are seventeen apartment community dispositions (five and twelve sold in
2003 and 2002, respectively) and five properties sold in 2003 for the
three-month period ended September 30, 2003 and one property held for sale for
both the three-month periods ended September 30, 2003 and 2002. The operations
of these seventeen properties have been reflected on a comparative basis for the
period ended September 30, 2002.
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
and extraordinary items plus depreciation from real property including
adjustments for unconsolidated partnerships and joint ventures less dividends
from non-convertible preferred shares. The Company considers debt extinguishment
costs which are incurred as a result of repaying property specific debt and
non-cash real estate impairment charges, as a component of the gain or loss on
sale of the property. 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 generally accepted accounting principles
and is not necessarily indicative of cash available to fund cash needs. Cash
provided by operating activities was $108,533 and $105,995 for the nine-month
period ended and $32,230 and $32,847 for the three-month period ended September
30, 2003 and 2002, respectively. Cash used in investing activities was $102,139
and $222,320 for the nine-month period ended and $45,432 and $47,975 for the
three-month period ended September 30, 2003 and 2002, respectively. Cash (used
in) and provided by financing activities was ($7,925) and $113,420 for the
nine-month period ended and $13,743 and $10,203 for the three-month period ended
September 30, 2003 and 2002, respectively. FFO should not be considered as an
alternative to net income as an indication of the Company's performance or to
cash flow as a measure of liquidity.
The calculation of FFO and reconciliation to GAAP net income available to common
shareholders for the nine and three-months ended September 30, 2003 and 2002 are
presented below (in thousands):
Nine Months Three Months
----------- ------------
2003 2002 2003 2002
---- ---- ---- ----
Net income available to common shareholders $21,772 $29,408 $ 8,958 $13,063
Convertible preferred dividends 5,306 8,222 1,296 2,443
Minority interest 11,935 13,965 4,776 6,391
Minority interest - income (loss) from discontinued operations 105 868 95 (271)
Depreciation from real property 56,889 48,626 19,512 17,020
Depreciation from real property from unconsolidated entities 1,837 505 725 68
Impairment of real property included in income from operations of
disposed properties, before minority interest 423 1,565 - 1,565
Impairment on General Partner real estate investment 1,785 - 1,785 -
Loss on disposition of property 79 245 69 -
Prepayment penalty from early extinguishment of debt in
connection with sale of real estate 1,610 - 261 -
(Gain) loss on disposition of discontinued operations, net of
minority interest ( 355) (5,601) ( 35) (2,912)
-------- -------- -------- --------
FFO as defined above 101,386 97,803 37,442 37,367
Premium on Series B preferred stock repurchase - 5,025 - -
-------- -------- -------- --------
FFO as adjusted by the Company $101,386 $102,828 $37,442 $37,367
======== ======== ======== ========
Weighted average common shares/units outstanding:
- Basic 44,577.3 41,739.9 45,611.9 42,364.2
======== ======== ======== ========
- Diluted 47,624.0 46,370.1 48,078.9 46,367.7
======== ======== ======== ========
On May 24, 2002 the Company repurchased the 1.0 million shares outstanding of
the Series B preferred stock at an amount equivalent to 839,772 common shares
(as if the preferred shares had been converted). The stock had a liquidation
preference of $25.00 per share, a conversion price of $29.77 per share, and a
five-year, non-call provision. The Company repurchased the shares for $29,392
equal to the $35.00 common stock trading price when the transaction was
consummated. A premium of $5,025 was incurred on the repurchase.
In the adjusted presentation above, the Company excluded the premium on the
Series B preferred stock. The Company believes that this calculation is more
reflective of continuing operations as the premium was considered a one time
charge. 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
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 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 calculation of the fixed charge coverage ratio for the four most
recent quarters since the issuance of the Series F Preferred Stock are presented
below (in thousands). Net operating income from discontinued operations in the
calculation below is defined as total revenues from discontinued operations less
operating and maintenance expenses.
Calculation Presented for Series F Covenants
Three-months ended
Sept. 30 June 30 Mar. 31 Dec. 31
2003 2003 2003 2002
---- ---- ---- ----
EBITDA
Total revenues $111,200 $109,713 $106,955 $105,715
Net operating income from discontinued operations 460 - 196 299
Operating and maintenance ( 46,472) ( 46,040) ( 49,772) ( 44,199)
General and administrative ( 4,670) ( 4,582) ( 5,119) ( 3,891)
Impairment of assets held as General Partner ( 1,888) ( 93) ( 427) ( 3,183)
Equity in earnings (losses) of unconsolidated
affiliates ( 313) ( 444) ( 740) ( 16,085)
-------- -------- -------- --------
$ 58,317 $ 58,554 $ 51,093 $ 38,656
Fixed Charges
Interest expense $ 21,456 $ 21,634 $ 21,300 $ 20,350
Interest expense on discontinued operations 116 - 33 -
Preferred dividends 2,646 3,192 3,518 3,717
Capitalized interest 230 230 230 230
-------- -------- -------- --------
$ 24,448 $ 25,056 $ 25,081 $ 24,297
Times Coverage ratio: 2.39 2.34 2.04 1.59(1)
(1) Results for the quarter reflect impairment and other charges relating
to certain government assisted properties ("affordable properties") in
which the Company is a general partner as described in more detail in
the notes to the Company's annual report filed on form 10K. Excluding
the impairment and other charges of $18,074, the fixed charge coverage
ratio would have been 2.34.
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. In 2002 and continuing into 2003
many regions of the United States have experienced varying degrees of economic
recession and certain recessionary trends, such as the cost of obtaining
sufficient property and liability insurance coverage, short-term interest rates,
and a temporary reduction in occupancy. 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 in financial performance.
Declaration of Dividend
On October 28, 2003, the Board of Directors approved a dividend of $.61 per
share for the quarter ended September 30, 2003. This is the equivalent of an
annual distribution of $2.44 per share. The dividend is payable November 25,
2003 to shareholders of record on November 14, 2003.
On October 28, 2003 the Company also declared a regular dividend of $0.5625 per
share on its Series F Cumulative Redeemable Preferred Stock, for the quarter
ending November 30, 2003. The dividend on the preferred shares is payable on
December 1, 2003, to shareholders of record on November 14, 2003. This dividend
is equivalent to an annualized rate of $2.25 per share.
Contingency
In 2001, the Company underwent a state tax audit. The state has assessed taxes
of $469 for the 1998 and 1999 tax years under audit. If the state's position is
applied to all tax years through December 31, 2001, the assessment would be $1.3
million. At the time, the Company believed the assessment and the state's
underlying position was not supportable by the law nor consistent with
previously provided interpretative guidance from the office of the State
Secretary of Revenue. After two subsequent enactments by the state legislature
during 2002 affecting the pertinent tax statute, the Company has been advised by
its third party legal counsel that its filing position for 1998-2001 should
prevail. Based upon this information as of September 30, 2003, the Company has
recorded an accrual of $525, representing only its 2002 liability. Effective
January 1, 2003, the Company reorganized the ownership of Home Properties Trust,
subjecting the Company to a much lower level of tax going forward.
New Accounting Standard
In January 2003, the FASB issued Interpretation No. 46 - "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"). This
interpretation addresses consolidation by business enterprises of variable
interest entities in which the equity investment at risk is not sufficient to
permit the entity to finance its activities without additional subordinated
financial support from other parties or in which the equity investors do not
have the characteristics of a controlling financial interest. This
interpretation requires a variable interest entity to be consolidated by a
company if that company is subject to a majority of the risk of loss from the
variable interest entity's activities or entitled to receive a majority of the
entity's residual returns or both. The interpretation also requires disclosures
about variable interest entities that the company is not required to consolidate
but in which it has a significant variable interest. The consolidation
requirements of this interpretation apply immediately to variable interest
entities created after January 31, 2003 but a deferral has been granted until
the end of the first fiscal year or interim period ending after December 15,
2003 for VIE's existing before February 1, 2003. Therefore it is effective on
December 31, 2003 for the Company. Management is uncertain but is assuming it is
reasonably possible that each of the limited partnerships in which it holds the
general partnership interest as of December 31, 2003 would be considered a VIE.
The Company is determining where it is the primary beneficiary, and as a result
the Company may consolidate all or a certain number of the limited partnership's
assets and liabilities.
In April 2003, the FASB issued SFAS No. 149 "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities". This Statement amends and
clarifies financial accounting and reporting for derivative instruments,
including certain derivative instruments embedded in other contracts and for
hedging activities under SFAS No. 133, "Accounting for Derivative Instruments
and Hedging Activities." This Statement is effective for contracts entered into
or modified after June 30, 2003. The provisions of FAS 149 are not expected to
have a material impact on the Company's financial statements.
In May 2003, FASB issued SFAS 150, "Accounting for Certain Financial Instruments
with Characteristics of Both Liabilities and Equity." This Statement establishes
standards for how an issuer classifies and measures certain financial
instruments with characteristics of both liabilities and equity. It requires
that an issuer classify a financial instrument that is within its scope as a
liability (or an asset in some circumstances). This Statement is effective for
financial instruments entered into or modified after May 31, 2003, and otherwise
is effective at the beginning of the first interim period beginning after June
15, 2003. On October 29, 2003 the FASB indefinitely deferred the provisions of
paragraphs 9 and 10 of SFAS 150 as they apply to mandatorily redeemable
noncontrolling interests. This deferral applies to minority interest ownerships
in limited partnerships which are mandatorily redeemable upon termination of the
partnership and therefore is potentially applicable to the affordable portfolio.
HOME PROPERTIES, INC.
ITEM 3. QUANTITATIVE AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISK
The Company's primary market risk exposure is interest rate risk. At September
30, 2003 and December 31, 2002, approximately 93% and 96%, respectively, of the
Company's debt bore interest at fixed rates with a weighted average maturity of
approximately 8 years and a weighted average interest rate of approximately
6.45% and 6.50%, respectively. The remainder of the Company's debt bears
interest at variable rates with a weighted average maturity of approximately 9
and 2 years, respectively, and a weighted average interest rate of 2.22% and
2.83%, respectively, at September 30, 2003 and December 31, 2002. The Company
does not intend to utilize a significant amount of variable rate debt to acquire
properties in the future. On occasion, the Company may assume variable rate debt
in connection with a property acquisition. The Company believes, however, that
in no event would increases in interest expense as a result of inflation
significantly impact the Company's distributable cash flow.
At September 30, 2003 and December 31, 2002, the interest rate risk on $25.2
million 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 an aggregate of $25.2 million in variable rate mortgages to
fixed rates of 5.91%, 8.22% and 8.40%.
For both September 30, 2003 and December 31, 2002, the fair value of the
Company's fixed rate debt, including the $25.2 million which was swapped to a
fixed rate, amounted to a liability of $1.4 billion compared to its carrying
amount of $1.3 billion. The Company estimates that a 100 basis point decrease in
market interest rates at September 30, 2003 would have changed the fair value of
the Company's fixed rate debt to a liability of $1.5 billion.
The Company intends to continuously monitor and actively manage interest costs
on its 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 or the issuance of UPREIT
Units. Accordingly, the cost of obtaining such interest rate protection
agreements in relation the Company's access to capital markets will continue to
be evaluated. The Company has not, and does not plan to, enter into any
derivative financial instruments for trading or speculative purposes. As of
September 30, 2003, the Company had no other material exposure to market risk.
HOME PROPERTIES, INC.
ITEM 4. INTERNAL CONTROLS
The Company maintains disclosure controls and procedures that are designed to
ensure that information required to be disclosed in the Company's Exchange Act
reports 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 Company's Co-Chief
Executive Officers and Chief Financial Officer, as appropriate to allow timely
decisions regarding required disclosure. In designing and evaluating the
disclosure controls and procedures, management recognized that any controls and
procedures, no matter how well designed and operated, can provide only
reasonable assurance of achieving the desired control objectives, and management
necessarily was required to apply its judgment in evaluating the cost-benefit
relationship of possible controls and procedures. Also, the Company has
investments in certain unconsolidated entities. As the Company does not control
these entities, the disclosure controls with respect to such entities are
necessarily substantially more limited than those maintained with respect to the
Company's consolidated subsidiaries.
The Co-Chief Executive Officers and Chief Financial Officer have, as of the end
of the period covered by this quarterly report, evaluated the effectiveness of
the disclosure controls and procedures (as defined in Rules 13a-15(e) and
15d-15(e) under the Securities Exchange Act of 1934, as amended) and have
determined that such disclosure controls and procedures are adequate. In
connection with the evaluation, no change in the Company's internal control over
financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the
Securities Exchange Act of 1934, as amended) was identified that has materially
affected, or is reasonably likely to materially affect, the Company's internal
control over financial reporting.
PART II - OTHER INFORMATION
HOME PROPERTIES, INC.
Item 6. Exhibits and Reports or Form 8-K
(a) Exhibit 31.1 Section 302 Certifications of Chief Executive Officers
Exhibit 31.2 Section 302 Certification of Chief Financial Officer
Exhibit 32.1 Section 906 Certifications of Chief Executive Officers
Exhibit 32.2 Section 906 Certification of Chief Financial Officer
(b) Reports on Form 8-K:
- Form 8-K was filed on October 29, 2003, date of report October 29,
2003, with respect to Items 5 and 7 disclosures regarding the
Registrant's press release announcing the Board of Directors
appointment of Edward J. Pettinella, President and Chief Executive
Officer of the Registrant effective January 1, 2004. The Registrant
also reported that the Board of Directors granted each of Nelson and
Norman Leenhouts restricted stock awards having an approximate value
of $2.5 million in recognition of their contributions to the
Registrant. Finally, the Registrant reported that it has agreed in
principle that, on January 1, 2004, the commercial property management
division of the Registrant will be sold to Home Leasing LLC, which is
owned by Nelson and Norman Leenhouts.
- Form 8-K was filed on October 31, 2003, date of report October 31,
2003, with respect to Items 7 and 12 disclosures regarding the
Registrant's press release announcing its results for the third
quarter of 2003 and the third quarter 2003 investor conference call.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
HOME PROPERTIES, INC.
(Registrant)
Date: November 14, 2003
By: /s/ Norman P. Leenhouts
--------------------------------------------
Norman P. Leenhouts
Chairman and
Co-Chief Executive Officer
Date: November 14, 2003
By: /s/ David P. Gardner
--------------------------------------------
David P. Gardner
Senior Vice President and
Chief Financial Officer