Whitestone REIT - FORM 10-Q - April 29, 2016

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EX-31.2 - EXHIBIT 31.2 - Whitestone REITexhibit312certificationofc.htm
EX-32.1 - EXHIBIT 32.1 - Whitestone REITexhibit321certificationofc.htm
EX-31.1 - EXHIBIT 31.1 - Whitestone REITexhibit311certificationofc.htm
EX-12.1 - EXHIBIT 12.1 - Whitestone REITexhibit121computationofrat.htm
EX-32.2 - EXHIBIT 32.2 - Whitestone REITexhibit322certificationofc.htm
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 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 March 31, 2016

OR

[ ]
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from ____________ to ____________

Commission file number 001-34855
WHITESTONE REIT
(Exact Name of Registrant as Specified in Its Charter)
 
Maryland
 
76-0594970
(State or Other Jurisdiction of
Incorporation or Organization)
 
(I.R.S. Employer
Identification No.)

2600 South Gessner, Suite 500
Houston, Texas
 
77063
(Address of Principal Executive Offices)
 
(Zip Code)

(713) 827-9595
(Registrant's Telephone Number, Including Area Code)
 
N/A
(Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report)

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  ýYes     ¨No

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  ýYes    ¨No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
 
Large accelerated filer ¨                                                                                      Accelerated filer ý
Non-accelerated filer ¨                                                                                       Smaller reporting company ¨
(Do not check if a smaller reporting company)

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). ¨Yes   ý No

As of April 28, 2016, there were 27,405,055 common shares of beneficial interest, $0.001 par value per share, outstanding.


PART I - FINANCIAL INFORMATION


PART II - OTHER INFORMATION




PART I. FINANCIAL INFORMATION
Item 1. Financial Statements.
Whitestone REIT and Subsidiaries
CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)

 
 
March 31, 2016
 
December 31, 2015
 
 
(unaudited)
 
 
ASSETS
Real estate assets, at cost
 
 
 
 
Property
 
$
838,220

 
$
835,538

Accumulated depreciation
 
(93,942
)
 
(89,580
)
Total real estate assets
 
744,278

 
745,958

Cash and cash equivalents
 
2,447

 
2,587

Restricted cash
 
210

 
121

Marketable securities
 
430

 
435

Escrows and acquisition deposits
 
7,675

 
6,668

Accrued rents and accounts receivable, net of allowance for doubtful accounts
 
16,471

 
15,466

Unamortized lease commissions and loan costs
 
8,005

 
8,178

Prepaid expenses and other assets
 
3,445

 
2,672

Total assets
 
$
782,961

 
$
782,085

 
 
 
 
 
LIABILITIES AND EQUITY
Liabilities:
 
 
 
 
Notes payable
 
$
505,337

 
$
497,955

Accounts payable and accrued expenses
 
25,019

 
24,051

Tenants' security deposits
 
5,434

 
5,254

Dividends and distributions payable
 
7,962

 
7,834

Total liabilities
 
543,752

 
535,094

Commitments and contingencies:
 
—

 
—

Equity:
 
 
 
 
Preferred shares, $0.001 par value per share; 50,000,000 shares authorized; none issued and outstanding as of March 31, 2016 and December 31, 2015, respectively
 
—

 
—

Common shares, $0.001 par value per share; 400,000,000 shares authorized; 27,426,480 and 26,991,493 issued and outstanding as of March 31, 2016 and December 31, 2015, respectively
 
27

 
27

Additional paid-in capital
 
361,250

 
359,971

Accumulated deficit
 
(119,765
)
 
(116,895
)
Accumulated other comprehensive loss
 
(6,067
)
 
(129
)
Total Whitestone REIT shareholders' equity
 
235,445

 
242,974

Noncontrolling interest in subsidiary
 
3,764

 
4,017

Total equity
 
239,209

 
246,991

Total liabilities and equity
 
$
782,961

 
$
782,085



See accompanying notes to Consolidated Financial Statements

1

Whitestone REIT and Subsidiaries
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)
(Unaudited)
(in thousands, except per share data)

 
 
Three Months Ended March 31,
 
 
2016
 
2015
Property revenues
 
 
 
 
Rental revenues
 
$
19,422

 
$
16,465

Other revenues
 
6,013

 
4,787

Total property revenues
 
25,435

 
21,252

 
 
 
 
 
Property expenses
 
 
 
 
Property operation and maintenance
 
4,794

 
4,083

Real estate taxes
 
3,354

 
2,904

Total property expenses
 
8,148

 
6,987

 
 
 
 
 
Other expenses (income)
 
 
 
 
General and administrative
 
4,836

 
4,485

Depreciation and amortization
 
5,392

 
4,564

Interest expense
 
4,804

 
3,408

Interest, dividend and other investment income
 
(97
)
 
(9
)
Total other expense
 
14,935

 
12,448

 
 
 
 
 
Income from continuing operations before gain (loss) on sale or disposal of properties or assets and income taxes
 
2,352

 
1,817

 
 
 
 
 
Provision for income taxes
 
(156
)
 
(83
)
Gain on sale of properties
 
2,890

 
—

Gain (loss) on sale or disposal of assets
 
2

 
(105
)
Income from continuing operations
 
5,088

 
1,629

 
 
 
 
 
Loss from discontinued operations
 
—

 
(8
)
Loss from discontinued operations
 
—

 
(8
)
 
 
 
 
 
Net income
 
5,088

 
1,621

 
 
 
 
 
Less: Net income attributable to noncontrolling interests
 
91

 
27

 
 
 
 
 
Net income attributable to Whitestone REIT
 
$
4,997

 
$
1,594










See accompanying notes to Consolidated Financial Statements

2

Whitestone REIT and Subsidiaries
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)
(Unaudited)
(in thousands, except per share data)

 
 
Three Months Ended March 31,
 
 
2016
 
2015
Basic Earnings Per Share:
 
 
 
 
Income from continuing operations attributable to Whitestone REIT excluding amounts attributable to unvested restricted shares
 
$
0.18

 
$
0.07

Income from discontinued operations attributable to Whitestone REIT
 
0.00

 
0.00

Net income attributable to common shareholders excluding amounts attributable to unvested restricted shares
 
$
0.18

 
$
0.07

Diluted Earnings Per Share:
 
 
 
 
Income from continuing operations attributable to Whitestone REIT excluding amounts attributable to unvested restricted shares
 
$
0.18

 
$
0.06

Income from discontinued operations attributable to Whitestone REIT
 
0.00

 
0.00

Net income attributable to common shareholders excluding amounts attributable to unvested restricted shares
 
$
0.18

 
$
0.06

 
 
 
 
 
Weighted average number of common shares outstanding:
 
 
 
 
Basic
 
26,604

 
22,577

Diluted
 
27,489

 
23,226

 
 
 
 
 
Distributions declared per common share / OP unit
 
$
0.2850

 
$
0.2850

 
 
 
 
 
Consolidated Statements of Comprehensive Income (Loss)
 
 
 
 
 
 
 
 
 
Net income
 
$
5,088

 
$
1,621

 
 
 
 
 
Other comprehensive gain (loss)
 
 
 
 
 
 
 
 
 
Unrealized loss on cash flow hedging activities
 
(6,041
)
 
(319
)
Unrealized gain (loss) on available-for-sale marketable securities
 
(5
)
 
41

 
 
 
 
 
Comprehensive income (loss)
 
(958
)
 
1,343

 
 
 
 
 
Less: Comprehensive income (loss) attributable to noncontrolling interests
 
(17
)
 
23

 
 
 
 
 
Comprehensive income (loss) attributable to Whitestone REIT
 
$
(941
)
 
$
1,320




See accompanying notes to Consolidated Financial Statements

3

Whitestone REIT and Subsidiaries
CONSOLIDATED STATEMENT OF CHANGES IN EQUITY
(Unaudited)
(in thousands)

 
 
 
 
 
 
 
 
 
 
Accumulated
 
 
 
 
 
 
 
 
 
 
 
 
Additional
 
 
 
Other
 
Total
 
Noncontrolling
 
 
 
 
Common Shares
 
Paid-In
 
Accumulated
 
Comprehensive
 
Shareholders'
 
interests
 
Total
 
 
Shares
 
Amount
 
Capital
 
Deficit
 
Loss
 
Equity
 
Units
 
Dollars
 
Equity
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Balance, December 31, 2015
 
26,991

 
$
27

 
$
359,971

 
$
(116,895
)
 
$
(129
)
 
$
242,974

 
497

 
$
4,017

 
$
246,991

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Exchange of noncontrolling interest OP units for common shares
 
12

 
—

 
98

 
—

 
—

 
98

 
(12
)
 
(98
)
 
—

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Issuance of shares under dividend reinvestment plan
 
2

 
—

 
27

 
—

 
—

 
27

 
—

 
—

 
27

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Repurchase of common shares (1)
 
(46
)
 
—

 
(871
)
 
—

 
—

 
(871
)
 
—

 
—

 
(871
)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Share-based compensation
 
467

 
—

 
2,025

 
—

 
—

 
2,025

 
—

 
—

 
2,025

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Distributions
 
—

 
—

 
—

 
(7,867
)
 
—

 
(7,867
)
 
—

 
(138
)
 
(8,005
)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Unrealized loss on change in value of cash flow hedge
 
—

 
—

 
—

 
—

 
(5,933
)
 
(5,933
)
 
—

 
(108
)
 
(6,041
)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Unrealized loss on change in fair value of available-for-sale marketable securities
 
—

 
—

 
—

 
—

 
(5
)
 
(5
)
 
—

 
—

 
(5
)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net income
 
—

 
—

 
—

 
4,997

 
—

 
4,997

 
—

 
91

 
5,088

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Balance, March 31, 2016
 
27,426

 
$
27

 
$
361,250

 
$
(119,765
)
 
$
(6,067
)
 
$
235,445

 
485

 
$
3,764

 
$
239,209


(1) 
During the three months ended March 31, 2016, the Company acquired common shares held by employees who tendered owned common shares to satisfy the tax withholding on the lapse of certain restrictions on restricted common shares.



See accompanying notes to Consolidated Financial Statements


4

Whitestone REIT and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(in thousands)
 
 
Three Months Ended March 31,
 
 
2016
 
2015
 
 
 
 
 
Cash flows from operating activities:
 
 
 
 
Net income from continuing operations
 
$
5,088

 
$
1,629

Net income (loss) from discontinued operations
 
—

 
(8
)
Net income
 
5,088

 
1,621

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
 
Depreciation and amortization
 
5,392

 
4,564

Amortization of deferred loan costs
 
315

 
300

Amortization of notes payable discount
 
72

 
74

Loss (gain) on sale or disposal of assets and properties
 
(2,892
)
 
105

Bad debt expense
 
372

 
184

Share-based compensation
 
2,025

 
1,699

Changes in operating assets and liabilities:
 
 
 
 
Escrows and acquisition deposits
 
1,853

 
706

Accrued rent and accounts receivable
 
(1,377
)
 
(538
)
Unamortized lease commissions
 
(382
)
 
(273
)
Prepaid expenses and other assets
 
191

 
145

Accounts payable and accrued expenses
 
(5,161
)
 
(1,122
)
Tenants' security deposits
 
180

 
46

Net cash provided by operating activities
 
5,676

 
7,519

Net cash used in operating activities of discontinued operations
 
—

 
(8
)
Cash flows from investing activities:
 
 
 
 
Acquisitions of real estate
 
—

 
(6,300
)
Additions to real estate
 
(4,364
)
 
(2,876
)
Proceeds from sale of property
 
1,097

 
—

Net cash used in investing activities
 
(3,267
)
 
(9,176
)
Net cash used in investing activities of discontinued operations
 
—

 
—

Cash flows from financing activities:
 
 
 
 
Distributions paid to common shareholders
 
(7,711
)
 
(6,526
)
Distributions paid to OP unit holders
 
(139
)
 
(113
)
Proceeds from revolving credit facility, net
 
7,000

 
9,000

Repayments of notes payable
 
(739
)
 
(612
)
Change in restricted cash
 
(89
)
 
—

Repurchase of common shares
 
(871
)
 
—

Net cash provided by (used in) financing activities
 
(2,549
)
 
1,749

Net cash used in financing activities of discontinued operations
 
—

 
—

Net increase (decrease) in cash and cash equivalents
 
(140
)
 
84

Cash and cash equivalents at beginning of period
 
2,587

 
4,236

Cash and cash equivalents at end of period
 
$
2,447

 
$
4,320


See accompanying notes to Consolidated Financial Statements

5

Whitestone REIT and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(in thousands)

 
 
Three Months Ended March 31,
 
 
2016
 
2015
Supplemental disclosure of cash flow information:
 
 
 
 
Cash paid for interest
 
$
4,602

 
$
3,132

Non cash investing and financing activities:
 
 
 
 
Disposal of fully depreciated real estate
 
$
187

 
$
41

Financed insurance premiums
 
$
1,060

 
$
1,057

Value of shares issued under dividend reinvestment plan
 
$
27

 
$
23

Value of common shares exchanged for OP units
 
$
98

 
$
64

Change in fair value of available-for-sale securities
 
$
(5
)
 
$
41

Change in fair value of cash flow hedge
 
$
(6,041
)
 
$
(319
)
Proceeds from 1031 exchange transaction
 
$
2,860

 
$
—



























See accompanying notes to Consolidated Financial Statements


6
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2016
(Unaudited)

The use of the words “we,” “us,” “our,” “Company” or “Whitestone” refers to Whitestone REIT and our consolidated subsidiaries, except where the context otherwise requires.

1.  INTERIM FINANCIAL STATEMENTS
 
The consolidated financial statements included in this report are unaudited; however, amounts presented in the consolidated balance sheet as of December 31, 2015 are derived from our audited consolidated financial statements as of that date.  The unaudited financial statements as of and for the period ended March 31, 2016 have been prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”) for interim financial information on a basis consistent with the annual audited consolidated financial statements and with the instructions to Form 10-Q.
 
The consolidated financial statements presented herein reflect all adjustments which, in the opinion of management, are necessary for a fair presentation of the financial position of Whitestone and our subsidiaries as of March 31, 2016, and the results of operations for the three month periods ended March 31, 2016 and 2015, the consolidated statements of changes in equity for the three month period ended March 31, 2016 and cash flows for the three month periods ended March 31, 2016 and 2015.  All of these adjustments are of a normal recurring nature.  The results of operations for the interim periods are not necessarily indicative of the results expected for a full year.  The statements should be read in conjunction with the audited consolidated financial statements and the notes thereto which are included in our Annual Report on Form 10-K for the year ended December 31, 2015.
 
Business.  Whitestone was formed as a real estate investment trust (“REIT”) pursuant to the Texas Real Estate Investment Trust Act on August 20, 1998.  In July 2004, we changed our state of organization from Texas to Maryland pursuant to a merger where we merged directly with and into a Maryland REIT formed for the sole purpose of the reorganization and the conversion of each of our outstanding common shares of beneficial interest of the Texas entity into 1.42857 common shares of beneficial interest of the Maryland entity.  We serve as the general partner of Whitestone REIT Operating Partnership, L.P. (the “Operating Partnership”), which was formed on December 31, 1998 as a Delaware limited partnership.  We currently conduct substantially all of our operations and activities through the Operating Partnership.  As the general partner of the Operating Partnership, we have the exclusive power to manage and conduct the business of the Operating Partnership, subject to certain customary exceptions.  As of March 31, 2016 and December 31, 2015, Whitestone owned and operated 69 and 70 commercial properties, respectively, in and around Austin, Chicago, Dallas-Fort Worth, Houston, Phoenix and San Antonio.


2.  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
 
Basis of Consolidation.  We are the sole general partner of the Operating Partnership and possess full legal control and authority over the operations of the Operating Partnership.  As of March 31, 2016 and December 31, 2015, we owned a majority of the partnership interests in the Operating Partnership.  Consequently, the accompanying consolidated financial statements include the accounts of the Operating Partnership.  All significant inter-company balances have been eliminated. Noncontrolling interests in the accompanying consolidated financial statements represents the share of equity and earnings of the Operating Partnership allocable to holders of partnership interests other than us.  Net income or loss is allocated to noncontrolling interests based on the weighted average percentage ownership of the Operating Partnership during the period.  Issuance of additional common shares of beneficial interest in Whitestone (the “common shares”) and units of limited partnership interest in the Operating Partnership that are convertible into cash or, at our option, common shares on a one-for-one basis (the “OP units”) changes the ownership interests of both the noncontrolling interests and Whitestone.
  
Basis of Accounting.  Our financial records are maintained on the accrual basis of accounting whereby revenues are recognized when earned and expenses are recorded when incurred.
 
Use of Estimates.   The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent liabilities as of the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Significant estimates that we use include the estimated fair values of properties acquired, the estimated useful lives for depreciable and amortizable assets and costs, the estimated allowance for doubtful accounts, the estimated fair value of interest rate swaps and the estimates supporting our impairment analysis for the carrying values of our real estate assets.  Actual results could differ from those estimates.
 

7
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2016
(Unaudited)

Reclassifications.  We have reclassified certain prior period amounts in the accompanying consolidated financial statements in order to be consistent with the current period presentation.  During the three months ended March 31, 2016, we reclassified certain deferred financing costs, previously classified as an asset as a direct reduction from the carrying amount of certain debt liabilities for all periods presented. Deferred financing costs related to our unsecured line of credit have not been reclassified. See Note 6 for additional information. These reclassifications had no effect on net income or equity.
 
Restricted Cash. We classify all cash pledged as collateral to secure certain obligations and all cash whose use is limited as restricted cash. During 2015, pursuant to the terms of our $15.1 million 4.99% Note, due January 6, 2024 (See Note 6), which is collateralized by our Anthem Marketplace property, we were required by the lenders thereunder to establish a cash management account controlled by the lenders to collect all amounts generated by our Anthem Marketplace property in order to collateralize such promissory note. As a result, these amounts are reported in the consolidated statements of cash flows under cash flows from financing activities as change in restricted cash.

Marketable Securities. We classify our existing marketable equity securities as available-for-sale in accordance with the Financial Accounting Standards Board's (“FASB”) Investments-Debt and Equity Securities guidance. These securities are carried at fair value with unrealized gains and losses reported in equity as a component of accumulated other comprehensive income or loss. The fair value of the marketable securities is determined using Level 1 inputs under FASB Accounting Standards Codification (“ASC”) 820, “Fair Value Measurements and Disclosures.” Level 1 inputs represent quoted prices available in an active market for identical investments as of the reporting date. Gains and losses on securities sold are based on the specific identification method, and are reported as a component of interest, dividend and other investment income.

Derivative Instruments and Hedging Activities. We occasionally utilize derivative financial instruments, principally interest rate swaps, to manage our exposure to fluctuations in interest rates. We have established policies and procedures for risk assessment, and the approval, reporting and monitoring of derivative financial instruments. We recognize our interest rate swaps as cash flow hedges with the effective portion of the changes in fair value recorded in comprehensive income (loss) and subsequently reclassified into earnings in the period that the hedged transaction affects earnings. Any ineffective portion of a cash flow hedges' change in fair value is recorded immediately into earnings. Our cash flow hedges are determined using Level 2 inputs under ASC 820. Level 2 inputs represent quoted prices in active markets for similar assets or liabilities; quoted prices in markets that are not active; and model-derived valuations whose inputs are observable. As of March 31, 2016, we consider our cash flow hedges to be highly effective.
        
Development Properties. Land, buildings and improvements are recorded at cost. Expenditures related to the development of real estate are carried at cost which includes capitalized carrying charges and development costs. Carrying charges (interest, real estate taxes, loan fees, and direct and indirect development costs related to buildings under construction), are capitalized as part of construction in progress. The capitalization of such costs ceases when the property, or any completed portion, becomes available for occupancy. For the three months ended March 31, 2016, approximately $27,000 and $16,000 in interest expense and real estate taxes, respectively, were capitalized. For the three months ended March 31, 2015, approximately $26,000 and $16,000 in interest expense and real estate taxes, respectively, were capitalized.

Real Estate Held for Sale and Discontinued Operations. We consider a commercial property to be held for sale when it meets all of the criteria established under ASC 205, “Presentation of Financial Statements.” For commercial properties classified as held for sale, assets and liabilities are presented separately for all periods presented.

In accordance with ASC 205, a discontinued operation may include a component of an entity or a group of components of an entity. A disposal of a component of an entity or a group of components of an entity is reported in discontinued operations if the disposal represents a strategic shift that has (or will have) a major effect on an entity's operations and financial results when the component of an entity or group of components of an entity is classified as held for sale, disposed of by sale or disposed of other than by sale, respectively. In addition, ASC 205 requires us to provide additional disclosures about both discontinued operations and the disposal of an individually significant component of an entity that does not meet the criteria for a discontinued operation.


8
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2016
(Unaudited)

Share-Based Compensation.   From time to time, we award nonvested restricted common share awards or restricted common share unit awards, which may be converted into common shares, to executive officers and employees under our 2008 Long-Term Equity Incentive Ownership Plan (the “2008 Plan”).  The vast majority of the awarded shares and units vest when certain performance conditions are met.  We recognize compensation expense when achievement of the performance conditions is probable based on management's most recent estimates using the fair value of the shares as of the grant date. We recognized $2,025,000 and $1,674,000 in share-based compensation for the three months ended March 31, 2016 and 2015, respectively.

Noncontrolling Interests.  Noncontrolling interests is the portion of equity in a subsidiary not attributable to a parent.  The ownership interests not held by the parent are considered noncontrolling interests.  Accordingly, we have reported noncontrolling interests in equity on the consolidated balance sheets but separate from Whitestone's equity.  On the consolidated statements of operations, subsidiaries are reported at the consolidated amount, including both the amount attributable to Whitestone and noncontrolling interests.  The consolidated statement of changes in equity is included for quarterly financial statements, including beginning balances, activity for the period and ending balances for shareholders' equity, noncontrolling interests and total equity.
 
See our Annual Report on Form 10-K for the year ended December 31, 2015 for further discussion on significant accounting policies.
 
Recent Accounting Pronouncements.  In April 2015, the FASB issued guidance requiring that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct reduction from the carrying amount of that debt liability, consistent with the presentation of debt discounts. In August 2015, the FASB issued guidance to clarify that debt issuance costs related to line-of-credit agreements may still be presented as an asset and subsequently amortized ratably over the term of such arrangement, regardless of whether there are any outstanding borrowings on the line-of-credit. This guidance was effective for reporting periods beginning on or after December 15, 2015 and is to be applied retrospectively. We have adopted this guidance for all periods presented.

In February 2016, the FASB issued guidance requiring lessees to recognize a lease liability and a right-of-use asset for all leases. Lessor accounting will remain largely unchanged. The guidance will also require new qualitative and quantitative disclosures to help financial statement users better understand the timing, amount and uncertainty of cash flows arising from leases. This guidance will be effective for reporting periods beginning on or after December 15, 2018, with early adoption permitted. We are currently evaluating the impact of this guidance and its impact on our consolidated financial statements.

In March 2016, the FASB issued guidance simplifying the accounting for share-based payment transactions, including the income tax consequences, balance sheet classification of awards and the classification on the statement of cash flows. This guidance will be effective for reporting periods beginning on or after December 15, 2016, and interim periods within those fiscal years. We are currently evaluating the impact of this guidance and its impact on our consolidated financial statements.

3. MARKETABLE SECURITIES

All of our marketable securities were classified as available-for-sale securities as of March 31, 2016 and December 31, 2015. Available-for-sale securities consisted of the following (in thousands):

 
 
March 31, 2016
 
 
Amortized Cost
 
Gains in Accumulated Other Comprehensive Income (Loss)
 
Losses in Accumulated Other Comprehensive Income (Loss)
 
Estimated Fair Value
Real estate sector common stock
 
$
654

 
$
—

 
$
(224
)
 
$
430

Total available-for-sale securities
 
$
654

 
$
—

 
$
(224
)
 
$
430



9
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2016
(Unaudited)

 
 
December 31, 2015
 
 
Amortized Cost
 
Gains in Accumulated Other Comprehensive Income (Loss)
 
Losses in Accumulated Other Comprehensive Income (Loss)
 
Estimated Fair Value
Real estate sector common stock
 
$
654

 
$
—

 
$
(219
)
 
$
435

Total available-for-sale securities
 
$
654

 
$
—

 
$
(219
)
 
$
435


During the three months ended March 31, 2016 and 2015, no available-for-sale securities were sold. For purposes of determining gross realized gains and losses, the cost of securities sold is based on specific identification. A net unrealized holding loss on available-for-sale securities in the amount of $224,000 and $91,000 for the three months ended March 31, 2016 and 2015, respectively, has been included in accumulated other comprehensive income (loss).


4. ACCRUED RENTS AND ACCOUNTS RECEIVABLE, NET

Accrued rents and accounts receivable, net consists of amounts accrued, billed and due from tenants, allowance for doubtful accounts and other receivables as follows (in thousands):

 
 
March 31, 2016
 
December 31, 2015
 
 
 
 
 
Tenant receivables
 
$
11,229

 
$
10,494

Accrued rents and other recoveries
 
12,227

 
11,619

Allowance for doubtful accounts
 
(6,985
)
 
(6,647
)
Total
 
$
16,471

 
$
15,466


5. UNAMORTIZED LEASE COMMISSIONS AND LOAN COSTS

Costs which have been deferred consist of the following (in thousands):
 
 
March 31, 2016
 
December 31, 2015
 
 
 
 
 
Lease commissions
 
$
7,510

 
$
7,226

Deferred financing cost
 
4,070

 
4,070

Total cost
 
11,580

 
11,296

Less: lease commissions accumulated amortization
 
(3,179
)
 
(2,960
)
Less: deferred financing cost accumulated amortization
 
(396
)
 
(158
)
Total cost, net of accumulated amortization
 
$
8,005

 
$
8,178


6. DEBT

Certain subsidiaries of Whitestone are the borrowers under various financing arrangements. These subsidiaries are separate legal entities and their respective assets and credit are not available to satisfy the debt of Whitestone or any of its other subsidiaries.

10
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2016
(Unaudited)

Debt consisted of the following as of the dates indicated (in thousands):
Description
 
March 31, 2016
 
December 31, 2015
Fixed rate notes
 
 
 
 
$10.5 million, LIBOR plus 2.00% Note, due September 24, 2018 (1)
 
$
10,160

 
$
10,220

$50.0 million, 0.84% plus 1.35% to 1.90% Note, due October 30, 2020 (2)
 
50,000

 
50,000

$50.0 million, 1.50% plus 1.35% to 1.90% Note, due January 29, 2021 (3)
 
50,000

 
50,000

$100.0 million, 1.73% plus 1.65% to 2.25% Note, due October 30, 2022 (4)
 
100,000

 
100,000

$37.0 million 3.76% Note, due December 1, 2020
 
34,904

 
35,146

$6.5 million 3.80% Note, due January 1, 2019
 
6,148

 
6,190

$19.0 million 4.15% Note, due December 1, 2024
 
19,000

 
19,000

$20.2 million 4.28% Note, due June 6, 2023
 
19,957

 
20,040

$14.0 million 4.34% Note, due September 11, 2024
 
14,000

 
14,000

$14.3 million 4.34% Note, due September 11, 2024
 
14,300

 
14,300

$16.5 million 4.97% Note, due September 26, 2023
 
16,450

 
16,450

$15.1 million 4.99% Note, due January 6, 2024
 
15,060

 
15,060

$9.2 million, Prime Rate less 2.00% Note, due December 29, 2017 (5)
 
7,882

 
7,886

$2.6 million 5.46% Note, due October 1, 2023
 
2,541

 
2,550

$11.1 million 5.87% Note, due August 6, 2016
 
11,228

 
11,305

$1.1 million 2.97% Note, due November 28, 2016
 
823

 
—

Floating rate notes
 
 
 
 
Unsecured line of credit, LIBOR plus 1.40% to 1.95%, due October 30, 2019
 
134,600

 
127,600

Total notes payable principal
 
507,053

 
499,747

Less deferred financing costs, net of accumulated amortization
 
(1,716
)
 
(1,792
)
Total notes payable
 
$
505,337

 
$
497,955


(1) 
Promissory note includes an interest rate swap that fixed the interest rate at 3.55% for the duration of the term.

(2) 
Promissory note includes an interest rate swap that fixed the LIBOR portion of Term Loan 1 (as defined below) at 0.84% through February 3, 2017 and 1.75% beginning February 3, 2017 through October 30, 2020.

(3) 
Promissory note includes an interest rate swap that fixed the LIBOR portion of Term Loan 2 (as defined below) at 1.50%.

(4) 
Promissory note includes an interest rate swap that fixed the LIBOR portion of Term Loan 3 (as defined below) at 1.73%,

(5) 
Promissory note includes an interest rate swap that fixed the interest rate at 5.72% for the duration of the term. As part of our acquisition of Paradise Plaza in August 2012, we recorded a discount on the note of $1.3 million, which amortizes into interest expense over the life of the loan and results in an imputed interest rate of 4.13%.

On November 7, 2014, we, through our Operating Partnership, entered into an unsecured revolving credit facility (the “2014 Facility”) with the lenders party thereto, with BMO Capital Markets, Wells Fargo Securities, LLC, Merrill Lynch, Pierce, Fenner & Smith Incorporated, and U.S. Bank, National Association, as co-lead arrangers and joint book runners, and Bank of Montreal, as administrative agent (the “Agent”). The 2014 Facility amended and restated our previous unsecured revolving credit facility. On October 30, 2015, we, through our Operating Partnership, entered into the First Amendment to the 2014 Facility (the “First Amendment”) with the guarantors party thereto, the lenders party thereto and the Agent. We refer to the 2014 Facility, as amended by the First Amendment, as the “Facility.”


11
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2016
(Unaudited)

Pursuant to the First Amendment, the Company made the following amendments to the 2014 Facility:

•
extended the maturity date of the $300 million unsecured revolving credit facility under the 2014 Facility (the “Revolver”) to October 30, 2019 from November 7, 2018;

•
converted $100 million of outstanding borrowings under the Revolver to a new $100 million unsecured term loan under the 2014 Facility (“Term Loan 3”) with a maturity date of October 30, 2022;

•
extended the maturity date of the first $50 million unsecured term loan under the 2014 Facility (“Term Loan 1”) to October 30, 2020 from February 17, 2017; and

•
extended the maturity date of the second $50 million unsecured term loan under the 2014 Facility (“Term Loan 2” and together with Term Loan 1 and Term Loan 3, the “Term Loans”) to January 29, 2021 from November 7, 2019.
    
Borrowings under the Facility accrue interest (at the Operating Partnership's option) at a Base Rate or an Adjusted LIBOR plus an applicable margin based upon our then existing leverage. The applicable margin for Adjusted LIBOR borrowings ranges from 1.40% to 1.95% for the Revolver and 1.35% to 2.25% for the Term Loans. Base Rate means the higher of: (a) the Agent's prime commercial rate, (b) the sum of (i) the average rate quoted by the Agent by two or more federal funds brokers selected by the Agent for sale to the Agent at face value of federal funds in the secondary market in an amount equal or comparable to the principal amount for which such rate is being determined, plus (ii) 1/2 of 1.00%, and (c) the LIBOR rate for such day plus 1.00%. Adjusted LIBOR means LIBOR divided by one minus the Eurodollar Reserve Percentage. The Eurodollar Reserve Percentage means the maximum reserve percentage at which reserves are imposed by the Board of Governors of the Federal Reserve System on eurocurrency liabilities.

We serve as the guarantor for funds borrowed by the Operating Partnership under the Facility. The Facility contains customary terms and conditions, including, without limitation, affirmative and negative covenants such as information reporting requirements, maximum secured indebtedness to total asset value, minimum EBITDA (earnings before interest, taxes, depreciation, amortization or extraordinary items) to fixed charges, and maintenance of a minimum net worth. The Facility also contains customary events of default with customary notice and cure, including, without limitation, nonpayment, breach of covenant, misrepresentation of representations and warranties in a material respect, cross-default to other major indebtedness, change of control, bankruptcy and loss of REIT tax status.

The Facility includes an accordion feature that will allow the Operating Partnership to increase the borrowing capacity to $700 million, upon the satisfaction of certain conditions. As of March 31, 2016, $334.6 million was drawn on the Facility, and our remaining borrowing capacity was $165.4 million. Proceeds from the Facility were used for general corporate purposes, including property acquisitions, debt repayment, capital expenditures, the expansion, redevelopment and retenanting of properties in our portfolio and working capital. We intend to use the additional proceeds from the Facility for general corporate purposes, including property acquisitions, debt repayment, capital expenditure, the expansion, redevelopment and re-tenanting of properties in our portfolio and working capital.

As of March 31, 2016, our $171.6 million in secured debt was collateralized by 20 properties with a carrying value of $213.1 million.  Our loans contain restrictions that would require the payment of prepayment penalties for the acceleration of outstanding debt and are secured by deeds of trust on certain of our properties and by assignment of the rents and leases associated with those properties.  As of March 31, 2016, we were in compliance with all loan covenants.


12
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2016
(Unaudited)

Scheduled maturities of our outstanding debt as of March 31, 2016 were as follows (in thousands):
Year
 
Amount Due
 
 
 
2016
 
$
13,583

2017
 
10,213

2018
 
12,136

2019
 
142,649

2020
 
82,827

Thereafter
 
245,645

Total
 
$
507,053

 
7.  DERIVATIVES AND HEDGING ACTIVITIES

The fair value of our interest rate swaps is as follows (in thousands):
 
 
Balance Sheet Location
 
Estimated Fair Value
Interest rate swaps:
 
 
 
 
March 31, 2016
 
Accounts payable and accrued expenses
 
$
6,571

December 31, 2015
 
Accounts payable and accrued expenses
 
$
617


On November 19, 2015, we, through our Operating Partnership, entered into an interest rate swap with Bank of Montreal that fixed the LIBOR portion of Term Loan 3 under the Facility at 1.725%. In the fourth quarter of 2015, pursuant to the terms of the agreement governing the interest rate swap, Bank of Montreal assigned $35.0 million of the swap to U.S. Bank, National Association, and $15.0 million of the swap to SunTrust Bank. See Note 6 for additional information regarding the Facility. The swap began on November 30, 2015 and will mature on October 28, 2022. We have designated the interest rate swap as a cash flow hedge with the effective portion of the changes in fair value to be recorded in comprehensive income (loss) and subsequently reclassified into earnings in the period that the hedged transaction affects earnings. The ineffective portion of the change in fair value, if any, will be recognized directly in earnings.

On November 19, 2015, we, through our Operating Partnership, entered into an interest rate swap with Bank of Montreal that fixed the LIBOR portion of Term Loan 1 under the Facility at 1.75%. In the fourth quarter of 2015, pursuant to the terms of the agreement governing the interest rate swap, Bank of Montreal assigned $3.8 million of the swap to Regions Bank, $6.5 million of the swap to U.S. Bank, National Association, $14.0 million of the swap to Wells Fargo Bank, National Association, $14.0 million of the swap to Bank of America, N.A., and $5.0 million of the swap to SunTrust Bank. See Note 6 for additional information regarding the Facility. The swap will begin on February 3, 2017 and will mature on October 30, 2020. We have designated the interest rate swap as a cash flow hedge with the effective portion of the changes in fair value to be recorded in comprehensive income (loss) and subsequently reclassified into earnings in the period that the hedged transaction affects earnings. The ineffective portion of the change in fair value, if any, will be recognized directly in earnings.

On November 19, 2015, we, through our Operating Partnership, entered into an interest rate swap with Bank of Montreal that fixed the LIBOR portion of Term Loan 2 under the Facility at 1.50%. In the fourth quarter of 2015, pursuant to the terms of the agreement governing the interest rate swap, Bank of Montreal assigned $3.8 million of the swap to Regions Bank, $6.5 million of the swap to U.S. Bank, National Association, $14.0 million of the swap to Wells Fargo Bank, National Association, $14.0 million of the swap to Bank of America, N.A., and $5.0 million of the swap to SunTrust Bank. See Note 6 for additional information regarding the Facility. The swap began on December 7, 2015 and will mature on January 29, 2021. We have designated the interest rate swap as a cash flow hedge with the effective portion of the changes in fair value to be recorded in comprehensive income (loss) and subsequently reclassified into earnings in the period that the hedged transaction affects earnings. The ineffective portion of the change in fair value, if any, will be recognized directly in earnings.


13
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2016
(Unaudited)

A summary of our interest rate swap activity is as follows (in thousands):
 
 
Amount Recognized as Comprehensive Loss
 
Location of Loss Recognized in Earnings
 
Amount of Loss Recognized in Earnings (1)
Three months ended March 31, 2016
 
$
(6,041
)
 
Interest expense
 
$
(594
)
Three months ended March 31, 2015
 
$
(319
)
 
Interest expense
 
$
(207
)

(1) 
We did not recognize any ineffective portion of our interest rate swaps in earnings for the three months ended March 31, 2016 and 2015.

8.  EARNINGS PER SHARE
 
Basic earnings per share for our common shareholders is calculated by dividing income from continuing operations excluding amounts attributable to unvested restricted shares and the net income attributable to noncontrolling interests by our weighted average common shares outstanding during the period.  Diluted earnings per share is computed by dividing the net income attributable to common shareholders excluding amounts attributable to unvested restricted shares and the net income attributable to noncontrolling interests by the weighted average number of common shares including any dilutive unvested restricted shares.
 
Certain of our performance-based restricted common shares are considered participating securities that require the use of the two-class method for the computation of basic and diluted earnings per share.  During the three months ended March 31, 2016 and 2015, 491,023 and 392,599 OP units, respectively, were excluded from the calculation of diluted earnings per share because their effect would be anti-dilutive.
 
For the three months ended March 31, 2016 and 2015, distributions of $155,000 and $116,000, respectively, were made to holders of certain restricted common shares, $0 and $9,000, respectively, of which were charged against earnings. See Note 11 for information related to restricted common shares under the 2008 Plan.


14
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2016
(Unaudited)

 
 
Three Months Ended March 31,
(in thousands, except per share data)
 
2016
 
2015
Numerator:
 
 
 
 
Income from continuing operations
 
$
5,088

 
$
1,629

Less: Net income attributable to noncontrolling interests
 
(91
)
 
(28
)
Distributions paid on unvested restricted shares
 
(155
)
 
(107
)
Income from continuing operations attributable to Whitestone REIT excluding amounts attributable to unvested restricted shares
 
4,842

 
1,494

Income from discontinued operations
 
—

 
(8
)
Less: Net income attributable to noncontrolling interests
 
—

 
1

Income from discontinued operations attributable to Whitestone REIT
 
—

 
(7
)
Net income attributable to common shareholders excluding amounts attributable to unvested restricted shares
 
$
4,842

 
$
1,487

 
 
 
 
 
Denominator:
 
 
 
 
Weighted average number of common shares - basic
 
26,604

 
22,577

Effect of dilutive securities:
 
 
 
 
Unvested restricted shares
 
885

 
649

Weighted average number of common shares - dilutive
 
27,489

 
23,226

 
 
 
 
 
Earnings Per Share:
 
 
 
 
Basic:
 
 
 
 
Income from continuing operations attributable to Whitestone REIT excluding amounts attributable to unvested restricted shares
 
$
0.18

 
$
0.07

Income from discontinued operations attributable to Whitestone REIT
 
0.00

 
0.00

Net income attributable to common shareholders excluding amounts attributable to unvested restricted shares
 
$
0.18

 
$
0.07

Diluted:
 
 
 
 
Income from continuing operations attributable to Whitestone REIT excluding amounts attributable to unvested restricted shares
 
$
0.18

 
$
0.06

Income from discontinued operations attributable to Whitestone REIT
 
0.00

 
0.00

Net income attributable to common shareholders excluding amounts attributable to unvested restricted shares
 
$
0.18

 
$
0.06


9. INCOME TAXES
 
With the exception of our taxable REIT subsidiaries, federal income taxes are generally not provided because we intend to and believe we qualify as a REIT under the provisions of the Internal Revenue Code (the “Code”) and because we have distributed and intend to continue to distribute all of our taxable income to our shareholders.  As a REIT, we must distribute at least 90% of our real estate investment trust taxable income to our shareholders and meet certain income sources and investment restriction requirements.  In addition, REITs are subject to a number of organizational and operational requirements.  If we fail to qualify as a REIT in any taxable year, we will be subject to federal income tax (including any applicable alternative minimum tax) on our taxable income at regular corporate tax rates.
 
Income earned by our taxable REIT subsidiary, Whitestone Davenport TRS LLC (“Davenport TRS”), is subject to federal income tax. For the three months ended March 31, 2016, we recognized $45,000 in income tax expense related to Davenport TRS for the 2015 taxable year.

Taxable income differs from net income for financial reporting purposes principally due to differences in the timing of recognition of interest, real estate taxes, depreciation and rental revenue. 

15
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2016
(Unaudited)


We are subject to the Texas Margin Tax, which is computed by applying the applicable tax rate (1% for us) to the profit margin, which generally will be determined for us as total revenue less a 30% standard deduction.  Although the Texas Margin Tax is not an income tax, FASB ASC 740, “Income Taxes” applies to the Texas Margin Tax.  For the three months ended March 31, 2016 and 2015, we recognized approximately $114,000 and $82,000 in margin tax provision, respectively.

10.  EQUITY

Common Shares    

Under our declaration of trust, as amended, we have authority to issue up to 400,000,000 common shares of beneficial interest, $0.001 par value per share, and up to 50,000,000 preferred shares of beneficial interest, $0.001 par value per share.
  
Equity Offerings

On June 26, 2015, we completed the sale of 3,750,000 common shares, $0.001 par value per share, at a purchase price of $13.3386 per share. Total net proceeds from the offering, after deducting offering expenses, were approximately $49.7 million, which we contributed to the Operating Partnership in exchange for OP units. The Operating Partnership used the net proceeds from this offering to repay a portion of the Facility and for general corporate purposes.

On June 4, 2015, we entered into six amended and restated equity distribution agreements for an at-the-market equity distribution program (the “2015 equity distribution agreements”). Pursuant to the terms and conditions of the 2015 equity distribution agreements, we can issue and sell up to an aggregate of $50 million of our common shares. Actual sales will depend on a variety of factors to be determined by us from time to time, including (among others) market conditions, the trading price of our common shares, capital needs and our determinations of the appropriate sources of funding for us, and will be made in transactions that will be deemed to be “at-the-market” offerings as defined in Rule 415 under the Securities Act. We have no obligation to sell any of our common shares, and can at any time suspend offers under the 2015 equity distribution agreements or terminate the 2015 equity distribution agreements. We have not sold any common shares under the 2015 equity distribution agreements.

Operating Partnership Units 

Substantially all of our business is conducted through our Operating Partnership.  We are the sole general partner of the Operating Partnership.  As of March 31, 2016, we owned a 98.3% interest in the Operating Partnership.
 
Limited partners in the Operating Partnership holding OP units have the right to convert their OP units into cash or, at our option, common shares at a ratio of one OP unit for one common share.  Distributions to OP unit holders are paid at the same rate per unit as distributions per share to holders of Whitestone common shares.  As of March 31, 2016 and December 31, 2015, there were 27,790,365 and 27,367,704 OP units outstanding, respectively.  We owned 27,305,433 and 26,870,671 OP units as of March 31, 2016 and December 31, 2015, respectively. The balance of the OP units is owned by third parties, including certain members of our board of trustees.  Our weighted average share ownership in the Operating Partnership was approximately 98.2% and 98.3% for the three months ended March 31, 2016 and 2015, respectively. During the three months ended March 31, 2016 and 2015, 12,101 and 7,782 OP units, respectively, were redeemed for an equal number of common shares.

16
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2016
(Unaudited)


 Distributions
 
The following table summarizes the cash distributions paid or payable to holders of common shares and to holders of noncontrolling OP units during each quarter during 2015 and the three months ended March 31, 2016 (in thousands, except per share/unit data):

 
 
Common Shares
 
Noncontrolling OP Unit Holders
 
Total
Quarter Paid
 
Distributions Per Common Share
 
Amount Paid
 
Distributions Per OP Unit
 
Amount Paid
 
 Amount Paid
2016
 
 
 
 
 
 
 
 
 
 
First Quarter
 
$
0.2850

 
$
7,711

 
$
0.2850

 
$
139

 
$
7,850

Total
 
$
0.2850

 
$
7,711

 
$
0.2850

 
$
139


$
7,850

 
 
 
 
 
 
 
 
 
 
 
2015
 
 
 
 
 
 
 
 
 
 
Fourth Quarter
 
$
0.2850

 
$
7,666

 
$
0.2850

 
$
143

 
$
7,809

Third Quarter
 
0.2850

 
7,664

 
0.2850

 
122

 
7,786

Second Quarter
 
0.2850

 
6,601

 
0.2850

 
111

 
6,712

First Quarter
 
0.2850

 
6,526

 
0.2850

 
113

 
6,639

Total
 
$
1.1400

 
$
28,457

 
$
1.1400

 
$
489

 
$
28,946


11.  INCENTIVE SHARE PLAN
 
On July 29, 2008, our shareholders approved the 2008 Plan. On December 22, 2010, our board of trustees amended the 2008 Plan to allow for awards in or related to Class B common shares pursuant to the 2008 Plan. On June 27, 2012, our Class B common shares were redesignated as “common shares.” The 2008 Plan, as amended, provides that awards may be made with respect to common shares of Whitestone or OP units, which may be converted into cash or, at our option, common shares of Whitestone. The maximum aggregate number of common shares that may be issued under the 2008 Plan is increased upon each issuance of common shares by Whitestone so that at any time the maximum number of shares that may be issued under the 2008 Plan shall equal 12.5% of the aggregate number of common shares of Whitestone and OP units issued and outstanding (other than shares and/or OP units issued to or held by Whitestone).

The Compensation Committee of our board of trustees administers the 2008 Plan, except with respect to awards to non-employee trustees, for which the 2008 Plan is administered by our board of trustees.  The Compensation Committee is authorized to grant share options, including both incentive share options and non-qualified share options, as well as share appreciation rights, either with or without a related option. The Compensation Committee is also authorized to grant restricted common shares, restricted common share units, performance awards and other share-based awards. 

On April 2, 2014, the Compensation Committee approved the modification of the vesting provisions with respect to awards of an aggregate of 633,704 restricted common shares and restricted common share units for 51 of our employees. The modified time-based shares will vest annually in three equal installments. The modified performance-based restricted common shares and restricted common share units were modified to include performance-based vesting based on achievement of certain absolute financial goals, as well as one to two years of time-based vesting post achievement of financial goals. Continued employment is required through the applicable vesting date. Additionally, 2,049,116 restricted performance-based common share units were granted with the same vesting conditions as the modified performance-based grants described above. If the performance targets are not met prior to December 31, 2018, any unvested performance-based restricted common shares and restricted common units will be forfeited.

On June 30, 2015, the Compensation Committee approved the grant of an aggregate of 143,000 time-based restricted common share units to James C. Mastandrea and David K. Holeman.

17
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2016
(Unaudited)


A summary of the share-based incentive plan activity as of and for the three months ended March 31, 2016 is as follows:
 
 
Shares
 
Weighted Average
Grant Date
Fair Value
Non-vested at January 1, 2016
 
2,288,260

 
$
14.34

Granted
 
22,650

 
11.13

Vested
 
(131,376
)
 
14.19

Forfeited
 
(22,942
)
 
14.57

Non-vested at March 31, 2016
 
2,156,592

 
$
14.32

Available for grant at March 31, 2016
 
957,730

 
 

A summary of our non-vested and vested shares activity for the three months ended March 31, 2016 and years ended December 31, 2015, 2014 and 2013 is presented below:
 
 
Shares Granted
 
Shares Vested
 
 
Non-Vested Shares Issued
 
Weighted Average Grant-Date Fair Value
 
Vested Shares
 
Total Vest-Date Fair Value
 
 
 
 
 
 
 
 
(in thousands)
Three Months Ended March 31, 2016
 
22,650

 
$
11.13

 
(131,376
)
 
$
1,864

Year Ended December 31, 2015
 
327,122

 
13.49

 
(348,786
)
 
4,969

Year Ended December 31, 2014
 
2,058,930

 
14.40

 
(133,774
)
 
1,721

Year Ended December 31, 2013
 
328,005

 
15.43

 
(15,270
)
 
224

    
Total compensation recognized in earnings for share-based payments was $2,025,000 and $1,674,000 for the three months ended March 31, 2016 and 2015, respectively.

Based on our current financial projections, we expect approximately 81% of the unvested awards to vest over the next 36 months. As of March 31, 2016, there was approximately $6.3 million in unrecognized compensation cost related to outstanding non-vested performance-based shares, which are expected to vest over a period of 36 months and approximately $5.3 million in unrecognized compensation cost related to outstanding non-vested time-based shares, which are expected to be recognized over a period of approximately 21 months beginning on April 1, 2016.

We expect to record approximately $7.8 million in non-cash share-based compensation expense in 2016 and $5.8 million subsequent to 2016. The unrecognized share-based compensation cost is expected to vest over a weighted average period of 24 months. The dilutive impact of the performance-based shares will be included in the denominator of the earnings per share calculation beginning in the period that the performance conditions are expected to be met.

12. GRANTS TO TRUSTEES

On December 21, 2015, each of our four independent trustees and one trustee emeritus was granted 1,500 common shares, which vested immediately. The 7,500 common shares granted to our trustees had a grant fair value of $12.10 per share. On December 21, 2015, one of our independent trustees elected to receive a total of 992 common shares with a grant date fair value of $12.10 in lieu of cash for board fees. The fair value of the shares granted were determined using quoted prices available on the date of grant.

18
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2016
(Unaudited)


13. SEGMENT INFORMATION

Historically, our management has not differentiated results of operations by property type or location and, therefore, does not present segment information.

14. REAL ESTATE

Property Acquisitions. On August 28, 2015, we acquired the hard corner at our Gilbert Tuscany Village property for approximately $1.7 million in cash and net prorations. The 14,603 square foot single-tenant property was vacant at the time of purchase and is located in Gilbert, Arizona.

On August 26, 2015, we acquired two parcels of undeveloped land totaling 3.12 acres for 120,000 OP units. The OP units, are convertible on a one-for-one basis for Whitestone REIT common shares, subject to certain restrictions. The undeveloped land parcels are adjacent to our Keller Place property.

On August 26, 2015, we acquired Keller Place, a property that meets our Community Centered Property™ strategy, for approximately $12.0 million in cash and net prorations. The 93,541 square foot property was 92% leased at the time of purchase and is located in the Keller suburb of Fort Worth, Texas.

On August 26, 2015, we acquired Quinlan Crossing, a property that meets our Community Centered Property™ strategy, for approximately $37.5 million in cash and net prorations. The 109,892 square foot property was 95% leased at the time of purchase and is located in Austin, Texas.

On July 2, 2015, we acquired Parkside Village North, a property that meets our Community Centered Property™ strategy, for approximately $12.5 million in cash and net prorations. The 27,045 square foot property was 100% leased at the time of purchase and is located in Austin, Texas.

On July 2, 2015, we acquired Parkside Village South, a property that meets our Community Centered Property™ strategy, for approximately $32.5 million in cash and net prorations. The 90,101 square foot property was 100% leased at the time of purchase and is located in Austin, Texas.

On May 27, 2015, we acquired Davenport Village, a property that meets our Community Centered Property™ strategy, for approximately $45.5 million in cash and net prorations. The 128,934 square foot property was 85% leased at the time of purchase and is located in Austin, Texas.

On March 31, 2015, we acquired City View Village, a property that meets our Community Centered Property™ strategy, for approximately $6.3 million in cash and net prorations. The 17,870 square foot property was 100% leased at the time of purchase and is located in San Antonio, Texas.

Property Dispositions. On March 3, 2016, we completed the sale of Brookhill, located in Houston, Texas, for $3.1 million. This disposition was pursuant to our strategy of recycling capital by disposing of non-core properties, primarily properties that we owned at the time our current management team assumed the management of the Company, that do not fit our Community Centered Property™ strategy. We recorded a gain on sale of $1.9 million. The sale was structured as a like-kind exchange within the meaning of Section 1031 of the Code and sales proceeds were deposited into a Section 1031 exchange escrow account with a qualified intermediary and may be used as consideration for future acquisitions. We have not included Brookhill in discontinued operations as it did not meet the definition of discontinued operations.

On February 17, 2016, we completed the sale of approximately 0.5 acres of our 4.5 acre Pinnacle Phase II development parcel, located in Scottsdale, Arizona, for $1.1 million. We recorded a gain on sale of $1.0 million.


19
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2016
(Unaudited)

Discontinued Operations. On December 31, 2014, we completed the sale of three office buildings (Zeta, Royal Crest and Featherwood), located in the Clear Lake suburb of Houston, Texas, for $10.3 million. This disposition was pursuant to our strategy of recycling capital by disposing of non-core properties that do not fit our Community Centered Property™ strategy. As part of the transaction, we provided short-term seller financing of $2.5 million. We recorded a gain on sale of $4.4 million, including recognizing a $1.9 million gain on sale for the year ended December 31, 2014 and deferring the remaining $2.5 million gain on sale to be recognized upon receipt of principal payments on the financing provided by us.

The operating results for properties classified as discontinued operations consists of the following (in thousands):

 
 
Three Months Ended March 31,
 
 
2016
 
2015
Property revenues
 
$
—

 
$
1

Property expenses
 
—

 
8

Depreciation and amortization
 
—

 
—

Interest expense
 
—

 
—

Provision for income taxes
 
—

 
—

Gain on sale or disposal of assets
 
—

 
1

    Income from discontinued operations
 
$
—

 
$
(8
)


20

Item 2.  Management's Discussion and Analysis of Financial Condition and Results of Operations.

You should read the following discussion of our financial condition and results of operations in conjunction with our unaudited consolidated financial statements and the notes thereto included in this Quarterly Report on Form 10-Q (the “Report”), and the consolidated financial statements and the notes thereto and “Management's Discussion and Analysis of Financial Condition and Results of Operations” contained in our Annual Report on Form 10-K for the year ended December 31, 2015.  For more detailed information regarding the basis of presentation for the following information, you should read the notes to the unaudited consolidated financial statements included in this Report.

This Report contains forward-looking statements within the meaning of the federal securities laws, including discussion and analysis of our financial condition, anticipated capital expenditures required to complete projects, amounts of anticipated cash distributions to our shareholders in the future and other matters.  These forward-looking statements are not historical facts but are the intent, belief or current expectations of our management based on its knowledge and understanding of our business and industry.  Forward-looking statements are typically identified by the use of terms such as “may,” “will,” “should,” “potential,” “predicts,” “anticipates,” “expects,” “intends,” “plans,” “believes,” “seeks,” “estimates” or the negative of such terms and variations of these words and similar expressions, although not all forward-looking statements include these words.  These statements are not guarantees of future performance and are subject to risks, uncertainties and other factors, some of which are beyond our control, are difficult to predict and could cause actual results to differ materially from those expressed or forecasted in the forward-looking statements.
     
Forward-looking statements that were true at the time made may ultimately prove to be incorrect or false.  You are cautioned not to place undue reliance on forward-looking statements, which reflect our management's view only as of the date of this Report.  We undertake no obligation to update or revise forward-looking statements to reflect changed assumptions, the occurrence of unanticipated events or changes to future operating results.  Factors that could cause actual results to differ materially from any forward-looking statements made in this Report include:

•
the imposition of federal taxes if we fail to qualify as a REIT in any taxable year or forego an opportunity to ensure REIT status;
•
uncertainties related to the national economy, the real estate industry in general and in our specific markets;
•
legislative or regulatory changes, including changes to laws governing REITs;
•
adverse economic or real estate developments in Texas, Arizona or Illinois;
•
increases in interest rates and operating costs;
•
availability and terms of capital and financing, both to fund our operations and to refinance our indebtedness as it matures;
•
decreases in rental rates or increases in vacancy rates;
•
litigation risks;
•
lease-up risks, including leasing risks arising from exclusivity and consent provisions in leases with significant tenants;
•
our inability to renew tenants or obtain new tenants upon the expiration of existing leases;
•
our inability to generate sufficient cash flows due to market conditions, competition, uninsured losses, changes in tax or other applicable laws; and
•
the need to fund tenant improvements or other capital expenditures out of operating cash flow.
 
The forward-looking statements should be read in light of these factors and the factors identified in the “Risk Factors” sections of our Annual Report on Form 10-K for the year ended December 31, 2015, as previously filed with the Securities and Exchange Commission (“SEC”) and of this Report below.
 
Overview

We are a fully integrated real estate company that owns, redevelops, repositions, leases, manages and operates Community Centered PropertiesTM .  We define Community Centered PropertiesTM as visibly located properties in established or developing culturally diverse neighborhoods in our target markets.  Founded in 1998, we are internally managed with a portfolio of commercial properties in Texas, Arizona and Illinois.


21

In October 2006, our current management team joined the Company and adopted a strategic plan to acquire, redevelop, own and operate Community Centered PropertiesTM.  We market, lease and manage our centers to match tenants with the shared needs of the surrounding neighborhood.  Those needs may include specialty retail, grocery, restaurants and medical, educational and financial services.  Our goal is for each property to become a Whitestone-branded business center or retail community that serves a neighboring five-mile radius around our property.  We employ and develop a diverse group of associates who understand the needs of our multicultural communities and tenants.

We serve as the general partner of Whitestone REIT Operating Partnership, L.P. (the “Operating Partnership”), which was formed on December 31, 1998 as a Delaware limited partnership. We currently conduct substantially all of our operations and activities through the Operating Partnership. As the general partner of the Operating Partnership, we have the exclusive power to manage and conduct the business of the Operating Partnership, subject to certain customary exceptions.

As of March 31, 2016, we owned and operated 69 commercial properties consisting of:

Operating Portfolio
•
46 retail properties containing approximately 4.0 million square feet of gross leasable area and having a total carrying value (net of accumulated depreciation) of $594.0 million;
•
four office properties containing approximately 0.5 million square feet of gross leasable area and having a total carrying value (net of accumulated depreciation) of $36.0 million; and
•
10 office/flex properties containing approximately 1.1 million square feet of gross leasable area and having a total carrying value (net of accumulated depreciation) of $35.3 million.
Redevelopment, New Acquisitions Portfolio
•
three retail properties containing approximately 0.2 million square feet of gross leasable area and having a total carrying value (net of accumulated depreciation) of $64.6 million; and
•
six parcels of land held for future development having a total carrying value of $14.4 million.

As of March 31, 2016, we had an aggregate of 1,465 tenants.  We have a diversified tenant base with our largest tenant comprising only 2.6% of our annualized rental revenues for the three months ended March 31, 2016.  Lease terms for our properties range from less than one year for smaller tenants to over 15 years for larger tenants.  Our leases generally include minimum monthly lease payments and tenant reimbursements for payment of taxes, insurance and maintenance.  We completed 122 new and renewal leases during the three months ended March 31, 2016, totaling 285,202 square feet and approximately $16.1 million in total lease value.  This compares to 76 new and renewal leases totaling 196,401 square feet and approximately $8.6 million in total lease value during the same period in 2015.

We employed 96 full-time employees as of March 31, 2016.  As an internally managed REIT, we bear our own expenses of operations, including the salaries, benefits and other compensation of our employees, office expenses, legal, accounting and investor relations expenses and other overhead costs.

How We Derive Our Revenue
 
Substantially all of our revenue is derived from rents received from leases at our properties. We had rental income and tenant reimbursements of approximately $25.4 million and $21.3 million for the three months ended March 31, 2016 and 2015, respectively.


22

Known Trends in Our Operations; Outlook for Future Results
 
Rental Income
 
We expect our rental income to increase year-over-year due to the addition of properties and rent increases on renewal leases. The amount of net rental income generated by our properties depends principally on our ability to maintain the occupancy rates of currently leased space and to lease currently available space, newly acquired properties with vacant space, and space available from unscheduled lease terminations. The amount of rental income we generate also depends on our ability to maintain or increase rental rates in our submarkets. Over the past two years, we have seen modest improvement in the overall economy in our markets, which has allowed us to maintain overall occupancy rates, with slight increases in occupancy at certain of our properties, and to recognize modest increases in rental rates. We expect this trend to continue in 2016.
 
Scheduled Lease Expirations
 
We tend to lease space to smaller businesses that desire shorter term leases. As of March 31, 2016, approximately 27% of our gross leasable area was subject to leases that expire prior to December 31, 2017.  Over the last two years, we have renewed leases covering approximately 76% of the square footage subject to expiring leases. We routinely seek to renew leases with our existing tenants prior to their expiration and typically begin discussions with tenants as early as 18 months prior to the expiration date of the existing lease. While our early renewal program and other leasing and marketing efforts target these expiring leases, we hope to re-lease most of that space prior to expiration of the leases. In the markets in which we operate, we obtain and analyze market rental rates through review of third-party publications, which provide market and submarket rental rate data and through inquiry of property owners and property management companies as to rental rates being quoted at properties that are located in close proximity to our properties and we believe display similar physical attributes as our nearby properties. We use this data to negotiate leases with new tenants and renew leases with our existing tenants at rates we believe to be competitive in the markets for our individual properties. Due to the short term nature of our leases, and based upon our analysis of market rental rates, we believe that, in the aggregate, our current leases are at market rates. Market conditions, including new supply of properties, and macroeconomic conditions in our markets and nationally affecting tenant income, such as employment levels, business conditions, interest rates, tax rates, fuel and energy costs and other matters, could adversely impact our renewal rate and/or the rental rates we are able to negotiate. We continue to monitor our tenants' operating performances as well as overall economic trends to evaluate any future negative impact on our renewal rates and rental rates, which could adversely affect our cash flow and ability to make distributions to our shareholders.
 
Acquisitions
 
We have continued to successfully grow our gross leasable area through the acquisition of additional properties, and we expect to actively pursue and consummate additional acquisitions in the foreseeable future. We believe that over the next few years we will continue to have excellent opportunities to acquire quality properties at historically attractive prices. We have extensive relationships with community banks, attorneys, title companies and others in the real estate industry, which we believe enables us to take advantage of these market opportunities and maintain an active acquisition pipeline.
 
Property Acquisitions
 
We seek to acquire commercial properties in high-growth markets. Our acquisition targets are properties that fit our Community Centered PropertiesTM strategy.  We define Community Centered PropertiesTM as visibly located properties in established or developing, culturally diverse neighborhoods in our target markets, primarily in and around Austin, Chicago, Dallas-Fort Worth, Houston, Phoenix and San Antonio.  We may acquire properties in other high-growth cities in the future. We market, lease and manage our centers to match tenants with the shared needs of the surrounding neighborhood.  Those needs may include specialty retail, grocery, restaurants, medical, educational and financial services.  Our goal is for each property to become a Whitestone-branded business center or retail community that serves a neighboring five-mile radius around our property.

On August 28, 2015, we acquired the hard corner at our Gilbert Tuscany Village property for approximately $1.7 million in cash and net prorations. The 14,603 square foot single-tenant property was vacant at the time of purchase and is located in Gilbert, Arizona.

On August 26, 2015, we acquired two parcels of undeveloped land totaling 3.12 acres for 120,000 OP units. The OP units, are convertible on a one-for-one basis for Whitestone REIT common shares, subject to certain restrictions. The undeveloped land parcels are adjacent to our Keller Place property.


23

On August 26, 2015, we acquired Keller Place, a property that meets our Community Centered Property™ strategy, for approximately $12.0 million in cash and net prorations. The 93,541 square foot property was 92% leased at the time of purchase and is located in the Keller suburb of Fort Worth, Texas.

On August 26, 2015, we acquired Quinlan Crossing, a property that meets our Community Centered Property™ strategy, for approximately $37.5 million in cash and net prorations. The 109,892 square foot property was 95% leased at the time of purchase and is located in Austin, Texas.

On July 2, 2015, we acquired Parkside Village North, a property that meets our Community Centered Property™ strategy, for approximately $12.5 million in cash and net prorations. The 27,045 square foot property was 100% leased at the time of purchase and is located in Austin, Texas.

On July 2, 2015, we acquired Parkside Village South, a property that meets our Community Centered Property™ strategy, for approximately $32.5 million in cash and net prorations. The 90,101 square foot property was 100% leased at the time of purchase and is located in Austin, Texas.

On May 27, 2015, we acquired Davenport Village, a property that meets our Community Centered Property™ strategy, for approximately $45.5 million in cash and net prorations. The 128,934 square foot property was 85% leased at the time of purchase and is located in Austin, Texas.

On March 31, 2015, we acquired City View Village, a property that meets our Community Centered PropertyTM strategy, for approximately $6.3 million in cash and net prorations. The 17,870 square foot property was 100% leased at the time of purchase and is located in San Antonio, Texas.

Leasing Activity
    
As of March 31, 2016, we owned 69 properties with 5,881,754 square feet of gross leasable area, which were approximately 87% occupied. Our occupancy rate for all properties was approximately 87% and 86% occupied as of March 31, 2016 and March 31, 2015, respectively. The following is a summary of the Company's leasing activity for the three months ended March 31, 2016:

 
 
Number of Leases Signed
 
GLA Signed
 
Weighted Average Lease Term (2)
 
TI and Incentives per Sq. Ft. (3)
 
Contractual Rent Per Sq. Ft (4)
 
Prior Contractual Rent Per Sq. Ft. (5)
 
Straight-lined Basis Increase Over Prior Rent
Comparable (1)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
   Renewal Leases
 
79

 
179,898

 
2.9

 
$
1.53

 
$
13.91

 
$
13.43

 
10.7
%
   New Leases
 
11

 
27,167

 
4.6

 
5.17

 
14.50

 
12.37

 
28.5
%
   Total
 
90

 
207,065

 
3.1

 
$
2.01

 
$
13.99

 
$
13.29

 
12.8
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Number of Leases Signed
 
GLA Signed
 
Weighted Average Lease Term (2)
 
TI and Incentives per Sq. Ft. (3)
 
Contractual Rent Per Sq. Ft (4)
 
 
 
 
Non-Comparable
 
 
 
 
 
 
 
 
 
 
 
 
 
 
   Renewal Leases
 
1

 
1,275

 
3.0

 
$
0.51

 
$
19.65

 
 
 
 
   New Leases
 
31

 
109,815

 
4.9

 
11.96

 
10.25

 
 
 
 
   Total
 
32

 
111,090

 
4.9

 
$
11.83

 
$
10.35

 
 
 
 

(1)
Comparable leases represent leases signed on spaces for which there was a former tenant within the last twelve months and the new or renewal square footage was within 25% of the expired square footage.

(2) 
Weighted average lease term is determined on the basis of square footage.


24

(3) 
Estimated amount per signed leases. Actual cost of construction may vary. Does not include first generation costs for tenant improvements (“TI”) and leasing commission costs needed for new acquisitions or redevelopment of a property to bring to operating standards for its intended use.

(4) 
Contractual minimum rent under the new lease for the first month, excluding concessions.

(5) 
Contractual minimum rent under the prior lease for the final month.

Contractual Expenditures

The following is a summary of the Company's capital expenditures for the three months ended March 31, 2016 and 2015 (in thousands):

 
 
Three Months Ended March 31,
 
 
2016
 
2015
Capital expenditures:
 
 
 
 
    Tenant improvements and allowances
 
$
1,084

 
$
1,403

    Developments / redevelopments
 
2,689

 
959

    Leasing commissions and costs
 
436

 
242

    Maintenance capital expenditures
 
591

 
514

      Total capital expenditures
 
$
4,800

 
$
3,118


Critical Accounting Policies

In preparing the consolidated financial statements, we have made estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities as of the date of the financial statements and the reported amounts of revenue and expenses during the reported periods. Actual results may differ from these estimates.  A summary of our critical accounting policies is included in our Annual Report on Form 10-K for the year ended December 31, 2015, under “Management's Discussion and Analysis of Financial Condition and Results of Operations.”  There have been no significant changes to these policies during the three months ended March 31, 2016.  For disclosure regarding recent accounting pronouncements and the anticipated impact they will have on our operations, please refer to Note 2 in our Annual Report on Form 10-K for the year ended December 31, 2015.


25

Results of Operations

Comparison of the Three Months Ended March 31, 2016 and 2015
 
The following table provides a summary comparison of our results of operations for the three months ended March 31, 2016 and 2015 (dollars in thousands, except per share and OP unit amounts):

 
 
Three Months Ended March 31,
 
 
2016
 
2015
Number of properties owned and operated
 
69

 
64

Aggregate gross leasable area (sq. ft.)
 
5,881,754

 
5,503,663

Ending occupancy rate - operating portfolio(1)
 
88
%
 
86
%
Ending occupancy rate - all properties
 
87
%
 
86
%
 
 
 
 
 
Total property revenues
 
$
25,435

 
$
21,252

Total property expenses
 
8,148

 
6,987

Total other expenses
 
14,935

 
12,448

Provision for income taxes
 
156

 
83

Gain on sale of properties
 
(2,890
)
 
—

Loss (gain) on disposal of assets
 
(2
)
 
105

Income from continuing operations
 
5,088

 
1,629

Loss from discontinued operations, net of taxes
 
—

 
(8
)
Net income
 
5,088

 
1,621

Less:  Net income attributable to noncontrolling interests
 
91

 
27

Net income attributable to Whitestone REIT
 
$
4,997

 
$
1,594

 
 
 
 
 
Funds from operations core (2)
 
$
9,702

 
$
8,184

Property net operating income (3)
 
17,287

 
14,265

Distributions paid on common shares and OP units
 
7,850

 
6,639

Distributions per common share and OP unit
 
$
0.2850

 
$
0.2850

Distributions paid as a percentage of funds from operations core
 
81
%
 
81
%

(1)  
Excludes (i) new acquisitions, through the earlier of attainment of 90% occupancy or 18 months of ownership, and (ii) properties that are undergoing significant redevelopment or re-tenanting.

(2)  
For a reconciliation of funds from operations core to net income, see “—Reconciliation of Non-GAAP Financial Measures—Funds From Operations Core (“FFO”)” below.

(3)  
For a reconciliation of property net operating income to net income, see “—Reconciliation of Non-GAAP Financial Measures—Property Net Operating Income (“NOI”)” below.


26

Property revenues. We had rental income and tenant reimbursements of approximately $25,435,000 for the three months ended March 31, 2016 as compared to $21,252,000 for the three months ended March 31, 2015, an increase of $4,183,000, or 20%. The three months ended March 31, 2016 included $3,588,000 in increased revenues from New Store operations. We define “New Stores” as properties acquired since the beginning of the period being compared. For purposes of comparing the three months ended March 31, 2016 to the three months ended March 31, 2015, New Stores include properties acquired between January 1, 2015 and March 31, 2016. Same Store revenues increased $595,000 for the three months ended March 31, 2016 as compared to the same period in the prior year. We define “Same Stores” as properties that have been owned since the beginning of the period being compared. For purposes of comparing the three months ended March 31, 2016 to the three months ended March 31, 2015, Same Stores include properties currently owned that were acquired before January 1, 2015. Same Store revenue decreased $89,000 for the three months ended March 31, 2016 as compared to the three months ended March 31, 2015 as the result of a combination of a decrease in the average gross leasable area of approximately 49,000 square feet and an increase in the average occupancy to 86.8% from 86.4%. The Same Store average revenue per leased square foot increased $0.58 for the three months ended March 31, 2016 to $18.52 per leased square foot as compared to the average revenue per leased square foot of $17.94 for the three months ended March 31, 2015, resulting in an increase of Same Store revenues of $684,000.

Property expenses.  Our property expenses were approximately $8,148,000 for the three months ended March 31, 2016 as compared to $6,987,000 for the three months ended March 31, 2015, an increase of $1,161,000, or 17%.  The primary components of total property expenses are detailed in the table below (in thousands, except percentages):

 
 
Three Months Ended March 31,
 
 
 
 
Overall Property Expenses
 
2016
 
2015
 
Change
 
% Change
Real estate taxes
 
$
3,354

 
$
2,904

 
$
450

 
15
%
Utilities
 
1,096

 
1,059

 
37

 
3
%
Contract services
 
1,424

 
1,238

 
186

 
15
%
Repairs and maintenance
 
956

 
650

 
306

 
47
%
Bad debt
 
374

 
211

 
163

 
77
%
Labor and other
 
944

 
925

 
19

 
2
%
Total property expenses
 
$
8,148

 
$
6,987

 
$
1,161

 
17
%

 
 
Three Months Ended March 31,
 
 
 
 
Same Store Property Expenses
 
2016
 
2015
 
Change
 
% Change
Real estate taxes
 
$
2,715

 
$
2,904

 
$
(189
)
 
(7
)%
Utilities
 
991

 
1,059

 
(68
)
 
(6
)%
Contract services
 
1,299

 
1,238

 
61

 
5
 %
Repairs and maintenance
 
922

 
650

 
272

 
42
 %
Bad debt
 
268

 
211

 
57

 
27
 %
Labor and other
 
826

 
925

 
(99
)
 
(11
)%
Total property expenses
 
$
7,021

 
$
6,987

 
$
34

 
0
 %

 
 
Three Months Ended March 31,
 
 
 
 
New Store Property Expenses
 
2016
 
2015
 
Change
 
% Change
Real estate taxes
 
$
639

 
$
—

 
$
639

 
Not meaningful
Utilities
 
105

 
—

 
105

 
Not meaningful
Contract services
 
125

 
—

 
125

 
Not meaningful
Repairs and maintenance
 
34

 
—

 
34

 
Not meaningful
Bad debt
 
106

 
—

 
106

 
Not meaningful
Labor and other
 
118

 
—

 
118

 
Not meaningful
Total property expenses
 
$
1,127

 
$
—

 
$
1,127

 
Not meaningful

27


Real estate taxes.  Real estate taxes increased approximately $450,000, or 15%, during the three months ended March 31, 2016 as compared to the same period in 2015. Real estate taxes for New Store properties increased approximately $639,000 for the three months ended March 31, 2016. Same Store real estate taxes decreased approximately $189,000 during the three months ended March 31, 2016 as compared to the same period in 2015. We actively work to keep our valuations and resulting taxes low because a majority of these taxes are charged to our tenants through triple net leases, and we strive to keep these charges to our tenants as low as possible.

Utilities. Utilities expenses increased approximately $37,000, or 3%, during the three months ended March 31, 2016 as compared to the same period in 2015. Utilities expense increases attributable to New Store properties were approximately $105,000 for the three months ended March 31, 2016. Same Store utilities expenses decreased approximately $68,000, during the three months ended March 31, 2016 as compared to the same period in 2015.

Contract services.  Contract services expenses increased approximately $186,000, or 15%, during the three months ended March 31, 2016 as compared to the same period in 2015. The increase in contract service expenses included $125,000 in increases for New Store properties for the three months ended March 31, 2016. Same Store contract service expenses increased approximately $61,000 during the three months ended March 31, 2016 as compared to the same period in 2015.
  
Repairs and maintenance. Repairs and maintenance expenses increased approximately $306,000, or 47%, during the three months ended March 31, 2016 as compared to the same period in 2015. Repairs and maintenance expenses for the three months ended March 31, 2016 included approximately $34,000 in increases for New Store properties. Same Store repairs and maintenance expenses increased approximately $272,000 during the three months ended March 31, 2016 as compared to the same period in 2015.
 
Bad debt.  Bad debt expenses increased approximately $163,000, or 77%, during the three months ended March 31, 2016 as compared to the same period in 2015. Bad debt expenses for the three months ended March 31, 2016 included approximately $106,000 in increases for New Store properties. Same Store bad debt increased approximately $57,000 during the three months ended March 31, 2016 as compared to the same period in 2015.

Labor and other.  Labor and other expenses increased approximately $19,000, or 2%, during the three months ended March 31, 2016 as compared to the same period in 2015. Labor and other expenses for the three months ended March 31, 2016 included approximately $118,000 in increased cost for New Store properties. Same Store labor and other expenses decreased approximately $99,000 during the three months ended March 31, 2016 as compared to the same period in 2015.

28


Same Store and New Store net operating income. The components of Same Store, New Store and total property net operating income and net income are detailed in the table below (in thousands):

 
 
Three Months Ended March 31,
 
 
 
Percent
 
 
2016
 
2015
 
Change
 
Change
Same Store (51 properties, exclusive of land held for development)
 
 
 
 
 
 
 
 
Property revenues
 
 
 
 
 
 
 
 
Rental revenues
 
$
16,904

 
$
16,464

 
$
440

 
3
 %
Other revenues
 
4,942

 
4,787

 
155

 
3
 %
Total property revenues
 
21,846

 
21,251

 
595

 
3
 %
 
 
 
 
 
 
 
 
 
Property expenses
 
 
 
 
 
 
 
 
Property operation and maintenance
 
4,305

 
4,083

 
222

 
5
 %
Real estate taxes
 
2,716

 
2,904

 
(188
)
 
(6
)%
Total property expenses
 
7,021

 
6,987

 
34

 
0
 %
 
 
 
 
 
 
 
 
 
Total Same Store net operating income
 
14,825

 
14,264

 
561

 
4
 %
 
 
 
 
 
 
 
 
 
New Store (13 properties, exclusive of land held for development)
 
 
 
 
 
 
 
 
Property revenues
 
 
 
 
 
 
 
 
Rental revenues
 
2,518

 
1

 
2,517

 
Not meaningful

Other revenues
 
1,071

 
—

 
1,071

 
Not meaningful

Total property revenues
 
3,589

 
1

 
3,588

 
Not meaningful

 
 
 
 
 
 
 
 
 
Property expenses
 
 
 
 
 
 
 
 
Property operation and maintenance
 
489

 
—

 
489

 
Not meaningful

Real estate taxes
 
638

 
—

 
638

 
Not meaningful

Total property expenses
 
1,127

 
—

 
1,127

 
Not meaningful

 
 
 
 
 
 
 
 
 
Total New Store net operating income
 
2,462

 
1

 
2,461

 
Not meaningful

 
 
 
 
 
 
 
 
 
Total property net operating income
 
17,287

 
14,265

 
3,022

 
21
 %
 
 
 
 
 
 
 
 
 
Less total other expenses, provision for income taxes, gain on sale of properties and loss on disposal of assets
 
12,199

 
12,636

 
(437
)
 
(3
)%
 
 
 
 
 
 
 
 
 
Income from continuing operations
 
5,088

 
1,629

 
3,459

 
212
 %
Income (loss) from discontinued operations, net of taxes
 
—

 
(8
)
 
8

 
(100
)%
 
 
 
 
 
 
 
 
 
Net income
 
$
5,088

 
$
1,621

 
$
3,467

 
214
 %


29


Other expenses.  Our other expenses were approximately $14,935,000 for the three months ended March 31, 2016, as compared to $12,448,000 for the three months ended March 31, 2015, an increase of $2,487,000, or 20%.  The primary components of other expenses are detailed in the table below (in thousands, except percentages):

 
 
Three Months Ended
 
 
 
 
 
 
March 31,
 
 
 
 
 
 
2016
 
2015
 
Change
 
% Change
General and administrative
 
$
4,836

 
$
4,485

 
$
351

 
8
%
Depreciation and amortization
 
5,392

 
4,564

 
828

 
18
%
Interest expense
 
4,804

 
3,408

 
1,396

 
41
%
Interest, dividend and other investment income
 
(97
)
 
(9
)
 
(88
)
 
978
%
Total other expenses
 
$
14,935

 
$
12,448

 
$
2,487

 
20
%

General and administrative. General and administrative expenses increased approximately $351,000, or 8%, for the three months ended March 31, 2016 as compared to the same period in 2015. The increase was comprised of $351,000 in share-based compensation expense, $293,000 in increased salaries and benefits, and offset by $118,000 in decreased professional fees, $109,000 in decreased travel and $66,000 in decreased other increases.

Total compensation recognized in earnings for share-based payments was $2,025,000 and $1,674,000 for the three months ended March 31, 2016 and 2015, respectively.

Based on our current financial projections, we expect approximately 81% of the unvested awards to vest over the next 36 months. As of March 31, 2016, there was approximately $6.3 million in unrecognized compensation cost related to outstanding non-vested performance-based shares, which are expected to vest over a period of 36 months and approximately $5.3 million in unrecognized compensation cost related to outstanding non-vested time-based shares, which are expected to be recognized over a period of approximately 21 months beginning on April 1, 2016.

We expect to record approximately $7.8 million in non-cash share-based compensation expense in 2016 and $5.8 million subsequent to 2016. The unrecognized share-based compensation cost is expected to vest over a weighted average period of 24 months. The dilutive impact of the performance-based shares will be included in the denominator of the earnings per share calculation beginning in the period that the performance conditions are expected to be met.

Depreciation and amortization. Depreciation and amortization increased $828,000, or 18%, for the three months ended March 31, 2016 as compared to the same period in 2015. Depreciation for improvements to Same Store properties decreased $3,000 for the three months ended March 31, 2016 as compared to the same period in 2015. Lease commission amortization and depreciation of corporate assets increased $114,000 for the three months ended March 31, 2016 as compared to the same period in 2015. Depreciation for New Store properties increased $717,000.

Interest expense. Interest expense increased approximately $1,396,000, or 41%, for the three months ended March 31, 2016 as compared to the same period in 2015. The increase in interest expense is comprised of approximately $815,000 in increased interest expense resulting from a $104,592,000 increase in our average notes payable balance, $566,000 in increased interest expense resulting from an increase in the average effective interest rate on our average notes payable from 3.12% to 3.57% and an increase in amortized loan fees included in interest expense of $15,000.

Interest, dividend and other investment income. Interest, dividend and other investment income increased approximately $88,000, or 978%, for the three months ended March 31, 2016 as compared to the same period in 2015. The increase in interest, dividend and other investment income for the three months ended March 31, 2016 as compared to the same period in 2015 is comprised of approximately $91,000 in increased interest income and a $3,000 decrease in dividend income.

30

Property Dispositions. On March 3, 2016, we completed the sale of Brookhill, located in Houston, Texas, for $3.1 million. This disposition was pursuant to our strategy of recycling capital by disposing of non-core properties, primarily properties that we owned at the time our current management team assumed the management of the Company, that do not fit our Community Centered Property™ strategy. We recorded a gain on sale of $1.9 million. The sale was structured as a like-kind exchange within the meaning of Section 1031 of the Code and sales proceeds were deposited into a Section 1031 exchange escrow account with a qualified intermediary and may be used as consideration for future acquisitions. We have not included Brookhill in discontinued operations as it did not meet the definition of discontinued operations.

On February 17, 2016, we completed the sale of approximately 0.5 acres of our 4.5 acre Pinnacle Phase II development parcel, located in Scottsdale, Arizona, for $1.1 million. We recorded a gain on sale of $1.0 million.

The primary components of discontinued operations are detailed in the table below (in thousands):

 
 
Three Months Ended March 31,
 
 
2016
 
2015
Property revenues
 
 
 
 
Rental revenues
 
$
—

 
$
1

Other revenues
 
—

 
—

Total property revenues
 
—

 
1

 
 
 
 
 
Property expenses
 
 
 
 
Property operation and maintenance
 
—

 
8

Real estate taxes
 
—

 
—

Total property expenses
 
—

 
8

 
 
 
 
 
Other expenses
 
 
 
 
Interest expense
 
—

 
—

Depreciation and amortization
 
—

 
—

Total other expense
 
—

 
—

 
 
 
 
 
Income before loss on disposal of assets and income taxes
 
—

 
(7
)
 
 
 
 
 
Provision for income taxes
 
—

 
—

Gain on sale or disposal of property or assets in discontinued operations
 
—

 
(1
)
 
 
 
 
 
Income from discontinued operations
 
$
—

 
$
(8
)




31

Reconciliation of Non-GAAP Financial Measures

Funds From Operations (“FFO”)
 
The National Association of Real Estate Investment Trusts (“NAREIT”) defines FFO as net income (loss) available to common shareholders computed in accordance with U.S. GAAP, excluding gains or losses from sales of operating real estate assets, impairment charges on properties held for investment and extraordinary items, plus depreciation and amortization of operating properties, including our share of unconsolidated real estate joint ventures and partnerships.  We calculate FFO in a manner consistent with the NAREIT definition.
 
Management uses FFO as a supplemental measure to conduct and evaluate our business because there are certain limitations associated with using U.S. GAAP net income (loss) alone as the primary measure of our operating performance. Historical cost accounting for real estate assets in accordance with U.S. GAAP implicitly assumes that the value of real estate assets diminishes predictably over time.  Because real estate values instead have historically risen or fallen with market conditions, management believes that the presentation of operating results for real estate companies that use historical cost accounting is insufficient by itself.  In addition, securities analysts, investors and other interested parties use FFO as the primary metric for comparing the relative performance of equity REITs.  

FFO should not be considered as an alternative to net income or other measurements under U.S. GAAP, as an indicator of our operating performance or to cash flows from operating, investing or financing activities as a measure of liquidity.  FFO does not reflect working capital changes, cash expenditures for capital improvements or principal payments on indebtedness. Although our calculation of FFO is consistent with that of NAREIT, there can be no assurance that FFO presented by us is comparable to similarly titled measures of other REITs.

Funds From Operations Core (“FFO Core”)

Management believes that the computation of FFO in accordance with NAREIT's definition includes certain items
that are not indicative of the results provided by our operating portfolio and affect the comparability of our period-over-period performance. These items include, but are not limited to, legal settlements, non-cash share-based compensation expense, rent support agreement payments received from sellers on acquired assets and acquisition costs. Therefore, in addition to FFO, management uses FFO Core, which we define to exclude such items. Management believes that these adjustments are appropriate in determining FFO Core as they are not indicative of the operating performance of our assets. In addition, we believe that FFO Core is a useful supplemental measure for the investing community to use in comparing us to other REITs as many REITs provide some form of adjusted or modified FFO. However, there can be no assurance that FFO Core presented by us is comparable to the adjusted or modified FFO of other REITs.

Below are the calculations of FFO and FFO Core and the reconciliations to net income, which we believe is the most comparable U.S. GAAP financial measure (in thousands):
 
 
 
Three Months Ended March 31,
FFO AND FFO CORE
 
2016
 
2015
Net income attributable to Whitestone REIT
 
$
4,997

 
$
1,594

Depreciation and amortization of real estate assets
 
5,311

 
4,540

(Gain) loss on sale or disposal of assets and properties
 
(2,892
)
 
105

Net income attributable to noncontrolling interests
 
91

 
27

FFO
 
7,507

 
6,266

 
 
 
 
 
Non cash share-based compensation expense
 
2,025

 
1,674

Acquisition costs
 
170

 
244

FFO Core
 
$
9,702

 
$
8,184





32

Property Net Operating Income (“NOI”)

Management believes that NOI is a useful measure of our property operating performance and is useful to securities analysts in estimating the relative net asset values of REITs. We define NOI as operating revenues (rental and other revenues) less property and related expenses (property operation and maintenance and real estate taxes). Other REITs may use different methodologies for calculating NOI and, accordingly, our NOI may not be comparable to other REITs. Because NOI excludes general and administrative expenses, depreciation and amortization, involuntary conversion, interest expense, interest income, provision for income taxes and gain or loss on sale or disposition of assets, it provides a performance measure that, when compared year over year, reflects the revenues and expenses directly associated with owning and operating commercial real estate properties and the impact to operations from trends in occupancy rates, rental rates and operating costs, providing perspective not immediately apparent from net income. We use NOI to evaluate our operating performance since NOI allows us to evaluate the impact that factors such as occupancy levels, lease structure, lease rates and tenant base have on our results, margins and returns. In addition, management believes that NOI provides useful information to the investment community about our property and operating performance when compared to other REITs since NOI is generally recognized as a standard measure of property performance in the real estate industry. However, NOI should not be viewed as a measure of our overall financial performance since it does not reflect general and administrative expenses, depreciation and amortization, involuntary conversion, interest expense, interest income, provision for income taxes and gain or loss on sale or disposition of assets, the level of capital expenditures and leasing costs necessary to maintain the operating performance of our properties.

Below is the calculation of NOI and the reconciliations to net income, which we believe is the most comparable U.S. GAAP financial measure (in thousands):

 
 
Three Months Ended March 31,
PROPERTY NET OPERATING INCOME
 
2016
 
2015
Net income attributable to Whitestone REIT
 
$
4,997

 
$
1,594

General and administrative expenses
 
4,836

 
4,485

Depreciation and amortization
 
5,392

 
4,564

Interest expense
 
4,804

 
3,408

Interest, dividend and other investment income
 
(97
)
 
(9
)
Provision for income taxes
 
156

 
83

Gain on sale of properties
 
(2,890
)
 
—

(Gain) loss on disposal of assets
 
(2
)
 
105

Income from discontinued operations
 
—

 
8

Net income attributable to noncontrolling interests
 
91

 
27

NOI
 
$
17,287

 
$
14,265


Liquidity and Capital Resources
 
Our short-term liquidity requirements consist primarily of distributions to holders of our common shares and OP units, including those required to maintain our REIT status and satisfy our current quarterly distribution target of $0.2850 per share and OP unit, recurring expenditures, such as repairs and maintenance of our properties, non-recurring expenditures, such as capital improvements and tenant improvements, debt service requirements, and, potentially, acquisitions of additional properties.

     During the three months ended March 31, 2016, our cash provided from operating activities was $5,676,000 and our total distributions were $7,850,000.  Therefore, we had distributions in excess of cash flow from operations of approximately $2,174,000. We anticipate that cash flows from operating activities and our borrowing capacity under our unsecured revolving credit facility will provide adequate capital for our working capital requirements, anticipated capital expenditures and scheduled debt payments in the short term. We also believe that cash flows from operating activities and our borrowing capacity will allow us to make all distributions required for us to continue to qualify to be taxed as a REIT for federal income tax purposes.


33

Our long-term capital requirements consist primarily of maturities under our longer-term debt agreements, development and redevelopment costs, and potential acquisitions. We expect to meet our long-term liquidity requirements with net cash from operations, long-term indebtedness, sales of common shares, issuance of OP units, sales of underperforming properties and other financing opportunities, including debt financing. We believe we have access to multiple sources of capital to fund our long-term liquidity requirements, including the incurrence of additional debt and the issuance of additional equity. However, our ability to incur additional debt will be dependent on a number of factors, including our degree of leverage, the value of our unencumbered assets and borrowing restrictions that may be imposed by lenders. Our ability to access the equity markets will be dependent on a number of factors as well, including general market conditions for REITs and market perceptions about our Company.

We expect that our rental income will increase as we continue to acquire additional properties, subsequently increasing our cash flows generated from operating activities. We intend to continue acquiring such additional properties that meet our Community Centered Property™ strategy through equity issuances and debt financing.

As discussed in Note 10 (Equity) to the accompanying consolidated financial statements, on June 26, 2015, we completed the sale of 3,750,000 common shares at a purchase price of $13.3386 per share. Total net proceeds from the offering, after deducting offering expenses, were approximately $49.7 million, which we contributed to the Operating Partnership in exchange for OP units. The Operating Partnership used the net proceeds from this offering to repay a portion of the Facility and for general corporate purposes. In addition, on June 4, 2015, we entered into the 2015 equity distribution agreements, as discussed in Note 10 to the accompanying consolidated financial statements.  Pursuant to the terms and conditions of the 2015 equity distribution agreements, we can issue and sell up to an aggregate of $50 million of our common shares into the existing trading market at current market prices or at negotiated prices through the placement agents over a period of time and from time to time. We have not sold any common shares under the 2015 equity distribution agreements.  We anticipate using net proceeds from common shares issued pursuant to the 2015 equity distribution agreements for general corporate purposes, which may include acquisitions of additional properties, the repayment of outstanding indebtedness, capital expenditures, the expansion, redevelopment and/or re-tenanting of properties in our portfolio, working capital and other general purposes.

Our capital structure includes non-recourse mortgage debt that we have assumed or originated on certain properties. We may hedge the future cash flows of certain variable rate debt transactions principally through interest rate swaps with major financial institutions. See Note 7 (Derivatives and Hedging Activities) to the accompanying consolidated financial statements for a description of our current cash flow hedges.

As discussed in Note 2 (Summary of Significant Accounting Policies) to the accompanying consolidated financial statements, pursuant to the terms of our $15.1 million 4.99% Note, due January 6, 2024 (See Note 6 (Debt) to the accompanying consolidated financial statements), which is collateralized by our Anthem Marketplace property, we were required by the lenders thereunder to establish a cash management account controlled by the lenders to collect all amounts generated by our Anthem Marketplace property in order to collateralize such promissory note. Amounts in the cash management account are classified as restricted cash.
  
Cash and Cash Equivalents
 
We had cash and cash equivalents of approximately $2,447,000 as of March 31, 2016, as compared to $2,587,000 on December 31, 2015.  The decrease of $140,000 was primarily the result of the following:
 
Sources of Cash
 
•
Cash flow from operations of $5,676,000 for the three months ended March 31, 2016;

•
Proceeds of $7,000,000 from the Facility;

•
Proceeds of $1,097,000 from sale of property;

Uses of Cash

•
Payment of distributions to common shareholders and OP unit holders of $7,850,000;

•
Additions to real estate of $4,364,000;


34

•
Repurchase of common shares of $871,000;

•
Payments of notes payable of $739,000; and

•
Change in restricted cash of $89,000;

     We place all cash in short-term, highly liquid investments that we believe provide appropriate safety of principal.

Debt

Debt consisted of the following as of the dates indicated (in thousands):
Description
 
March 31, 2016
 
December 31, 2015
Fixed rate notes
 
 
 
 
$10.5 million, LIBOR plus 2.00% Note, due September 24, 2018 (1)
 
$
10,160

 
$
10,220

$50.0 million, 0.84% plus 1.35% to 1.90% Note, due October 30, 2020 (2)
 
50,000

 
50,000

$50.0 million, 1.50% plus 1.35% to 1.90% Note, due January 29, 2021 (3)
 
50,000

 
50,000

$100.0 million, 1.73% plus 1.65% to 2.25% Note, due October 30, 2022 (4)
 
100,000

 
100,000

$37.0 million 3.76% Note, due December 1, 2020
 
34,904

 
35,146

$6.5 million 3.80% Note, due January 1, 2019
 
6,148

 
6,190

$19.0 million 4.15% Note, due December 1, 2024
 
19,000

 
19,000

$20.2 million 4.28% Note, due June 6, 2023
 
19,957

 
20,040

$14.0 million 4.34% Note, due September 11, 2024
 
14,000

 
14,000

$14.3 million 4.34% Note, due September 11, 2024
 
14,300

 
14,300

$16.5 million 4.97% Note, due September 26, 2023
 
16,450

 
16,450

$15.1 million 4.99% Note, due January 6, 2024
 
15,060

 
15,060

$9.2 million, Prime Rate less 2.00% Note, due December 29, 2017 (5)
 
7,882

 
7,886

$2.6 million 5.46% Note, due October 1, 2023
 
2,541

 
2,550

$11.1 million 5.87% Note, due August 6, 2016
 
11,228

 
11,305

$1.1 million 2.97% Note, due November 28, 2016
 
823

 
—

Floating rate notes
 
 
 
 
Unsecured line of credit, LIBOR plus 1.40% to 1.95%, due October 30, 2019
 
134,600

 
127,600

Total notes payable principal
 
507,053

 
499,747

Less deferred financing costs, net of accumulated amortization
 
(1,716
)
 
(1,792
)
 
 
$
505,337

 
$
497,955


(1) 
Promissory note includes an interest rate swap that fixed the interest rate at 3.55% for the duration of the term.

(2) 
Promissory note includes an interest rate swap that fixed the LIBOR portion of Term Loan 1 (as defined below) at 0.84% through February 3, 2017 and 1.75% beginning February 3, 2017 through October 30, 2020.

(3) 
Promissory note includes an interest rate swap that fixed the LIBOR portion of Term Loan 2 (as defined below) at 1.50%.

(4) 
Promissory note includes an interest rate swap that fixed the LIBOR portion of Term Loan 3 (as defined below) at 1.73%,

(5) 
Promissory note includes an interest rate swap that fixed the interest rate at 5.72% for the duration of the term. As part of our acquisition of Paradise Plaza in August 2012, we recorded a discount on the note of $1.3 million, which amortizes into interest expense over the life of the loan and results in an imputed interest rate of 4.13%.


35

On November 7, 2014, we, through our Operating Partnership, entered into an unsecured revolving credit facility (the “2014 Facility”) with the lenders party thereto, with BMO Capital Markets, Wells Fargo Securities, LLC, Merrill Lynch, Pierce, Fenner & Smith Incorporated, and U.S. Bank, National Association, as co-lead arrangers and joint book runners, and Bank of Montreal, as administrative agent (the “Agent”). The 2014 Facility amended and restated our previous unsecured revolving credit facility. On October 30, 2015, we, through our Operating Partnership, entered into the First Amendment to the 2014 Facility (the “First Amendment”) with the guarantors party thereto, the lenders party thereto and the Agent. We refer to the 2014 Facility, as amended by the First Amendment, as the “Facility.”

Pursuant to the First Amendment, the Company made the following amendments to the 2014 Facility:

•
extended the maturity date of the $300 million unsecured revolving credit facility under the 2014 Facility (the “Revolver”) to October 30, 2019 from November 7, 2018;

•
converted $100 million of outstanding borrowings under the Revolver to a new $100 million unsecured term loan under the 2014 Facility (“Term Loan 3”) with a maturity date of October 30, 2022;

•
extended the maturity date of the first $50 million unsecured term loan under the 2014 Facility (“Term Loan 1”) to October 30, 2020 from February 17, 2017; and

•
extended the maturity date of the second $50 million unsecured term loan under the 2014 Facility (“Term Loan 2” and together with Term Loan 1 and Term Loan 3, the “Term Loans”) to January 29, 2021 from November 7, 2019.
    
Borrowings under the Facility accrue interest (at the Operating Partnership's option) at a Base Rate or an Adjusted LIBOR plus an applicable margin based upon our then existing leverage. The applicable margin for Adjusted LIBOR borrowings ranges from 1.40% to 1.95% for the Revolver and 1.35% to 2.25% for the Term Loans. Base Rate means the higher of: (a) the Agent's prime commercial rate, (b) the sum of (i) the average rate quoted by the Agent by two or more federal funds brokers selected by the Agent for sale to the Agent at face value of federal funds in the secondary market in an amount equal or comparable to the principal amount for which such rate is being determined, plus (ii) 1/2 of 1.00%, and (c) the LIBOR rate for such day plus 1.00%. Adjusted LIBOR means LIBOR divided by one minus the Eurodollar Reserve Percentage. The Eurodollar Reserve Percentage means the maximum reserve percentage at which reserves are imposed by the Board of Governors of the Federal Reserve System on eurocurrency liabilities.

We serve as the guarantor for funds borrowed by the Operating Partnership under the Facility. The Facility contains customary terms and conditions, including, without limitation, affirmative and negative covenants such as information reporting requirements, maximum secured indebtedness to total asset value, minimum EBITDA (earnings before interest, taxes, depreciation, amortization or extraordinary items) to fixed charges, and maintenance of a minimum net worth. The Facility also contains customary events of default with customary notice and cure, including, without limitation, nonpayment, breach of covenant, misrepresentation of representations and warranties in a material respect, cross-default to other major indebtedness, change of control, bankruptcy and loss of REIT tax status.

The Facility includes an accordion feature that will allow the Operating Partnership to increase the borrowing capacity to $700 million, upon the satisfaction of certain conditions. As of March 31, 2016, $334.6 million was drawn on the Facility, and our remaining borrowing capacity was $165.4 million. Proceeds from the Facility were used for general corporate purposes, including property acquisitions, debt repayment, capital expenditures, the expansion, redevelopment and retenanting of properties in our portfolio and working capital. We intend to use the additional proceeds from the Facility for general corporate purposes, including property acquisitions, debt repayment, capital expenditure, the expansion, redevelopment and re-tenanting of properties in our portfolio and working capital.

As of March 31, 2016, our $171.6 million in secured debt was collateralized by 20 properties with a carrying value of $213.1 million.  Our loans contain restrictions that would require the payment of prepayment penalties for the acceleration of outstanding debt and are secured by deeds of trust on certain of our properties and by assignment of the rents and leases associated with those properties.  As of March 31, 2016, we were in compliance with all loan covenants.


36

Scheduled maturities of our outstanding debt as of March 31, 2016 were as follows (in thousands):
 
 
 
Year
 
Amount Due
 
 
 
2016
 
$
13,583

2017
 
10,213

2018
 
12,136

2019
 
142,649

2020
 
82,827

Thereafter
 
245,645

Total
 
$
507,053


Capital Expenditures
 
We continually evaluate our properties’ performance and value. We may determine it is in our shareholders’ best interest to invest capital in properties that we believe have potential for increasing value. We also may have unexpected capital expenditures or improvements for our existing assets. Additionally, we intend to continue investing in similar properties outside of the markets on which we focus in cities with exceptional demographics to diversify market risk, and we may incur significant capital expenditures or make improvements in connection with any properties we may acquire.

Contractual Obligations

During the three months ended March 31, 2016, there were no material changes outside of the ordinary course of business to the information regarding specified contractual obligations contained in our Annual Report on Form 10-K for the year ended December 31, 2015.

Distributions
 
The following table summarizes the cash distributions paid or payable to holders of our common shares and noncontrolling OP units during each quarter during 2015 and the three months ended March 31, 2016 (in thousands, except per share data):

 
 
Common Shares
 
Noncontrolling OP Unit Holders
 
Total
Quarter Paid
 
Distributions Per Common Share
 
 Amount Paid
 
Distributions Per OP Unit
 
 Amount Paid
 
Amount Paid
2016
 
 
 
 
 
 
 
 
 
 
First Quarter
 
$
0.2850

 
$
7,711

 
$
0.2850

 
$
139

 
$
7,850

Total
 
$
0.2850

 
$
7,711

 
$
0.2850

 
$
139

 
$
7,850

 
 
 
 
 
 
 
 
 
 
 
2015
 
 
 
 
 
 
 
 
 
 
Fourth Quarter
 
$
0.2850

 
$
7,666

 
$
0.2850

 
$
143

 
$
7,809

Third Quarter
 
0.2850

 
7,664

 
0.2850

 
122

 
7,786

Second Quarter
 
0.2850

 
6,601

 
0.2850

 
111

 
6,712

First Quarter
 
0.2850

 
6,526

 
0.2850

 
113

 
6,639

Total
 
$
1.1400

 
$
28,457

 
$
1.1400

 
$
489

 
$
28,946



37

Taxes
 
We elected to be taxed as a REIT under the Code beginning with our taxable year ended December 31, 1999.  As a REIT, we generally are not subject to federal income tax on income that we distribute to our shareholders.  If we fail to qualify as a REIT in any taxable year, we will be subject to federal income tax on our taxable income at regular corporate rates.  We believe that we are organized and operate in a manner to qualify and be taxed as a REIT, and we intend to operate so as to remain qualified as a REIT for federal income tax purposes.

Income earned by our taxable REIT subsidiary, Whitestone Davenport TRS LLC (“Davenport TRS”), is subject to federal income tax. For the three months ended March 31, 2016, we recognized $45,000 in income tax expense related to Davenport TRS for the 2015 taxable year.

Environmental Matters

Our properties are subject to environmental laws and regulations adopted by various governmental authorities in the jurisdictions in which our operations are conducted. From our inception, we have incurred no significant environmental costs, accrued liabilities or expenditures to mitigate or eliminate future environmental contamination.

Off-Balance Sheet Arrangements
 
We had no significant off-balance sheet arrangements as of March 31, 2016 and December 31, 2015.

Item 3.  Quantitative and Qualitative Disclosures About Market Risk.

Our future income, cash flows and fair value relevant to our financial instruments depend upon prevailing market interest rates. Market risk refers to the risk of loss from adverse changes in market prices and interest rates. Based upon the nature of our operations, we are not subject to foreign exchange rate or commodity price risk. The principal market risk to which we are exposed is the risk related to interest rate fluctuations. Many factors, including governmental monetary and tax policies, domestic and international economic and political considerations, and other factors that are beyond our control contribute to interest rate risk. Our interest rate risk objective is to limit the impact of interest rate fluctuations on earnings and cash flows and to lower our overall borrowing costs. To achieve this objective, we manage our exposure to fluctuations in market interest rates for our borrowings through the use of fixed rate debt instruments to the extent that reasonably favorable rates are obtainable.

All of our financial instruments were entered into for other than trading purposes.

Fixed Interest Rate Debt

As of March 31, 2016, $372.5 million, or approximately 73% of our outstanding debt, was subject to fixed interest rates, which limit the risk of fluctuating interest rates. Though a change in the market interest rates affects the fair market value of our fixed interest rate debt, it does not impact net income to shareholders or cash flows. Our total outstanding fixed interest rate debt had an average effective interest rate as of March 31, 2016 of approximately 3.82% per annum with scheduled maturities ranging from 2016 to 2024 (see Note 6 (Debt) to the accompanying consolidated financial statements for further detail). Holding other variables constant, a 1% increase or decrease in interest rates would cause an $16.2 million decline or increase, respectively, in the fair value for our fixed rate debt.

Variable Interest Rate Debt

As of March 31, 2016, $134.6 million, or approximately 27% of our outstanding debt, was subject to floating interest rates of LIBOR plus 1.40% to 1.95% and not currently subject to a hedge. The impact of a 1% increase or decrease in interest rates on our non-hedged variable rate debt would result in a decrease or increase of annual net income of approximately $1.3 million, respectively.


38

Item 4.  Controls and Procedures.

Evaluation of Disclosure Controls and Procedures
 
The management of Whitestone REIT, under the supervision and with the participation of our principal executive and financial officers, has evaluated the effectiveness of our disclosure controls and procedures in ensuring that the information required to be disclosed in our filings under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms, including ensuring that such information is accumulated and communicated to Whitestone REIT's management, as appropriate, to allow timely decisions regarding required disclosure. Based on such evaluation, our principal executive and financial officers have concluded that such disclosure controls and procedures were effective as of March 31, 2016 (the end of the period covered by this Report).

Changes in Internal Control Over Financial Reporting

During the three months ended March 31, 2016, there were no changes in our internal control over financial reporting that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.


39

PART II. OTHER INFORMATION

Item 1. Legal Proceedings.

We are subject to various legal proceedings and claims that arise in the ordinary course of business.  These matters are generally covered by insurance.  While the resolution of these matters cannot be predicted with certainty, management believes the final outcome of such matters will not have a material adverse effect on our financial position, results of operations or liquidity.

Item 1A. Risk Factors.
 
There have been no material changes from the risk factors disclosed in the “Risk Factors” section of Whitestone's Annual Report on Form 10-K for the year ended December 31, 2015.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.

(a)
During the period covered by this Form 10-Q, we did not sell any equity securities that were not registered under the Securities Act of 1933, as amended.

(b)
Not applicable.

(c)
Issuer Purchases of Equity Securities

During the three months ended March 31, 2016, certain of our employees tendered owned common shares to satisfy the tax withholding on the lapse of certain restrictions on restricted common shares issued under the 2008 Plan. The following table summarizes all of these repurchases during the three months ended March 31, 2016.

Period
 
Total Number of Shares Purchased (1)
 
Average Price Paid for Shares
 
Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs
 
Maximum Number of Shares that May Yet be Purchased Under the Plans or Programs
January 1, 2016 through January 31, 2016
 
—

 
$
—

 
N/A
 
N/A
February 1, 2016 through February 29, 2016
 
—

 
—

 
N/A
 
N/A
March 1, 2016 through March 31, 2016
 
46,988

 
12.57

 
N/A
 
N/A
      Total
 
46,988

 
$
12.57

 
 
 
 

(1)    The number of shares purchased represents common shares held by employees who tendered owned common shares to satisfy the tax withholding on the lapse of certain restrictions on restricted common shares issued under the 2008 Plan. With respect to these shares, the price paid per share is based on the fair market value at the time of tender.

Item 3. Defaults Upon Senior Securities.

None.

Item 4. Mine Safety Disclosures.

Not applicable.

Item 5. Other Information.

None.

40

Item 6. Exhibits.

The exhibits listed on the accompanying Exhibit index are filed, furnished and incorporated by reference (as stated therein) as part of this Report.


41

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.


 
 
 
 
 
WHITESTONE REIT
 
 
 
Date:
April 29, 2016
 
 
/s/ James C. Mastandrea 
 
 
 
 
James C. Mastandrea
 
 
 
 
Chief Executive Officer
 
 
 
 
(Principal Executive Officer)
 
Date:
April 29, 2016
 
 
/s/ David K. Holeman
 
 
 
 
David K. Holeman
 
 
 
 
Chief Financial Officer
 
 
 
 
(Principal Financial and Principal Accounting Officer)


42

EXHIBIT INDEX
Exhibit No.
Description
3.1.1
Articles of Amendment and Restatement of Declaration of Trust (previously filed as and incorporated by reference to Exhibit 3.1 to the Registrant's Current Report on Form 8-K, filed on July 31, 2008)
3.1.2
Articles Supplementary (previously filed as and incorporated by reference to Exhibit 3(i).1 to the Registrant's Current Report on Form 8-K, filed on December 6, 2006)
3.1.3
Articles of Amendment (previously filed as and incorporated by reference to Exhibit 3.1 to the Registrant's Current Report on Form 8-K, filed on August 24, 2010)
3.1.4
Articles of Amendment (previously filed as and incorporated by reference to Exhibit 3.2 to the Registrant's Current Report on Form 8-K, filed on August 24, 2010)
3.1.5
Articles Supplementary (previously filed as and incorporated by reference to Exhibit 3.3 to the Registrant's Current Report on Form 8-K, filed on August 24, 2010)
3.1.6
Articles of Amendment (previously filed as and incorporated by reference to Exhibit 3.1.1 to the Registrant's Current Report on Form 8-K, filed on June 27, 2012)
3.1.7
Articles of Amendment (previously filed as and incorporated by reference to Exhibit 3.1.2 to Registrant's Current Report on Form 8-K, filed on June 27, 2012)
3.2
Amended and Restated Bylaws (previously filed as and incorporated by reference to Exhibit 3.1 to the Registrant's Current Report on Form 8-K, filed on October 9, 2008)
12.1*
Statement of Calculation of Consolidated Ratio of Earnings to Fixed Charges.
31.1*
Certification of Principal Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2*
Certification of Principal Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1**
Certificate of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2**
Certificate of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
101.INS***
XBRL Instance Document
 
 
101.SCH***
XBRL Taxonomy Extension Schema Document
 
 
101.CAL***
XBRL Taxonomy Extension Calculation Linkbase Document
 
 
101.LAB***
XBRL Taxonomy Extension Label Linkbase Document
 
 
101.PRE***
XBRL Taxonomy Extension Presentation Linkbase Document
 
 
101.DEF***
XBRL Taxonomy Extension Definition Linkbase Document
 ________________________
 
*       Filed herewith.
**     Furnished herewith.
***    The following financial information of the Registrant for the quarter ended March 31, 2016, formatted in XBRL (eXtensible Business Reporting Language): (i) the Consolidated Balance Sheets as of March 31, 2016 (unaudited) and December 31, 2015, (ii) the Consolidated Statements of Operations and Comprehensive Income (Loss) for the three months ended March 31, 2016 and 2015 (unaudited), (iii) the Consolidated Statements of Changes in Equity for the three months ended March 31, 2016 (unaudited), (iv) the Consolidated Statement of Cash Flows for the three months ended March 31, 2016 and 2015 (unaudited) and (v) the Notes to the Consolidated Financial Statements (unaudited).
    
Pursuant to Rule 406T of Regulation S-T, the Interactive Data Files on Exhibit 101 hereto are deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, are deemed not filed for purposes of Section 18 of the Securities and Exchange Act of 1934, as amended, and otherwise are not subject to liability under those sections.

Whitestone REIT Reports