NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
1. Organization, Ownership and Basis of Presentation
Organization and Ownership
Kilroy Realty Corporation (the “Company”) is a self-administered real estate investment trust (“REIT”) active in premier office and mixed-use submarkets along the West Coast. We own, develop, acquire and manage real estate assets, consisting primarily of Class A properties in the coastal regions of Greater Los Angeles, Orange County, San Diego County, the San Francisco Bay Area and Greater Seattle, which we believe have strategic advantages and strong barriers to entry. Class A real estate encompasses attractive and efficient buildings of high quality that are attractive to tenants, are well-designed and constructed with above-average material, workmanship and finishes and are well-maintained and managed. We qualify as a REIT under the Internal Revenue Code of 1986, as amended (the “Code”). The Company’s common stock is publicly traded on the New York Stock Exchange (“NYSE”) under the ticker symbol “KRC”.
We own our interests in all of our real estate assets through Kilroy Realty, L.P. (the “Operating Partnership”) and Kilroy Realty Finance Partnership, L.P. (the “Finance Partnership”). We generally conduct substantially all of our operations through the Operating Partnership. Unless stated otherwise or the context indicates otherwise, the terms “Kilroy Realty Corporation” or the “Company,” “we,” “our,” and “us” refer to Kilroy Realty Corporation and its consolidated subsidiaries and the term “Operating Partnership” refers to Kilroy Realty, L.P. and its consolidated subsidiaries. The descriptions of our business, employees and properties apply to both the Company and the Operating Partnership.
Our stabilized portfolio of operating properties was comprised of the following properties at
March 31, 2019
:
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Number of
Buildings
|
|
Rentable
Square Feet
|
|
Number of
Tenants
|
|
Percentage
Occupied
|
|
Percentage Leased
|
|
Stabilized Office Properties
|
94
|
|
|
13,236,373
|
|
|
473
|
|
|
92.5
|
%
|
|
96.2
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Number of
Buildings
|
|
Number of
Units
|
|
2019 Average Occupancy
|
|
Stabilized Residential Property
|
1
|
|
|
200
|
|
|
72.8
|
%
|
Our stabilized portfolio includes all of our properties with the exception of development and redevelopment properties currently committed for construction, under construction, or in the tenant improvement phase, undeveloped land and real estate assets held for sale. We define redevelopment properties as those properties for which we expect to spend significant development and construction costs on the existing or acquired buildings pursuant to a formal plan, the intended result of which is a higher economic return on the property. We define properties in the tenant improvement phase as properties that we are developing or redeveloping where the project has reached cold shell condition and is ready for tenant improvements, which may require additional major base building construction before being placed in service. Projects in the tenant improvement phase are added to our stabilized portfolio once the project reaches the earlier of
95%
occupancy or
one
year from the date of the cessation of major base building construction activities. Costs capitalized to construction in progress for development and redevelopment properties are transferred to land and improvements, buildings and improvements, and deferred leasing costs on our consolidated balance sheets at the historical cost of the property as the projects are placed in service.
As of
March 31, 2019
, the following properties were excluded from our stabilized portfolio. We did not have any redevelopment properties or properties held for sale at
March 31, 2019
.
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|
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|
Number of
Properties/Projects
|
|
Estimated Rentable
Square Feet
(1)
|
|
In-process development projects - tenant improvement
(2)
|
3
|
|
1,246,000
|
|
|
In-process development projects - under construction
(3)
|
5
|
|
2,080,000
|
|
________________________
|
|
|
|
(1)
|
Estimated rentable square feet upon completion.
|
|
|
|
|
(2)
|
Includes
88,000
square feet of Production, Distribution, and Repair (“PDR”) space and
96,000
square feet of retail space.
|
|
|
|
|
(3)
|
In addition to the estimated office rentable square feet noted above, development projects under construction also include
801
residential units.
|
Our stabilized portfolio also excludes our future development pipeline, which as of
March 31, 2019
was comprised of
four
potential development sites, representing approximately
59
gross acres of undeveloped land.
KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
As of
March 31, 2019
, all of our properties and development projects were owned and all of our business was conducted in the state of California with the exception of
eight
office properties and
one
development project under construction located in the state of Washington. All of our properties and development projects are
100%
owned, excluding
four
office properties owned by
three
consolidated property partnerships.
Two
of the
three
property partnerships, 100 First Street Member, LLC (“100 First LLC”) and 303 Second Street Member, LLC (“303 Second LLC”), each owned
one
office property in San Francisco, California through subsidiary REITs. As of
March 31, 2019
, the Company owned a
56%
common equity interest in both 100 First LLC and 303 Second LLC. The third property partnership, Redwood City Partners, LLC (“Redwood LLC”) owned
two
office properties in Redwood City, California. As of
March 31, 2019
, the Company owned an approximate
93%
common equity interest in Redwood LLC. The remaining interests in all
three
property partnerships were owned by unrelated third parties.
Ownership and Basis of Presentation
The consolidated financial statements of the Company include the consolidated financial position and results of operations of the Company, the Operating Partnership, the Finance Partnership, 303 Second LLC, 100 First LLC, Redwood LLC and all of our wholly-owned and controlled subsidiaries. The consolidated financial statements of the Operating Partnership include the consolidated financial position and results of operations of the Operating Partnership, the Finance Partnership, 303 Second LLC, 100 First LLC, Redwood LLC and all of our wholly-owned and controlled subsidiaries. All intercompany balances and transactions have been eliminated in the consolidated financial statements.
As of
March 31, 2019
, the Company owned an approximate
98.0%
common general partnership interest in the Operating Partnership. The remaining approximate
2.0%
common limited partnership interest in the Operating Partnership as of
March 31, 2019
was owned by non-affiliated investors and certain of our executive officers and directors. Both the general and limited common partnership interests in the Operating Partnership are denominated in common units. Generally, the number of common units held by the Company is equivalent to the number of outstanding shares of the Company’s common stock, and the rights of all the common units to quarterly distributions and payments in liquidation mirror those of the Company’s common stockholders. The common limited partners have certain redemption rights as provided in the Operating Partnership’s Seventh Amended and Restated Agreement of Limited Partnership, as amended, the “Partnership Agreement”.
Kilroy Realty Finance, Inc., which is a wholly-owned subsidiary of the Company, is the sole general partner of the Finance Partnership and owns a
1.0%
common general partnership interest in the Finance Partnership. The Operating Partnership owns the remaining
99.0%
common limited partnership interest. With the exception of the Operating Partnership and our consolidated property partnerships, all of our subsidiaries are wholly-owned.
The accompanying interim financial statements have been prepared by management in accordance with accounting principles generally accepted in the United States of America (“GAAP”) and in conjunction with the rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures required for annual financial statements have been condensed or excluded pursuant to SEC rules and regulations. Accordingly, the interim financial statements do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, the accompanying interim financial statements reflect all adjustments of a normal and recurring nature that are considered necessary for a fair presentation of the results for the interim periods presented. However, the results of operations for the interim periods are not necessarily indicative of the results that may be expected for the year ending December 31,
2019
. The interim financial statements for the Company and the Operating Partnership should be read in conjunction with the audited consolidated financial statements and notes thereto included in our annual report on Form 10-K for the year ended
December 31, 2018
.
Variable Interest Entities
The Operating Partnership is a variable interest entity (“VIE”) that is consolidated by the Company as the primary beneficiary as the Operating Partnership is a limited partnership in which the common limited partners do not have substantive kick-out or participating rights. At
March 31, 2019
, the consolidated financial statements of the Company included
two
VIEs in addition to the Operating Partnership: 100 First LLC and 303 Second LLC. At
March 31, 2019
, the Operating Partnership was determined to be the primary beneficiary of these
two
VIEs since the Operating Partnership had the ability to control the activities that most significantly impact each of the VIE’s economic performance. As of
March 31, 2019
, the
two
VIEs’ total assets, liabilities and noncontrolling interests included on our consolidated balance sheet were approximately
$452.4 million
(of which
$396.5 million
related to real estate held for investment), approximately
$32.1 million
and approximately
$184.3 million
, respectively. Revenues, income and net assets generated by 100 First LLC and 303 Second LLC may only be used to settle their contractual obligations, which primarily consist of operating expenses, capital expenditures and required distributions.
KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
At
December 31, 2018
, the consolidated financial statements of the Company and the Operating Partnership included
three
VIEs in which we were deemed to be the primary beneficiary: 100 First LLC, 303 Second LLC and an entity established during the fourth quarter of 2018 to facilitate a transaction intended to qualify as a like-kind exchange pursuant to Section 1031 of the Code (“Section 1031 Exchange”). In January 2019, the Section 1031 Exchange was successfully completed and the related VIE was terminated. At
December 31, 2018
, the impact of consolidating the VIEs increased the Company’s total assets, liabilities and noncontrolling interests on our consolidated balance sheet by approximately
$615.4 million
(of which
$543.9 million
related to real estate held for investment), approximately
$45.1 million
and approximately
$186.4 million
, respectively.
Accounting Pronouncements Adopted January 1, 2019
Effective January 1, 2019, we adopted Financial Accounting Standards Board (“FASB”) ASU No. 2016-02 “Leases (Topic 842)” (“Topic 842”) and the related FASB ASU Nos. 2018-01, 2018-10, 2018-11, 2018-20 and 2019-01 which provide practical expedients, technical corrections and improvements for certain aspects of ASU 2016-02, on a modified retrospective basis. Topic 842 establishes a single comprehensive model for entities to use in accounting for leases and supersedes the existing leasing guidance. We evaluated each of the Company’s contracts to determine if the contract is or contains a lease and concluded that Topic 842 is applicable to the Company as a lessor in its tenant lease agreements and as a lessee in its ground leases.
Lessor Accounting
As a lessor, the Company’s leases with tenants for its real estate assets generally provide for the lease of space, as well as common area maintenance and parking. Under Topic 842, the lease of space is considered a lease component while the common area maintenance billings and tenant parking are considered nonlease components, which fall under revenue recognition guidance in Topic 606. However, upon adopting the guidance in Topic 842, the Company determined that its tenant leases met the criteria to apply the practical expedient provided by ASU 2018-11 to recognize the lease and non-lease components together as one single component. This conclusion was based on the consideration that 1) the timing and pattern of transfer of the nonlease components and associated lease component are the same, and 2) the lease component, if accounted for separately, would be classified as an operating lease. As the lease of space is the predominant component of the Company’s leasing arrangements, we accounted for all lease and non-lease components as one single component under Topic 842. As a result, the adoption of Topic 842 did not have any impact on the Company’s timing or pattern of recognition of rental revenues as compared to previous guidance. Transient daily parking revenue will be accounted for under the guidance in Topic 606 and included in other property income in our consolidated statements of operations.
To reflect their recognition as one lease component, rental revenues, tenant reimbursements and other lease related property income related to leases that also meet the requirements of the practical expedient provided by ASU 2018-11 have been combined in one line item subsequent to the adoption of Topic 842 for the
three
months ended March 31, 2019 in rental income on the Company’s consolidated statements of operations. In addition, under Topic 842, lessor costs for certain services directly reimbursed by tenants, which were previously presented on a net basis under previous guidance, are required to be presented on a gross basis in revenues and expenses. During the
three
months ended March 31, 2019, we incurred additional property expenses of
$3.0 million
, for which we were reimbursed, that were not required to be grossed up under the previous guidance. We presented this amount on a gross basis within rental income and property expenses in the Company’s consolidated statements of operations as a result of the adoption, which had no impact on net income.
Leasing Costs
Upon adoption of Topic 842, the Company elected to apply the package of practical expedients provided and did not reassess the following as of January 1, 2019: 1) whether any expired or existing contracts are or contain leases; 2) the lease classification for any expired or existing leases; and 3) initial direct costs for any existing leases. Under Topic 842, initial direct costs for both lessees and lessors would include only those costs that are incremental to the arrangement and would not have been incurred if the lease had not been obtained. As a result, beginning January 1, 2019, the Company will no longer capitalize internal leasing costs and third-party legal leasing costs and instead will expense these costs as incurred. These expenses are included in leasing costs and general and administrative expenses on our consolidated statements of operations in 2019. During the
three
months ended March 31, 2019, the Company expensed approximately
$2.6 million
of indirect leasing costs which would have been capitalized prior to the adoption of Topic 842.
The election of the package of practical expedients described above permits us to continue to account for our leases that commenced before January 1, 2019 under the previously existing lease accounting guidance for the remainder of their lease terms, and to apply the new lease accounting guidance to leases commencing or modified after January 1, 2019. On January 1, 2019, we recognized a
$3.1 million
cumulative-effect adjustment, primarily related to internal leasing costs and legal leasing costs for
KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
tenant leases that had not commenced prior to that date, to increase distributions in excess of earnings for the Company and partners’ capital for the Operating Partnership in connection with our adoption of Topic 842.
Allowances for Tenant and Deferred Rent Receivables
Upon the adoption of Topic 842 on January 1, 2019, our determination of the adequacy of the Company’s allowances for tenant receivables includes a binary assessment of whether or not the amounts due under a tenant’s lease agreement are probable of collection. For such amounts that are deemed probable of collection, revenue continues to be recorded on a straight-line basis over the lease term. For such amounts that are deemed not probable of collection, revenue is recorded as the lesser of (i) the amount which would be recognized on a straight-line basis or (ii) cash that has been received from the tenant, with any tenant and deferred rent receivable balances charged as a direct write-off against rental income in the period of the change in the collectability determination. In addition, for tenant and deferred rent receivables deemed probable of collection we also may record an allowance under other authoritative GAAP depending upon our evaluation of the individual receivables, specific credit enhancements, current economic conditions, and other relevant factors. Such allowances are recorded as increases or decreases through rental income on our consolidated statements of operations.
Lessee Accounting
The Company’s ground leases are the primary contracts in which we are the lessee. Upon adoption of Topic 842 on January 1, 2019, the Company had
four
existing ground leases which were classified as operating leases. We elected to apply the practical expedient to use hindsight in determining the lease term of our existing ground leases. As discussed above, the Company also elected to apply the package of practical expedients provided by Topic 842 and therefore did not reassess the classification of these ground leases. Existing ground leases that commenced before the January 1, 2019 adoption date continued to be accounted for as operating leases, and the new guidance did not have a material impact on our recognition of ground lease expense or our results of operations. However, for periods beginning after January 1, 2019, we are now required to recognize a lease liability on our consolidated balance sheets equal to the present value of the minimum future lease payments required in accordance with each ground lease, as well as a right of use asset equal to the lease liability adjusted for above and below market intangibles and deferred leasing costs. The adoption of Topic 842 resulted in the recognition of right of use ground lease assets totaling
$82.9 million
and ground lease liabilities totaling
$87.4 million
on January 1, 2019. There was no material impact to our consolidated statements of operations or consolidated statements of cash flows as a result of adoption of this new guidance. For further information, refer to Note 9.
For leases with a term of 12 months or less where we are the lessee, we made an accounting policy election by class of underlying asset not to recognize right of use lease assets and lease liabilities. We recognize lease expense for such leases generally on a straight-line basis over the lease term.
The following are our updated significant accounting policies that have been affected by the adoption of Topic 842.
Significant Accounting Policies
Revenue Recognition and Allowances for Tenant and Deferred Rent Receivables
We recognize revenue from rent, tenant reimbursements, parking and other lease-related revenue once all of the following criteria are met: (i) the agreement has been fully executed and delivered, (ii) services have been rendered, (iii) the amount is fixed or determinable and (iv) payment has been received or the collectability of the amount due is probable. Lease termination fees are amortized over the remaining lease term, if applicable. If there is no remaining lease term, they are recognized when received and realized. Minimum annual rental revenues are recognized in rental revenues on a straight-line basis over the non-cancellable term of the related lease.
We carry our current and deferred rent receivables net of allowances for amounts that may not be collected. Prior to the adoption of Topic 842 on January 1, 2019, the allowances are increased or decreased through provision for bad debts on our consolidated statements of operations. Upon the adoption of Topic 842 on January 1, 2019, our determination of the adequacy of the Company's allowances for tenant receivables includes a binary assessment of whether or not the amounts due under a tenant’s lease agreement are probable of collection. For such amounts that are deemed probable of collection, revenue continues to be recorded on a straight-line basis over the lease term. For such amounts that are deemed not probable of collection, revenue is recorded as the lesser of (i) the amount which would be recognized on a straight-line basis or (ii) cash that has been received from the tenant, with any tenant and deferred rent receivable balances charged as a direct write-off against rental income in the period of the change in the collectability determination. In addition, for tenant and deferred rent receivables deemed probable of collection
KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
we also may record an allowance under other authoritative GAAP depending upon our evaluation of the individual receivables, specific credit enhancements, current economic conditions, and other relevant factors. Such allowances are recorded as increases or decreases through rental income on our consolidated statements of operations. For the three months ended March 31, 2019 we recorded a reversal of an allowance for tenant and deferred rent receivables of
$3.5 million
resulting from the improved credit quality of a tenant that we previously recorded a provision against in Q2 2018. For the three months ended March 31, 2018 we recorded a reversal of an allowance for tenant and deferred rent receivables of
$0.3 million
related to
three
tenants.
Rental revenue recognition commences when the tenant takes possession or controls the physical use of the leased space. In order for the tenant to take possession, the leased space must be substantially complete and ready for its intended use. In order to determine whether the leased space is substantially complete and ready for its intended use, we begin by determining whether the Company or the tenant owns the tenant improvements. When we conclude that the Company is the owner of tenant improvements, rental revenue recognition begins when the tenant takes possession of the finished space, which is generally when Company-owned tenant improvements are substantially complete. In certain instances, when we conclude that the Company is not the owner (the tenant is the owner) of tenant improvements, rental revenue recognition begins when the tenant takes possession or controls the physical use of the leased space.
When we conclude that the Company is the owner of tenant improvements, we record the cost to construct the tenant improvements, including costs paid for or reimbursed by the tenants, as a capital asset. For these tenant improvements, we record the amount funded by or reimbursed by the tenants as deferred revenue, which is amortized on a straight-line basis as additional rental income over the term of the related lease.
When we conclude that the tenant is the owner of tenant improvements for accounting purposes, we record our contribution towards those improvements as a lease incentive, which is included in deferred leasing costs and acquisition-related intangible assets, net on our consolidated balance sheets and amortized as a reduction to rental income on a straight-line basis over the term of the related lease.
For residential properties, we commence revenue recognition upon lease commencement. Residential rental revenue is recognized on a straight-line basis over the term of the related lease, net of any concessions.
Tenant Reimbursements
Reimbursements from tenants, consisting of amounts due from tenants for common area maintenance, real estate taxes and other recoverable costs, are recognized in rental income subsequent to the adoption of Topic 842 in the period the recoverable costs are incurred. Tenant reimbursements where we pay the associated costs directly to third-party vendors and are reimbursed by our tenants are recognized and recorded on a gross basis.
Other Property Income
Other property income primarily includes amounts recorded in connection with transient daily parking, tenant bankruptcy settlement payments, broken deal income and property damage settlement related payments. Other property income also includes miscellaneous income from tenants, restoration fees and fees for late rental payments. Amounts recorded within other property income fall within the scope of Topic 606 and are accounted for at the point in time when control of the goods or services transfers to the customer and our performance obligation is satisfied.
Accounting Pronouncements Effective in 2020 and Beyond
ASU No. 2016-13 “Financial Instruments - Credit Losses (Topic 326)”
On June 16, 2016, the FASB issued ASU No. 2016-13 (“ASU 2016-13”) to amend the accounting for credit losses for certain financial instruments. Under the new guidance, an entity recognizes its estimate of expected credit losses as an allowance, which the FASB believes will result in more timely recognition of such losses. In November 2018, the FASB released ASU No. 2018-19
“Codification Improvements to Topic 326, Financial Instrument - Credit Losses.”
This ASU clarifies that receivables arising from operating leases are not within the scope of Subtopic 326-20 “Financial Instruments – Credit Losses.” Instead, impairment of receivables arising from operating leases should be accounted for under Subtopic 842-30 “Leases – Lessor.” ASU 2016-13 is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. Early adoption is permitted for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. The Company does not anticipate that the guidance will have an impact on its consolidated financial statements or notes to its consolidated financial statements.
KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
ASU No. 2018-13 “Fair Value Measurement (Topic 820)”
On August 28, 2018, the FASB issued ASU No. 2018-13 (“ASU 2018-13”) to amend the disclosure requirements for fair value measurements. The amendments in ASU 2018-13 include new, modified and eliminated disclosure requirements and are the result of a broader disclosure project called FASB Concepts Statement,
Conceptual Framework for Financial Reporting - Chapter 8: Notes to Financial Statements
(the “Concepts Statement”), which the FASB finalized on August 28, 2018. The FASB used the guidance in the Concepts Statement to improve the effectiveness of Topic 820’s disclosure requirements. ASU 2018-13 is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. Early adoption is permitted for any eliminated or modified disclosures. The Company currently anticipates that the guidance will not have a significant impact on the disclosures in the notes to its consolidated financial statements.
ASU No. 2018-15 “Intangibles - Goodwill and Other - Internal-Use Software (Subtopic 350-40)”
On August 29, 2018, the FASB issued ASU No. 2018-15 (“ASU 2018-15”) to amend a customer’s accounting for implementation costs incurred in a cloud computing arrangement that is a service contract. ASU 2018-15 aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal-use software license). ASU 2018-15 is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. Early adoption is permitted, including adoption in any interim period. ASU 2018-15 can be applied either retrospectively or prospectively to all implementation costs incurred after the date of adoption. The Company is currently evaluating the impact of ASU 2018-15 on its consolidated financial statements and notes to its consolidated financial statements.
2. Prepaid Expenses and Other Assets, Net
Prepaid expenses and other assets, net consisted of the following at
March 31, 2019
and
December 31, 2018
:
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2019
|
|
December 31, 2018
|
|
|
(in thousands)
|
|
Furniture, fixtures and other long-lived assets, net
|
$
|
36,043
|
|
|
$
|
36,833
|
|
|
Notes receivable, net
(1)
|
1,488
|
|
|
2,113
|
|
|
Prepaid expenses
|
12,829
|
|
|
13,927
|
|
|
Total prepaid expenses and other assets, net
|
$
|
50,360
|
|
|
$
|
52,873
|
|
________________________
|
|
|
|
(1)
|
Notes receivable are shown net of a valuation allowance of approximately
$3.6 million
and
$2.9 million
as of
March 31, 2019
and
December 31, 2018
, respectively.
|
3. Secured and Unsecured Debt of the Operating Partnership
Secured Debt
On February 11, 2019, the Company repaid at par a secured mortgage note payable for
$74.3 million
that was due in June 2019.
Unsecured Debt
The Company generally guarantees all of the Operating Partnership’s unsecured debt obligations including the unsecured revolving credit facility, the unsecured term loan facility and all of the unsecured senior notes.
Unsecured Revolving Credit Facility and Term Loan Facility
The following table summarizes the balance and terms of our unsecured revolving credit facility as of
March 31, 2019
and
December 31, 2018
:
KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2019
|
|
December 31, 2018
|
|
|
(in thousands)
|
|
Outstanding borrowings
|
$
|
185,000
|
|
|
$
|
45,000
|
|
|
Remaining borrowing capacity
|
565,000
|
|
|
705,000
|
|
|
Total borrowing capacity
(1)
|
$
|
750,000
|
|
|
$
|
750,000
|
|
|
Interest rate
(2)
|
3.50
|
%
|
|
3.48
|
%
|
|
Facility fee-annual rate
(3)
|
0.200%
|
|
Maturity date
|
July 2022
|
________________________
|
|
|
|
(1)
|
We may elect to borrow, subject to bank approval and obtaining commitments for any additional borrowing capacity, up to an additional
$600.0 million
under an accordion feature under the terms of the unsecured revolving credit facility and unsecured term loan facility.
|
|
|
|
|
(2)
|
Our unsecured revolving credit facility interest rate was calculated based on the contractual rate of LIBOR plus
1.000%
as of
March 31, 2019
and
December 31, 2018
.
|
|
|
|
|
(3)
|
Our facility fee is paid on a quarterly basis and is calculated based on the total borrowing capacity. In addition to the facility fee, we incurred debt origination and legal costs. As of
March 31, 2019
and
December 31, 2018
,
$4.4 million
and
$4.7 million
of unamortized deferred financing costs, respectively, which are included in prepaid expenses and other assets, net on our consolidated balance sheets, remained to be amortized through the maturity date of our unsecured revolving credit facility.
|
The Company intends to borrow under the unsecured revolving credit facility from time to time for general corporate purposes, to finance development and redevelopment expenditures, to fund potential acquisitions and to potentially repay long-term debt.
The following table summarizes the balance and terms of our unsecured term loan facility as of
March 31, 2019
and
December 31, 2018
:
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2019
|
|
December 31, 2018
|
|
|
(in thousands)
|
|
Outstanding borrowings
|
$
|
150,000
|
|
|
$
|
150,000
|
|
|
Remaining borrowing capacity
|
—
|
|
|
—
|
|
|
Total borrowing capacity
(1)
|
$
|
150,000
|
|
|
$
|
150,000
|
|
|
Interest rate
(2)
|
3.60
|
%
|
|
3.49
|
%
|
|
Undrawn facility fee-annual rate
(3)
|
0.200%
|
|
Maturity date
|
July 2022
|
________________________
|
|
|
|
(1)
|
As of
March 31, 2019
and
December 31, 2018
,
$0.8 million
and
$0.9 million
of unamortized deferred financing costs, respectively, remained to be amortized through the maturity date of our unsecured term loan facility.
|
|
|
|
|
(2)
|
Our unsecured term loan facility interest rate was calculated based on the contractual rate of LIBOR plus
1.100%
as of
March 31, 2019
and
December 31, 2018
.
|
|
|
|
|
(3)
|
Prior to borrowing the full capacity of our unsecured term loan facility, the undrawn facility fee was calculated based on any unused borrowing capacity and was paid on a quarterly basis.
|
Debt Covenants and Restrictions
The unsecured revolving credit facility, the unsecured term loan facility, the unsecured senior notes, the Series A and B Notes due 2026 and Series A and B Notes due 2027 and 2029 and certain other secured debt arrangements contain covenants and restrictions requiring us to meet certain financial ratios and reporting requirements. Some of the more restrictive financial covenants include a maximum ratio of total debt to total asset value, a minimum fixed-charge coverage ratio, a minimum unsecured debt ratio and a minimum unencumbered asset pool debt service coverage ratio. Noncompliance with one or more of the covenants and restrictions could result in the full principal balance of the associated debt becoming immediately due and payable. We believe we were in compliance with all of our debt covenants as of
March 31, 2019
.
KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
Debt Maturities
The following table summarizes the stated debt maturities and scheduled amortization payments of our issued and outstanding debt as of
March 31, 2019
:
|
|
|
|
|
|
|
|
Year
|
(in thousands)
|
|
Remaining 2019
|
$
|
1,380
|
|
|
2020
|
5,137
|
|
|
2021
|
5,342
|
|
|
2022
|
340,554
|
|
|
2023
|
305,775
|
|
|
Thereafter
|
2,362,694
|
|
|
Total aggregate principal value
(1)
|
$
|
3,020,882
|
|
________________________
|
|
|
|
(1)
|
Includes gross principal balance of outstanding debt before the effect of the following at
March 31, 2019
:
$16.7 million
of unamortized deferred financing costs for the unsecured term loan facility, unsecured senior notes and secured debt and
$6.4 million
of unamortized discounts for the unsecured senior notes.
|
Capitalized Interest and Loan Fees
The following table sets forth gross interest expense, including debt discount/premium and deferred financing cost amortization, net of capitalized interest, for the
three
months ended
March 31, 2019
and
2018
. The interest expense capitalized was recorded as a cost of development and increased the carrying value of undeveloped land and construction in progress.
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended March 31,
|
|
|
2019
|
|
2018
|
|
|
(in thousands)
|
|
Gross interest expense
|
$
|
30,680
|
|
|
$
|
27,080
|
|
|
Capitalized interest and deferred financing costs
|
(19,437
|
)
|
|
(13,582
|
)
|
|
Interest expense
|
$
|
11,243
|
|
|
$
|
13,498
|
|
KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
4. Stockholders’ Equity of the Company
At-The-Market Stock Offering Program
Under our at-the-market stock offering program, which commenced in June 2018, we may offer and sell shares of our common stock having an aggregate gross sales price up to
$500.0 million
from time to time in “at-the-market” offerings. In connection with the at-the-market program, the Company may enter into forward equity sale agreements with certain financial institutions acting as forward purchasers whereby, at our discretion, the forward purchasers may borrow and sell shares of our common stock under our at-the-market program. The use of a forward equity sale agreement allows the Company to lock in a share price on the sale of shares of our common stock at the time the agreement is executed but defer settling the forward equity sale agreements and receiving the proceeds from the sale of shares until a later date.
During the three months ended
March 31, 2019
, we executed 12-month forward equity sale agreements with financial institutions acting as forward purchasers under our at-the-market stock offering program to sell
875,494
shares of common stock at a weighted average sales price of
$75.75
per share before underwriting discounts, commissions and offering expenses. The Company did not receive any proceeds from the sale of its common shares by the forward purchasers. The Company currently expects to fully physically settle the forward equity sale agreements and receive cash proceeds upon one or more settlement dates, at the Company’s discretion, prior to the final settlement dates under the forward equity sale agreements in March and April 2020, in which case we expect to receive aggregate net cash proceeds at settlement equal to the number of shares specified in such forward equity sale agreement multiplied by the relevant forward price per share. The weighted average forward sale price that we expect to receive upon physical settlement of the agreements will be subject to adjustment for (i) a floating interest rate factor equal to a specified daily rate less a spread, (ii) the forward purchasers’ stock borrowing costs and (iii) scheduled dividends during the term of the agreements. We have not settled any portion of these forward equity sale agreements as of the date of this filing. Upon physical settlement, the Company will contribute the net proceeds from the issuance of shares of our common stock to the Operating Partnership in exchange for an equal number of units in the Operating Partnership.
Since commencement of the program, we have completed sales of
447,466
shares of common stock through
March 31, 2019
and
875,494
shares have been sold by forward purchasers under forward equity sale agreements, which have not been settled as of the date of this filing. We did not settle any forward sales of common stock under our at-the-market program during the
three
months ended
March 31, 2019
and as of
March 31, 2019
, approximately
$399.9 million
remains available to be sold under this program. Actual future sales will depend upon a variety of factors, including but not limited to, market conditions, the trading price of the Company’s common stock and our capital needs. We have no obligation to sell the remaining shares available for sale under this program.
Forward Equity Sale Agreements
In August 2018, the Company entered into forward equity sale agreements with certain financial institutions acting as forward purchasers in connection with an offering of
5,000,000
shares of common stock at an initial gross offering price of
$360.5 million
, or
$72.10
per share, before underwriting discounts, commissions and offering expenses. The forward purchasers borrowed and sold an aggregate of
5,000,000
shares of common stock in the offering. The Company did not receive any proceeds from the sale of its shares of common stock by the forward purchasers at the time of the offering. The Company currently expects to fully physically settle the forward sale agreements and receive cash proceeds upon one or more settlement dates, at the Company’s discretion, prior to the final settlement date under the forward sale agreements of August 1, 2019, in which case we expect to receive aggregate net cash proceeds at settlement equal to the number of shares specified in such forward equity sale agreement multiplied by the relevant forward price per share. The forward sale price that we expect to receive upon physical settlement of the agreements, which was initially
$71.68
per share, will be subject to adjustment for (i) a floating interest rate factor equal to a specified daily rate less a spread, (ii) the forward purchasers’ stock borrowing costs and (iii) scheduled dividends during the term of the forward equity sale agreements. We have not settled any portion of these forward equity sale agreements as of the date of this filing. Upon physical settlement, the Company will contribute the net proceeds from the issuance of shares of our common stock to the Operating Partnership in exchange for an equal number of units in the Operating Partnership.
KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
5. Noncontrolling Interests on the Company’s Consolidated Financial Statements
Common Units of the Operating Partnership
The Company owned an approximate
98.0%
,
98.0%
, and
97.9%
common general partnership interest in the Operating Partnership as of
March 31, 2019
,
December 31, 2018
and
March 31, 2018
, respectively. The remaining approximate
2.0%
,
2.0%
, and
2.1%
common limited partnership interest as of
March 31, 2019
,
December 31, 2018
and
March 31, 2018
, respectively, was owned by non-affiliated investors and certain of our executive officers and directors in the form of noncontrolling common units. There were
2,023,287
,
2,025,287
and
2,070,690
common units outstanding held by these investors, executive officers and directors as of
March 31, 2019
,
December 31, 2018
and
March 31, 2018
, respectively.
The noncontrolling common units may be redeemed by unitholders for cash. Except under certain circumstances, we, at our option, may satisfy the cash redemption obligation with shares of the Company’s common stock on a one-for-one basis. If satisfied in cash, the value for each noncontrolling common unit upon redemption is the amount equal to the average of the closing quoted price per share of the Company’s common stock, par value
$.01
per share, as reported on the NYSE for the
ten
trading days immediately preceding the applicable redemption date. The aggregate value upon redemption of the then-outstanding noncontrolling common units was
$153.3 million
and
$126.4 million
as of
March 31, 2019
and
December 31, 2018
, respectively. This redemption value does not necessarily represent the amount that would be distributed with respect to each noncontrolling common unit in the event of our termination or liquidation. In the event of our termination or liquidation, it is expected in most cases that each common unit would be entitled to a liquidating distribution equal to the liquidating distribution payable in respect of each share of the Company’s common stock.
6. Partners’ Capital of the Operating Partnership
Common Units Outstanding
The following table sets forth the number of common units held by the Company and the number of common units held by non-affiliated investors and certain of our executive officers and directors in the form of noncontrolling common units as well as the ownership interest held on each respective date:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2019
|
|
December 31, 2018
|
|
March 31, 2018
|
|
Company owned common units in the Operating Partnership
|
100,967,024
|
|
|
100,746,988
|
|
|
98,839,708
|
|
|
Company owned general partnership interest
|
98.0
|
%
|
|
98.0
|
%
|
|
97.9
|
%
|
|
Noncontrolling common units of the Operating Partnership
|
2,023,287
|
|
|
2,025,287
|
|
|
2,070,690
|
|
|
Ownership interest of noncontrolling interest
|
2.0
|
%
|
|
2.0
|
%
|
|
2.1
|
%
|
For further discussion of the noncontrolling common units as of
March 31, 2019
and
December 31, 2018
, refer to Note 5.
7. Share-Based Compensation
Stockholder Approved Equity Compensation Plans
As of
March 31, 2019
, we maintained
one
share-based incentive compensation plan, the Kilroy Realty 2006 Incentive Award Plan, as amended (the “2006 Plan”). The Company has a currently effective registration statement registering
9.2 million
shares of our common stock for possible issuance under the 2006 Plan. As of
March 31, 2019
, approximately
0.3 million
shares were available for grant under the 2006 Plan. The calculation of shares available for grant is presented after taking into account a reserve for a sufficient number of shares to cover the vesting and payment of 2006 Plan awards that were outstanding on that date, including performance-based vesting awards at (i) levels actually achieved for the performance conditions (as defined below) for which the performance period has been completed and (ii) at maximum levels for the performance and market conditions (as defined below) for awards still in a performance period.
2019 Share-Based Compensation Grants
In
February 2019
, the Executive Compensation Committee of the Company’s Board of Directors awarded
288,378
restricted stock units (“RSUs”) to certain officers of the Company under the 2006 Plan, which included
143,396
RSUs (at the target level
KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
of performance) that are subject to market and/or performance-based vesting requirements (the “2019 Performance-Based RSUs”) and
144,982
RSUs that are subject to time-based vesting requirements (the “2019 Time-Based RSUs”).
2019 Performance-Based RSU Grant
The 2019 Performance-Based RSUs are scheduled to vest at the end of a
three
-year period (consisting of calendar years 2019-2021). A target number of 2019 Performance-Based RSUs were awarded, and the final number of 2019 Performance-Based RSUs that vest (which may be more or less than the target number) will be based upon (1) the achievement of pre-set FFO per share goals for the year ending December 31, 2019 that applies to
100%
of the Performance-Based RSUs awarded (the “FFO performance condition”) and (2) a performance measure that applies to
50%
of the award based upon a measure of the Company’s average debt to EBITDA ratio for the
three
-year performance period (the “debt to EBITDA ratio performance condition”) and a market measure that applies to the other
50%
of the award based upon the relative ranking of the Company’s total stockholder return for the
three
-year performance period compared to the total stockholder returns of an established comparison group of companies over the same period (the “market condition”). The 2019 Performance-Based RSUs are also subject to a
three
-year service vesting provision (the “service vesting condition”) and are scheduled to cliff vest on the date the final vesting percentage is determined following the end of the
three
-year performance period under the awards. The number of 2019 Performance-Based RSUs ultimately earned could fluctuate from the target number of 2019 Performance-Based RSUs granted based upon the levels of achievement for the FFO performance condition, the debt to EBITDA ratio performance condition, the market condition, and the extent to which the service vesting condition is satisfied. The estimate of the number of 2019 Performance-Based RSUs earned is evaluated quarterly during the performance period based on our estimate for each of the performance conditions measured against the applicable goals. As of
March 31, 2019
, the number of 2019 Performance-Based RSUs estimated to be earned based on the Company’s estimate of the performance conditions measured against the applicable goals was
143,396
, and the compensation cost recorded to date for this program was based on that estimate. Compensation expense for the 2019 Performance-Based RSU grant is recognized on a straight-line basis over the requisite service period for each participant, which is generally the
three
-year service period.
Each 2019 Performance-Based RSU represents the right, subject to the applicable vesting conditions, to receive
one
share of our common stock in the future. The determination of the grant date fair value of the portion of the 2019 Performance-Based RSU grants covered by the debt to EBITDA ratio performance condition was based on the
$69.89
share price on the February 1, 2019 grant date. The determination of the grant date fair value of the portion of the 2019 Performance-Based RSU grants covered by the market condition was calculated using a Monte Carlo simulation pricing model based on the assumptions in the table below, which resulted in a
$72.57
grant date fair value per share.
|
|
|
|
|
|
|
Fair Value Assumptions
|
|
Valuation date
|
February 1, 2019
|
|
Expected share price volatility
|
19.0%
|
|
Risk-free interest rate
|
2.48%
|
|
Fair value per share on valuation date
|
72.57
|
The computation of expected volatility is based on a blend of the historical volatility of our shares of common stock over approximately
5.8
years, as that is expected to be most consistent with future volatility and equates to a time period twice as long as the approximate
2.9
-year performance period of the RSUs, and implied volatility data based on the observed pricing of six month publicly-traded options on our shares of common stock. The risk-free interest rate is based on the yield curve on zero-coupon U.S. Treasury STRIP securities in effect at
February 1, 2019
.
The total grant date fair value of the 2019 Performance-Based RSU awards was
$10.2 million
on the
February 1, 2019
grant date of the awards. For the
three
months ended
March 31, 2019
, we recorded compensation expense based upon the grant date fair value per share for each component multiplied by the estimated number of RSUs to be earned as discussed above.
KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
2019 Time-Based RSU Grant
The 2019 Time-Based RSUs are scheduled to vest in
three
equal annual installments beginning on January 5, 2020 through January 5, 2022. Compensation expense for the 2019 Time-Based RSUs is recognized on a straight-line basis over the requisite service period for each participant, which is generally the
three
-year service vesting period. Each 2019 Time-Based RSU represents the right to receive
one
share of our common stock in the future. The total grant date fair value of the 2019 Time-Based RSU awards was
$10.1 million
, which was based on the
$69.89
closing share price of the Company’s common stock on the NYSE on the
February 1, 2019
grant date of the awards.
Share-Based Compensation Cost Recorded During the Period
The total compensation cost for all share-based compensation programs was
$8.8 million
and
$5.1 million
for the
three
months ended
March 31, 2019
and
2018
, respectively. Of the total share-based compensation costs,
$1.6 million
was capitalized as part of real estate assets for the
three
months ended
March 31, 2019
, and
$1.5 million
was capitalized as part of real estate assets and deferred leasing costs for the
three
months ended
March 31, 2018
. As of
March 31, 2019
, there was approximately
$73.8 million
of total unrecognized compensation cost related to nonvested incentive awards granted under share-based compensation arrangements that is expected to be recognized over a weighted-average period of
2.8
years. The remaining compensation cost related to these nonvested incentive awards had been recognized in periods prior to
March 31, 2019
.
8. Future Minimum Rent
We have operating leases with tenants that expire at various dates through
2043
and are either subject to scheduled fixed increases or adjustments in rent based on the Consumer Price Index. Generally, the leases grant tenants renewal options. Leases also provide for additional rents based on certain operating expenses. Future contractual minimum rent under operating leases as of
March 31, 2019
(under Topic 842) for future periods is summarized as follows:
|
|
|
|
|
|
|
|
Year Ending
|
(in thousands)
|
|
Remaining 2019
|
$
|
433,921
|
|
|
2020
|
645,256
|
|
|
2021
|
641,565
|
|
|
2022
|
643,068
|
|
|
2023
|
609,814
|
|
|
2024
|
561,301
|
|
|
Thereafter
|
2,782,219
|
|
|
Total
(1)
|
$
|
6,317,144
|
|
______________
|
|
|
|
(1)
|
Excludes residential leases and leases with a term of
one
year or less.
|
Future contractual minimum rent under operating leases as of
December 31, 2018
for future periods is summarized as follows:
|
|
|
|
|
|
|
|
Year Ending
|
(in thousands)
|
|
2019
|
$
|
566,783
|
|
|
2020
|
632,875
|
|
|
2021
|
631,835
|
|
|
2022
|
620,684
|
|
|
2023
|
586,371
|
|
|
Thereafter
|
3,240,143
|
|
|
Total
(1)
|
$
|
6,278,691
|
|
______________
|
|
|
|
(1)
|
Excludes residential leases and leases with a term of
one
year or less.
|
KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
9. Commitments and Contingencies
General
As of
March 31, 2019
, we had commitments of approximately
$1.2 billion
, excluding our ground lease commitments, for contracts and executed leases directly related to our operating properties and development projects.
Ground Leases
The following table summarizes our properties that are held subject to long-term noncancellable ground lease obligations and the respective contractual expiration dates:
|
|
|
|
|
|
Property
|
Contractual Expiration Date
(1)
|
|
601 108th Ave NE, Bellevue, WA
|
November 2093
|
|
701, 801 and 837 N. 34th Street, Seattle, WA
(2)
|
December 2041
|
|
1701 Page Mill Road and 3150 Porter Drive, Palo Alto, CA
|
December 2067
|
|
Kilroy Airport Center Phases I, II, and III, Long Beach, CA
|
July 2084
|
____________________
|
|
|
|
(1)
|
Reflects the contractual expiration date prior to the impact of any extension or purchase options held by the Company.
|
|
|
|
|
(2)
|
The Company has
three
10
-year and
one
45
-year extension options for this ground lease, which if exercised would extend the expiration date to December 2116. These extensions options are not assumed to be exercised in our calculation of the present value of the future minimum lease payments for this lease.
|
On January 1, 2019, we adopted Topic 842 and recognized ground lease liabilities on our consolidated balance sheets equal to the present value of the minimum lease payments required in accordance with each ground lease. We also recognized right of use ground lease assets equal to the ground lease liabilities adjusted for above and below market ground lease intangibles and deferred leasing costs. To determine the discount rates used to calculate the present value of the lease payments, we used a hypothetical curve derived from unsecured corporate borrowing rates over the lease terms. The weighted average discount rate for our ground leases was
5.15%
. On January 1, 2019, we recognized right of use ground lease assets totaling
$82.9 million
and ground lease liabilities totaling
$87.4 million
. As of
March 31, 2019
, the weighted average remaining lease term of our ground leases is
52
years. For the three months ended March 31, 2019, variable lease costs totaling
$0.7 million
were recorded to ground leases expense on our consolidated statements of operations.
The minimum commitment under our ground leases as of
March 31, 2019
(under Topic 842) for future periods is summarized as follows:
|
|
|
|
|
|
|
|
Year Ending
|
(in thousands)
|
|
Remaining 2019
|
$
|
3,865
|
|
|
2020
|
5,154
|
|
|
2021
|
5,154
|
|
|
2022
|
5,154
|
|
|
2023
|
5,154
|
|
|
2024
|
5,154
|
|
|
Thereafter
|
228,465
|
|
|
Total undiscounted cash flows
(1)(2)(3)(4)(5)
|
258,100
|
|
|
Present value discount
|
(170,853
|
)
|
|
Ground lease liabilities
|
$
|
87,247
|
|
________________________
|
|
|
|
(1)
|
Excludes contingent future rent payments based on gross income or adjusted gross income and reflects the minimum ground lease obligations before the impact of ground lease extension options.
|
|
|
|
|
(2)
|
One of our ground lease obligations is subject to a fair market value adjustment every
five years
; however, the lease includes ground rent subprotection and infrastructure rent credits which currently limit our annual rental obligations to
$1.0 million
. The contractual obligations for that ground lease included above assumes the lesser of
$1.0 million
or annual lease rental obligation in effect as of
March 31, 2019
.
|
|
|
|
|
(3)
|
One of our ground lease obligations includes a component which is based on the percentage of gross income that exceeds the minimum ground rent. The minimum rent is subject to increases every
five years
based on
50%
of the average annual percentage rent for the previous five years. The contractual obligations for that lease included above assume the current annual ground lease obligation in effect at
March 31, 2019
for the remainder of the lease term since we cannot predict future adjustments.
|
|
|
|
|
(4)
|
One of our ground lease obligations is subject to a fair market value adjustment every five years based on a combination of CPI adjustments and third-party appraisals limited to maximum increases annually. The contractual obligations for that lease included above assume the current annual ground lease obligation in effect at
March 31, 2019
for the remainder of the lease term since we cannot predict future adjustments.
|
|
|
|
|
(5)
|
One of our ground lease obligations includes a component which is based on the percentage of adjusted gross income that exceeds the minimum ground rent. The minimum rent is subject to increases every
ten years
by an amount equal to
60%
of the average annual percentage rent for the previous three years. The
|
KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
contractual obligations for this lease included above assume the current annual ground lease obligation in effect at
March 31, 2019
for the remainder of the lease term since we cannot predict future adjustments.
The minimum commitment under our ground leases as of December 31, 2018 for future periods is summarized as follows:
|
|
|
|
|
|
|
|
Year Ending
|
(in thousands)
|
|
2019
|
$
|
5,154
|
|
|
2020
|
5,154
|
|
|
2021
|
5,154
|
|
|
2022
|
5,154
|
|
|
2023
|
5,154
|
|
|
Thereafter
|
233,619
|
|
|
Total
(1)(2)(3)(4)(5)
|
$
|
259,389
|
|
________________________
|
|
|
|
(1)
|
Excludes contingent future rent payments based on gross income or adjusted gross income and reflects the minimum ground lease obligations before the impact of ground lease extension options.
|
|
|
|
|
(2)
|
One of our ground lease obligations is subject to a fair market value adjustment every
five years
; however, the lease includes ground rent subprotection and infrastructure rent credits which currently limit our annual rental obligations to
$1.0 million
. The contractual obligations for that ground lease included above assumes the lesser of
$1.0 million
or annual lease rental obligation in effect as of December 31, 2018.
|
|
|
|
|
(3)
|
One of our ground lease obligations includes a component which is based on the percentage of gross income that exceeds the minimum ground rent. The minimum rent is subject to increases every
five years
based on
50%
of the average annual percentage rent for the previous five years. The contractual obligations for that lease included above assume the current annual ground lease obligation in effect at December 31, 2018 for the remainder of the lease term since we cannot predict future adjustments.
|
|
|
|
|
(4)
|
One of our ground lease obligations is subject to a fair market value adjustment every five years based on a combination of CPI adjustments and third-party appraisals limited to maximum increases annually. The contractual obligations for that lease included above assume the current annual ground lease obligation in effect at December 31, 2018 for the remainder of the lease term since we cannot predict future adjustments.
|
|
|
|
|
(5)
|
One of our ground lease obligations includes a component which is based on the percentage of adjusted gross income that exceeds the minimum ground rent. The minimum rent is subject to increases every
ten years
by an amount equal to
60%
of the average annual percentage rent for the previous three years. The contractual obligations for this lease included above assume the current annual ground lease obligation in effect at December 31, 2018 for the remainder of the lease term since we cannot predict future adjustments.
|
Environmental Matters
We follow the policy of monitoring all of our properties, including acquisition, development and existing stabilized portfolio properties, for the presence of hazardous or toxic substances. While there can be no assurance that a material environmental liability does not exist, we are not currently aware of any environmental liability with respect to our stabilized portfolio properties that would have a material adverse effect on our financial condition, results of operations and cash flow, or that we believe would require additional disclosure or the recording of a loss contingency.
As of
March 31, 2019
, we had accrued environmental remediation liabilities of approximately
$74.4 million
recorded on our consolidated balance sheets in connection with certain of our in-process and future development projects. The accrued environmental remediation liabilities represent the remaining costs we estimate we will incur prior to and during the development process at various development acquisition sites. These estimates, which we developed with the assistance of third party experts, consist primarily of the removal of contaminated soil, performing environmental closure activities, constructing remedial systems and other related costs since we are required to dispose of any existing contaminated soil and sometimes perform other environmental closure or remedial activities when we develop new buildings at these sites.
We record estimated environmental remediation obligations for acquired properties at the acquisition date when we are aware of such costs and when such costs are probable of being incurred and can be reasonably estimated. Estimated costs related to development environmental remediation liabilities are recorded as an increase to the cost of the development project. Actual costs are recorded as a decrease to the liability when incurred. These accruals are adjusted as an increase or decrease to the development project costs and as an increase or decrease to the accrued environmental remediation liability if we obtain further information or circumstances change. The environmental remediation obligations recorded at
March 31, 2019
were not discounted to their present values since the amount and timing of cash payments are not fixed. It is possible that we could incur additional environmental remediation costs in connection with these development projects. However, potential additional environmental costs for these development projects cannot be reasonably estimated at this time and certain changes in estimates could occur as the site conditions, final project timing, design elements, actual soil conditions and other aspects of the projects, which may depend upon municipal and other approvals beyond the control of the Company, are determined.
KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
Other than the accrued environmental liabilities discussed above, we are not aware of any unasserted claims and assessments with respect to an environmental liability that we believe would require additional disclosure or the recording of an additional loss contingency.
10. Fair Value Measurements and Disclosures
Assets and Liabilities Reported at Fair Value
The only assets we record at fair value on our consolidated financial statements are the marketable securities related to our Deferred Compensation Plan. The following table sets forth the fair value of our marketable securities as of
March 31, 2019
and
December 31, 2018
:
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value (Level 1)
(1)
|
|
|
March 31, 2019
|
|
December 31, 2018
|
|
Description
|
(in thousands)
|
|
Marketable securities
(2)
|
$
|
24,098
|
|
|
$
|
21,779
|
|
________________________
|
|
|
|
(1)
|
Based on quoted prices in active markets for identical securities.
|
|
|
|
|
(2)
|
The marketable securities are held in a limited rabbi trust.
|
We report the change in the fair value of the marketable securities at the end of each accounting period in interest income and other net investment gain/loss in the consolidated statements of operations. We also adjust the related Deferred Compensation Plan liability to fair value at the end of each accounting period based on the performance of the benchmark funds selected by each participant, which results in a corresponding increase or decrease to compensation cost for the period.
The following table sets forth the net gain (loss) on marketable securities recorded during the
three
months ended
March 31, 2019
and
2018
:
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended March 31,
|
|
|
2019
|
|
2018
|
|
Description
|
(in thousands)
|
|
Net gain (loss) on marketable securities
|
$
|
1,681
|
|
|
$
|
(404
|
)
|
Financial Instruments Disclosed at Fair Value
The following table sets forth the carrying value and the fair value of our other financial instruments as of
March 31, 2019
and
December 31, 2018
:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2019
|
|
December 31, 2018
|
|
|
Carrying
Value
|
|
Fair
Value
(1)
|
|
Carrying
Value
|
|
Fair
Value
(1)
|
|
|
(in thousands)
|
|
Liabilities
|
|
|
|
|
|
|
|
|
Secured debt, net
|
$
|
259,878
|
|
|
$
|
264,029
|
|
|
$
|
335,531
|
|
|
$
|
335,885
|
|
|
Unsecured debt, net
|
2,552,883
|
|
|
2,622,474
|
|
|
2,552,070
|
|
|
2,546,386
|
|
|
Unsecured line of credit
|
185,000
|
|
|
185,158
|
|
|
45,000
|
|
|
45,058
|
|
________________________
|
|
|
|
(1)
|
Fair value calculated using Level II inputs, which are based on model-derived valuations in which significant inputs and significant value drivers are observable in active markets.
|
KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
11. Net Income Available to Common Stockholders Per Share of the Company
The following table reconciles the numerator and denominator in computing the Company’s basic and diluted per-share computations for net income available to common stockholders for the
three
months ended
March 31, 2019
and
2018
:
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended March 31,
|
|
|
2019
|
|
2018
|
|
|
(in thousands, except share and per share amounts)
|
|
Numerator:
|
|
|
|
|
Net income attributable to Kilroy Realty Corporation
|
$
|
36,903
|
|
|
$
|
36,246
|
|
|
Allocation to participating securities
(1)
|
(509
|
)
|
|
(471
|
)
|
|
Numerator for basic and diluted net income available to common stockholders
|
$
|
36,394
|
|
|
$
|
35,775
|
|
|
Denominator:
|
|
|
|
|
Basic weighted average vested shares outstanding
|
100,901,390
|
|
|
98,744,220
|
|
|
Effect of dilutive securities
|
541,789
|
|
|
469,390
|
|
|
Diluted weighted average vested shares and common share equivalents outstanding
|
101,443,179
|
|
|
99,213,610
|
|
|
Basic earnings per share:
|
|
|
|
|
Net income available to common stockholders per share
|
$
|
0.36
|
|
|
$
|
0.36
|
|
|
Diluted earnings per share:
|
|
|
|
|
Net income available to common stockholders per share
|
$
|
0.36
|
|
|
$
|
0.36
|
|
________________________
|
|
|
|
(1)
|
Participating securities include nonvested shares, certain time-based RSUs and vested market measure-based RSUs.
|
Share-based payment awards that contain non-forfeitable rights to dividends or dividend equivalents (whether paid or unpaid) are considered participating securities. The impact of potentially dilutive common shares, including stock options, RSUs, shares issuable under forward equity sale agreements and other securities are considered in our diluted earnings per share calculation for the
three
months ended
March 31, 2019
and
2018
. Certain market measure-based RSUs are not included in dilutive securities for the
three
months ended
March 31, 2019
and
2018
, as not all performance metrics had been met by the end of the applicable reporting periods.
See Note 7 “Share-Based Compensation” for additional information regarding share-based compensation.
KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
12. Net Income Available to Common Unitholders Per Unit of the Operating Partnership
The following table reconciles the numerator and denominator in computing the Operating Partnership’s basic and diluted per-unit computations for net income available to common unitholders for the
three
months ended
March 31, 2019
and
2018
:
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended March 31,
|
|
|
2019
|
|
2018
|
|
|
(in thousands, except unit and per unit amounts)
|
|
Numerator:
|
|
|
|
|
Net income attributable to Kilroy Realty, L.P.
|
$
|
37,508
|
|
|
$
|
36,893
|
|
|
Allocation to participating securities
(1)
|
(509
|
)
|
|
(471
|
)
|
|
Numerator for basic and diluted net income available to common unitholders
|
$
|
36,999
|
|
|
$
|
36,422
|
|
|
Denominator:
|
|
|
|
|
Basic weighted average vested units outstanding
|
102,925,166
|
|
|
100,815,477
|
|
|
Effect of dilutive securities
|
541,789
|
|
|
469,390
|
|
|
Diluted weighted average vested units and common unit equivalents outstanding
|
103,466,955
|
|
|
101,284,867
|
|
|
Basic earnings per unit:
|
|
|
|
|
Net income available to common unitholders per unit
|
$
|
0.36
|
|
|
$
|
0.36
|
|
|
Diluted earnings per unit:
|
|
|
|
|
Net income available to common unitholders per unit
|
$
|
0.36
|
|
|
$
|
0.36
|
|
________________________
|
|
|
|
(1)
|
Participating securities include nonvested shares, certain time-based RSUs and vested market measure-based RSUs.
|
Share-based payment awards that contain non-forfeitable rights to dividends or dividend equivalents (whether paid or unpaid) are considered participating securities. The impact of potentially dilutive common units, including stock options, RSUs, shares issuable under forward equity sale agreements and other securities are considered in our diluted earnings per share calculation for the
three
months ended
March 31, 2019
and
2018
. Certain market measure-based RSUs are not included in dilutive securities for the
three
months ended
March 31, 2019
and
2018
, as not all performance metrics had been met by the end of the applicable reporting periods.
See Note 7 “Share-Based Compensation” for additional information regarding share-based compensation.
KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
13. Supplemental Cash Flow Information of the Company
Supplemental cash flow information is included as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended March 31,
|
|
|
2019
|
|
2018
|
|
SUPPLEMENTAL CASH FLOWS INFORMATION:
|
|
|
|
|
Cash paid for interest, net of capitalized interest of $18,901 and $13,051 as of March 31, 2019 and 2018, respectively
|
$
|
4,706
|
|
|
$
|
9,699
|
|
|
Cash paid for amounts included in the measurement of ground lease liabilities
|
$
|
1,220
|
|
|
$
|
1,239
|
|
|
NON-CASH INVESTING TRANSACTIONS:
|
|
|
|
|
Accrual for expenditures for operating properties and development properties
|
$
|
87,038
|
|
|
$
|
57,155
|
|
|
Tenant improvements funded directly by tenants
|
$
|
2,682
|
|
|
$
|
2,014
|
|
|
Initial measurement of operating right of use ground lease assets
|
$
|
82,938
|
|
|
$
|
—
|
|
|
Initial measurement of operating ground lease liabilities
|
$
|
87,409
|
|
|
$
|
—
|
|
|
NON-CASH FINANCING TRANSACTIONS:
|
|
|
|
|
Accrual of dividends and distributions payable to common stockholders and common unitholders
|
$
|
47,676
|
|
|
$
|
43,512
|
|
|
Exchange of common units of the Operating Partnership into shares of the Company’s common stock
|
$
|
78
|
|
|
$
|
244
|
|
The following is a reconciliation of our cash and cash equivalents and restricted cash at the beginning and end of the
three
months ended
March 31, 2019
and
2018
.
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended March 31,
|
|
|
2019
|
|
2018
|
|
RECONCILIATION OF CASH AND CASH EQUIVALENTS AND RESTRICTED CASH:
|
|
|
|
|
Cash and cash equivalents at beginning of period
|
$
|
51,604
|
|
|
$
|
57,649
|
|
|
Restricted cash at beginning of period
|
119,430
|
|
|
9,149
|
|
|
Cash and cash equivalents and restricted cash at beginning of period
|
$
|
171,034
|
|
|
$
|
66,798
|
|
|
|
|
|
|
|
Cash and cash equivalents at end of period
|
$
|
49,693
|
|
|
$
|
53,069
|
|
|
Restricted cash at end of period
|
6,300
|
|
|
—
|
|
|
Cash and cash equivalents and restricted cash at end of period
|
$
|
55,993
|
|
|
$
|
53,069
|
|
14. Supplemental Cash Flow Information of the Operating Partnership:
Supplemental cash flow information is included as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended March 31,
|
|
|
2019
|
|
2018
|
|
SUPPLEMENTAL CASH FLOWS INFORMATION:
|
|
|
|
|
Cash paid for interest, net of capitalized interest of $18,901 and $13,051 as of March 31, 2019 and 2018, respectively
|
$
|
4,706
|
|
|
$
|
9,699
|
|
|
Cash paid for amounts included in the measurement of ground lease liabilities
|
$
|
1,220
|
|
|
$
|
1,239
|
|
|
NON-CASH INVESTING TRANSACTIONS:
|
|
|
|
|
Accrual for expenditures for operating properties and development properties
|
$
|
87,038
|
|
|
$
|
57,155
|
|
|
Tenant improvements funded directly by tenants
|
$
|
2,682
|
|
|
$
|
2,014
|
|
|
Initial measurement of operating right of use ground lease assets
|
$
|
82,938
|
|
|
$
|
—
|
|
|
Initial measurement of operating ground lease liabilities
|
$
|
87,409
|
|
|
$
|
—
|
|
|
NON-CASH FINANCING TRANSACTIONS:
|
|
|
|
|
Accrual of distributions payable to common unitholders
|
$
|
47,676
|
|
|
$
|
43,512
|
|
The following is a reconciliation of our cash and cash equivalents and restricted cash at the beginning and end of the
three
months ended
March 31, 2019
and
2018
.
KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended March 31,
|
|
|
2019
|
|
2018
|
|
RECONCILIATION OF CASH AND CASH EQUIVALENTS AND RESTRICTED CASH:
|
|
|
|
|
Cash and cash equivalents at beginning of period
|
$
|
51,604
|
|
|
$
|
57,649
|
|
|
Restricted cash at beginning of period
|
119,430
|
|
|
9,149
|
|
|
Cash and cash equivalents and restricted cash at beginning of period
|
$
|
171,034
|
|
|
$
|
66,798
|
|
|
|
|
|
|
|
Cash and cash equivalents at end of period
|
$
|
49,693
|
|
|
$
|
53,069
|
|
|
Restricted cash at end of period
|
6,300
|
|
|
—
|
|
|
Cash and cash equivalents and restricted cash at end of period
|
$
|
55,993
|
|
|
$
|
53,069
|
|
15. Subsequent Events
On
April 17, 2019
, aggregate dividends, distributions and dividend equivalents of
$47.6 million
were paid to common stockholders, common unitholders and RSU holders of record on
March 29, 2019
.
In April, financial institutions acting as forward purchasers under our at-the-market stock offering program sold an additional
325,710
shares of common stock at a weighted average sales price of
$76.39
per share before underwriting discounts, commissions and offering expenses. The Company did not receive any proceeds from the sale of its common shares by the forward purchasers. As of the date of this report, approximately
$375.0 million
remains available to be sold under this program.