UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-K

 

ý ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the fiscal year ended December 31, 2003

 

or

 

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from          to           .

 

Commission File No. 1-13199

 

SL GREEN REALTY CORP.

(Exact name of registrant as specified in its charter)

 

Maryland

 

13-3956755

(State or other jurisdiction
incorporation or organization)

 

(I.R.S. Employer of
Identification No.)

 

 

 

420 Lexington Avenue, New York, NY  10170

(Address of principal executive offices - zip code)

 

 

 

(212) 594-2700

(Registrant’s telephone number, including area code)

 

 

 

SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:

 

Title of Each Class

 

Name of Each Exchange on Which Registered

 

 

 

Common Stock, $.01 par value

 

New York Stock Exchange

 

 

 

 

7.625% Series C Cumulative Redeemable

 

 

 

Preferred Stock, $0.01 par value, $25.00

 

 

 

mandatory liquidation preference

 

New York Stock Exchange

 

SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: None

 

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 restraint was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ý No o.

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o

 

Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2). Yes ý No o.

 

As of February 27, 2004, there were 38,265,273 shares of the Registrant’s common stock outstanding. The aggregate market value of common stock held by non-affiliates of the Registrant (30,571,805 shares) at June 30, 2003, was $1,066,650,276.  The aggregate market value was calculated by using the closing price of the common stock as of that date on the New York Stock Exchange.

 

DOCUMENTS INCORPORATED BY REFERENCE

 

Portions of the Registrant’s Proxy Statement for the Annual Stockholders’ Meeting to be held May 19, 2004 and to be filed within 120 days after the close of the Registrant’s fiscal year are incorporated by reference into Part III of this Annual Report on Form 10-K.

 

 



 

SL GREEN REALTY CORP.

FORM 10-K

TABLE OF CONTENTS

 

10-K PART AND ITEM NO.

 

PART I

 

 

1.

Business

 

 

 

 

2.

Properties

 

 

 

 

3.

Legal Proceedings

 

 

 

 

4.

Submission of Matters to a Vote of Security Holders

 

 

 

PART II

 

 

 

 

5.

Market for Registrant’s Common Equity and Related Stockholders Matters

 

 

 

 

6.

Selected Financial Data

 

 

 

 

7.

Management’s Discussion and Analysis of Financial Condition and Results of Operation

 

 

 

 

7A.

Quantitative and Qualitative Disclosures about Market Risk

 

 

 

 

8.

Financial Statements and Supplementary Data

 

 

 

 

9.

Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

 

 

 

 

9A.

Controls and Procedures

 

 

 

PART III

 

 

 

 

10.

Directors and Executive Officers of the Registrant

 

 

 

 

11.

Executive Compensation

 

 

 

 

12.

Security Ownership of Certain Beneficial Owners and Management

 

 

 

 

13.

Certain Relationships and Related Transactions

 

 

 

 

14.

Principal Accounting Fees and Services

 

 

 

PART IV

 

 

 

 

15.

Exhibits, Financial Statements, Schedules and Reports on Form 8-K

 

 

2



 

PART I

 

ITEM 1.            BUSINESS

 

General

 

SL Green Realty Corp. is a self-managed real estate investment trust, or REIT, with in-house capabilities in property management, acquisitions, financing, development, construction and leasing.  We were formed in June 1997 for the purpose of continuing the commercial real estate business of S.L. Green Properties, Inc., our predecessor entity.  S.L. Green Properties, Inc., which was founded in 1980 by Stephen L. Green, our Chairman and former Chief Executive Officer, had been engaged in the business of owning, managing, leasing, acquiring and repositioning office properties in Manhattan,  a borough of New York City, or Manhattan.

 

As of December 31, 2003, our portfolio, which included interests in 26 properties aggregating 15.2 million square feet, consisted of 20 wholly-owned commercial properties, or the wholly-owned properties, and six partially-owned commercial properties encompassing approximately 8.2 million and 7.0 million rentable square feet, respectively, located primarily in midtown Manhattan.  Our wholly-owned interests in these properties represent fee ownership (14 properties), including ownership in condominium units, leasehold ownership (four properties) and operating sublease ownership (two properties).  Pursuant to the operating sublease arrangements, we, as tenant under the operating sublease, perform the functions traditionally performed by landlords with respect to its subtenants.  We are responsible for not only collecting rent from subtenants, but also maintaining the property and paying expenses relating to the property.  As of December 31, 2003, the weighted average occupancy (total leased square feet divided by total available square feet) of our wholly-owned properties was 95.8%.  Our six partially-owned properties, which we own through unconsolidated joint ventures, were 95.8% occupied as of December 31, 2003.  We refer to our wholly-owned properties and unconsolidated joint ventures collectively as our portfolio.  See Note 6 to the consolidated financial statements for a further discussion on our ownership interests in One Park Avenue, one of our joint venture properties.  In addition, we manage three office properties owned by third-parties and affiliated companies encompassing approximately 1.0 million rentable square feet.

 

Our corporate offices are located in midtown Manhattan at 420 Lexington Avenue, New York, New York 10170.  Our corporate staff consists of approximately 130 persons, including 102 professionals experienced in all aspects of commercial real estate.  We can be contacted at (212) 594-2700.  We maintain a website at www.slgreen.com.  On our website, you can obtain, free of charge, a copy of our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended, as soon as practicable after we file such material electronically with, or furnish it to, the Securities and Exchange Commission.  We have also made available on our website our audit committee charter, compensation committee charter, corporate governance and nominating committee charter, code of business conduct and ethics and corporate governance principles.

 

Unless the content requires otherwise, all references to “we,” “our,” and “us” in this annual report means SL Green Realty Corp., a Maryland corporation, and one or more of its subsidiaries, including SL Green Operating Partnership, L.P., a Delaware limited partnership, or the Operating Partnership, and the predecessors thereof, or the SL Green Predecessor, or, as the context may require, SL Green Realty Corp. only or SL Green Operating Partnership, L.P. only and “S.L. Green Properties” means S.L. Green Properties, Inc., a New York corporation, as well as the affiliated partnerships and other entities through which Stephen L. Green has historically conducted commercial real estate activities.

 

Corporate Structure

 

In connection with our initial public offering, or IPO, in August 1997, our Operating Partnership received a contribution of interests in real estate properties as well as a 95% economic, non-voting interest in the management, leasing and construction companies affiliated with S.L. Green Properties.  We refer to this management entity as the “Service Corporation.”  We are organized so as to qualify and have elected to qualify as a REIT under the Internal Revenue Code of 1986, as amended, or the Code.

 

Substantially all of our assets are held by, and all of our operations are conducted through, our Operating Partnership.  We are the sole managing general partner of, and as of December 31, 2003, were the owner of approximately 94.0% of the economic interests in, our Operating Partnership.  All of the management and leasing operations with respect to our wholly-owned properties are conducted through SL Green Management LLC, or Management LLC.  Our Operating Partnership owns a 100% interest in Management LLC.

 

3



 

In order to maintain our qualification as a REIT while realizing income from management, leasing and construction contracts with third parties and joint venture properties, all of these service operations are conducted through the Service Corporation.  We, through our Operating Partnership, own 100% of the non-voting common stock (representing 95% of the total equity) of the Service Corporation.  Through dividends on our equity interest, we expect to receive substantially all of the cash flow from the Service Corporation’s operations.  All of the voting common stock of the Service Corporation (representing 5% of the total equity) is held by a Company affiliate.  This controlling interest gives the affiliate the power to elect all directors of the Service Corporation.  Prior to July 1, 2003, we accounted for our investment in the Service Corporation on the equity basis of accounting because we had significant influence with respect to management and operations, but did not control the entity.  Since July 1, 2003, we have consolidated the operations of the Service Corporation into our financial results.  Effective January 1, 2001, the Service Corporation elected to be taxed as a taxable REIT subsidiary.

 

Business and Growth Strategies

 

Our primary business objective is to maximize total return to shareholders through growth in funds from operations and appreciation in the value of our assets during any business cycle.  We seek to achieve this objective by assembling a compelling portfolio of Manhattan office properties by capitalizing on current opportunities in the Manhattan office market through: (i) property acquisitions (including through joint ventures) - acquiring office properties at significant discounts to replacement costs with market rents at a premium to fully escalated in place rents which provide attractive initial yields and the potential for cash flow growth; (ii) property repositioning - repositioning acquired properties that are under performing through renovations, active management and proactive leasing; (iii) property dispositions; (iv) integrated leasing and property management; and (v) structured finance investments in the greater New York area.  Generally, we focus on properties that are within a ten minute walk of midtown Manhattan’s primary commuter stations.

 

Property Acquisitions. We acquire properties for long term appreciation and earnings growth (core assets) or for shorter term holding periods where we attempt to create significant increases in value which, when sold, result in capital gains that increase our investment capital base (non-core assets).  In acquiring (core and non-core) properties, directly or through joint ventures with the highest quality institutional investors, we believe that we have the following advantages over our competitors: (i) senior management’s average 21 years of experience as a full service, fully integrated real estate company focused on the office market in Manhattan; (ii) enhanced access to capital as a public company (as compared to the generally fragmented institutional or venture oriented sources of capital available to private companies); (iii) the ability to offer tax-advantaged structures to sellers through the exchange of ownership interests as opposed to solely cash transactions; and (iv) the ability to close a transaction quickly despite complicated ownership structures.

 

Property Repositioning. We apply our management’s experience in enhancing property cash flow and value by renovating and repositioning properties to be among the best in their submarkets.  Many of the office buildings we own or acquire are located in or near submarkets which are undergoing major reinvestment and where the properties in these markets have relatively low vacancy rates compared to other sub-markets.  Because the properties feature unique architectural design, large floor plates or other amenities and functionally appealing characteristics, reinvestment in them provides us an opportunity to meet market needs and generate favorable returns.

 

Property Dispositions. We continuously evaluate our properties to identify which are most suitable to meet our long term earnings growth objectives and contribute to increasing portfolio value.  Properties such as smaller side-street properties or properties that simply no longer meet our earnings objectives are identified as non-core holdings, and are targeted for sale to create investment capital.  We believe that we will be able to redeploy the capital generated from the disposition of non-core holdings into property acquisitions or investments in high-yield structured finance investments which will provide enhanced future capital gain and earnings growth opportunities.

 

Leasing and Property Management. We seek to capitalize on our management’s extensive knowledge of the Manhattan marketplace and the needs of the tenants therein by continuing a proactive approach to leasing and management, which includes: (i) the use of in-depth market research; (ii) the utilization of an extensive network of third-party brokers; (iii) comprehensive building management analysis and planning; and (iv) a commitment to tenant satisfaction by providing high quality tenant services at affordable rental rates.  We believe proactive leasing efforts have contributed to average occupancy rates in our portfolio exceeding the market average.

 

4



 

Structured FinanceWe seek to invest in high-yield structured finance investments.  These investments generally provide high current returns and, in certain cases, a potential for future capital gains.  These investments may also serve as a potential source of real estate acquisitions for us.  These investments include both floating rate and fixed rate investments.  Our floating rate investments serve as a natural hedge for our unhedged floating rate debt.  We intend to invest up to 10% of our total market capitalization in structured finance investments.  Structured finance investments include first mortgages, mortgage participations, subordinate loans, bridge loans and preferred equity investments.

 

Competition

 

The Manhattan office market is a competitive marketplace.  Although currently no other publicly traded REITs have been formed solely to own, operate and acquire Manhattan office properties, we may in the future compete with such other REITs.  In addition, we may face competition from other real estate companies (including other REITs that currently invest in markets other than or in addition to Manhattan) that may have greater financial resources or access to capital than we do or that are willing to acquire properties in transactions which are more highly leveraged or are less attractive from a financial viewpoint than we are willing to pursue.

 

Manhattan Office Market Overview

 

The properties in our portfolio are located in highly developed areas of Manhattan that include a large number of other office properties.  Manhattan is by far the largest office market in the United States and contains more rentable square feet than the next five largest central business district office markets in the United States combined.  Manhattan has a total inventory of 389 million square feet with 231 million square feet in Midtown.  Over the next five years, we estimate that Midtown Manhattan will have approximately 5.9 million square feet of new construction coming on line.  This represents approximately 1.5% of total Manhattan inventory.

 

General Terms of Leases in the Midtown Manhattan Markets

 

Leases entered into for space in the midtown Manhattan markets typically contain terms which may not be contained in leases in other U.S. office markets.  The initial term of leases entered into for space in excess of 10,000 square feet in the midtown markets generally is seven to ten years.  The tenant often will negotiate an option to extend the term of the lease for one or two renewal periods of five years each.  The base rent during the initial term often will provide for agreed upon periodic increases over the term of the lease.  Base rent for renewal terms, and base rent for the final years of a long-term lease (in those leases which do not provide an agreed upon rent during such final years), often is based upon a percentage of the fair market rental value of the premises (determined by binding arbitration in the event the landlord and the tenant are unable to mutually agree upon the fair market value).

 

In addition to base rent, the tenant also generally will pay the tenant’s pro rata share of increases in real estate taxes and operating expenses for the building over a base year.  In some leases, in lieu of paying additional rent based upon increases in building operating expenses, the tenant will pay additional rent based upon increases in the wage rate paid to porters over the porters’ wage rate in effect during a base year or increases in the consumer price index over the index value in effect during a base year.

 

Electricity is most often supplied by the landlord either on a submetered basis or rent inclusion basis (i.e., a fixed fee is included in the rent for electricity, which amount may increase based upon increases in electricity rates or increases in electrical usage by the tenant).  Base building services other than electricity (such as heat, air conditioning and freight elevator service during business hours, and base building cleaning) typically are provided at no additional cost, with the tenant paying additional rent only for services which exceed base building services or for services which are provided other than during normal business hours.  During the year ended December 31, 2003, we were able to recover approximately 90% of our electric costs.

 

In a typical lease for a new tenant, the landlord will deliver the premises with all existing improvements demolished and any asbestos abated.  The landlord also typically will provide a tenant improvement allowance, which is a fixed sum that the landlord makes available to the tenant to reimburse the tenant for all or a portion of the tenant’s initial construction of its premises.  Such sum typically is payable as work progresses, upon submission of invoices for the cost of construction.  However, in certain leases (most often for relatively small amounts of space), the landlord will construct the premises for the tenant.

 

5



 

Occupancy

 

The following table sets forth the occupancy rates at our properties based on space leased as of December 31, 2003, 2002 and 2001:

 

 

 

Percent Occupied as of December 31,

 

Property

 

2003

 

2002

 

2001

 

Same Store Properties (1)

 

95.8

%

97.1

%

97.4

%

Joint Venture Properties

 

95.8

%

97.3

%

98.4

%

Portfolio

 

95.8

%

96.9

%

97.7

%

 


(1) Represents 17 of our 20 wholly-owned properties owned by us at December 31, 2001 and still owned by us at December 31, 2003.

 

Rent Growth

 

Previous strength in the New York City economy fueled the demand for quality commercial space in our submarkets.  Over the past several years, there has been an approximately 20% decline in average market rents. This has substantially reduced the rent growth for our Same-Store Properties, measured as the difference between effective (average) rents on new and renewed leases as compared to the expiring rent on those same spaces, to 6.5% for 2003.  Recent strengthening in the national and New York City economies may ultimately lead to a decline in vacancies and future growth in rents.

 

Despite the changes to the New York City economy, we estimate that rents currently in place in our wholly-owned properties are approximately 1.0% below current market asking rents.  We estimate that rents currently in place in our properties owned through joint ventures are approximately 14.4% below current market asking rents.  We refer to this premium over our current in-placed rents as embedded growth.  Embedded growth was 6.6% at December 31, 2002 for the wholly-owned properties and 20.8% for the joint venture properties.  As of December 31, 2003, 26.7% and 23.9% of all leases in-place in our wholly-owned and joint venture properties, respectively, are scheduled to expire during the next four years.  We expect to capitalize on embedded rent growth as these leases and future leases expire by renewing or replacing these tenant leases at higher prevailing market rents.  There can be no assurances that our estimates of current market rents are accurate, that market rents currently prevailing will not erode in the future or that we will realize any rent growth.  However, we believe the degree that rents in the current portfolio are below market provides a potential for long-term income growth.

 

Industry Segments

 

We are a REIT that owns, manages, leases and repositions office properties in Manhattan and have two reportable segments, office real estate and structured finance investments.  We evaluate real estate performance and allocate resources based on earnings contribution to net operating income.

 

Our real estate portfolio is primarily located in one geographical market of Manhattan.  The primary sources of revenue are generated from tenant rents and escalations and reimbursement revenue.  Real estate property operating expenses consist primarily of security, maintenance, utility costs, real estate taxes and ground rent expense (at certain applicable properties).  As of December 31, 2003, no single tenant in our wholly-owned properties contributed more than 4.8% of our annualized revenue.  In addition, two properties, 420 Lexington Avenue and 220 East 42nd Street, each contributed in excess of 10% of our consolidated revenue for 2003.  See Item 2 “Properties – 420 Lexington Avenue” and “ - 220 East 42nd Street” for a further discussion on these properties.  In addition, one tenant at 1515 Broadway, a joint venture property, contributed approximately 7.8% of portfolio annualized rent.  Portfolio annualized rent includes our consolidated annualized revenue and our share of joint venture annualized revenue.  In addition, three borrowers each accounted for more than 10.0% of the revenue earned on structured finance investments at December 31, 2003.

 

Employees

 

At December 31, 2003, we employed approximately 629 employees, over 102 of whom were managers and professionals, approximately 493 of whom were hourly paid employees involved in building operations and approximately 34 of whom were clerical, data processing and other administrative employees.  There are currently three collective bargaining agreements which cover the workforce that services substantially all of our properties.

 

6



 

Acquisitions

 

During 2003, we acquired three wholly-owned properties, namely 220 East 42nd Street, condominium interests at 125 Broad Street and 461 Fifth Avenue, for an aggregate gross purchase price of $417.9 million encompassing 1.9 million rentable square feet.  In addition, we acquired a 45% interest in 1221 Avenue of the Americas for a gross purchase price of $450.0 million.  This property encompasses 2.55 million rentable square feet.

 

Dispositions

 

During 2003, we sold 1370 Broadway and 50 West 23rd Street for $123.5 million.  We realized total gains of $23.2 million on the sale of these properties which encompassed 588,000 rentable square feet.

 

Through a joint venture, we sold the 203,000 square foot property located at 321 West 44th Street in December 2003 for $35.0 million.  The joint venture realized a gain of approximately $271,000.  We held a 35% interest in the joint venture which owned the property.  In addition, we recognized a book gain of $3.0 million that had previously been deferred due to our continued involvement with the property.

 

Offering/Financings

 

On September 30, 2003, we converted our 4.6 million 8% Preferred Income Equity Redeemable Shares, or PIERS, into 4,698,880 shares of our common stock.

 

On December 5, 2003, we borrowed $35.0 million on our unsecured term loan, increasing the balance to the $200.0 million outstanding.  We executed a serial swap on this $35.0 million with a first year all-in rate of 2.95% through December 4, 2004, and a blended all-in rate of 5.01% through a final maturity date in June 2008.

 

On December 9, 2003, we completed a $210.0 million 10-year mortgage refinancing of the property located at 220 East 42nd Street, also known as the News Building.  The mortgage bears interest at a fixed rate of 5.23% per annum.  The financing proceeds were used to pay off the existing $158.0 million first mortgage on the property.  Excess proceeds were used to reduce the outstanding balance on our unsecured revolving credit facility.

 

On December 12, 2003, we completed a public offering of 6.3 million shares of our 7.625% Series C cumulative redeemable preferred stock, or Series C preferred stock, with net proceeds totaling approximately $152.0 million. The shares of Series C preferred stock have a liquidation preference of $25 per share and will be redeemable at par at our option on or after December 12, 2008.  We used a portion of the net proceeds to partially fund the year-end acquisition of 1221 Avenue of the Americas.

 

On December 29, 2003, we closed on a $100.0 million 5-year term loan.  The financing was led by Wells Fargo Bank and has a floating rate of 150 basis points over the current LIBOR rate. The proceeds were used to partially fund the acquisition of our interest in 1221 Avenue of the Americas.

 

On December 8, 2003, the Company declared a dividend distribution of $0.50 per common share for the fourth quarter 2003, representing an annual increase of $0.14 per common share, or a 7.5% increase on an annualized basis. This distribution reflects the regular quarterly dividend, which is the equivalent of an annualized distribution of $2.00 per common share.

 

On January 16, 2004, we sold 1.8 million shares of our common stock under our shelf registration statement.  The net proceeds from this offering ($73.9 million) were used to pay down our unsecured revolving credit facility.

 

Recent Developments

 

On January 5, 2004, Marc Holliday was promoted to chief executive officer of our company.  Mr. Holliday, 37, joined us in 1998 as chief investment officer and remains president, a post he has held since 2001.  Stephen L. Green, our founder and prior chief executive officer, will continue in his position as chairman of the board of directors and will be a full-time executive officer of our company.  In connection with Mr. Holliday’s promotion to chief executive officer, we have amended his employment agreement to extend it through January 2010.  Pursuant to the amended employment agreement, Mr. Holliday will receive an additional 270,000 restricted shares of our common stock plus a 40% gross-up for income taxes.  95,000 of the restricted shares will vest immediately and be non-transferable for a period of two years.  The balance of the restricted shares will vest over the remaining term of the employment agreement subject to achieving certain time and performance criteria.

 

7



 

On February 3, 2004, Gregory F. Hughes was appointed chief financial officer of our company.  Mr. Hughes succeeded Thomas E. Wirth, who will remain with us until at least April 30, 2004 to assist with the transition.  We also announced that Michael W. Reid, our chief operating officer, will leave our company effective April 30, 2004 to pursue a business venture.

 

In January 2004, we funded $77.5 million of structured finance investments.  Also in January, a $14.9 million investment was redeemed.

 

On January 16, 2004, we entered into a $65.0 million serial swap on a portion of our unsecured term loan commencing August 2005, with an initial 12-month rate of 3.30% and an all-in blended rate of 5.45%.

 

On February 27, 2004, we entered into an agreement to acquire the property located at 19 West 44th Street for $67.0 million, including the assumption of a $47.5 million mortgage, with the potential for up to an additional $2.0 million in consideration based on property performance.  We currently hold a $7.0 million preferred equity investment in the property which will be redeemed at the closing.  We expect that this acquisition, which is subject to customary closing conditions, will close in March 2004.

 

Forward-Looking Statements May Prove Inaccurate

 

This document and the documents that are incorporated by reference herein contain forward-looking statements that are subject to risks and uncertainties.  Forward-looking statements include information concerning possible or assumed future results of our operations, including any forecasts, projections and plans and objectives for future operations.  You can identify forward-looking statements by the use of forward-looking expressions such as “may,” “will,” “should,” “expect,” “believe,” “anticipate,” “estimate,” “intend,” “project,” or “continue” or any negative or other variations on such expressions.  Many factors could affect our actual financial results, and could cause actual results to differ materially from those in the forward-looking statements.  These factors include, among others, the following:

 

      general economic or business conditions, either nationally or in New York City, being less favorable than expected;

 

      reduced demand for office space;

 

      risks of real estate acquisitions;

 

      risks of structured finance investments;

 

      availability and creditworthiness of prospective tenants;

 

      adverse changes in the real estate markets, including increasing vacancy, decreasing rental revenue and increasing insurance costs;

 

      availability of capital (debt and equity);

 

      unanticipated increases in financing and other costs, including a rise in interest rates;

 

      market interest rates could adversely affect the market price of our common stock, as well as our performance and cash flows;

 

      our ability to satisfy complex rules in order for us to qualify as a REIT, for federal income tax purposes, our Operating Partnership’s ability to satisfy the rules in order for it to qualify as a partnership for federal income tax purposes, the ability of certain of our subsidiaries to qualify as REITs and certain of our subsidiaries to qualify as taxable REIT subsidiaries for federal income tax purposes and our ability and the ability of our subsidiaries to operate effectively within the limitations imposed by these rules;

 

      competition with other companies;

 

      the continuing threat of terrorist attacks on the national, regional and local economies including, in particular, the New York City area and our tenants;

 

      legislative or regulatory changes adversely affecting real estate investment trusts and the real estate business; and

 

      environmental, regulatory and/or safety requirements.

 

We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.  In light of these risks and uncertainties, the forward-looking events and circumstances discussed in this document might not occur and actual results, performance or achievement could differ materially from that anticipated or implied in the forward-looking statements.

 

8



 

ITEM 2.            PROPERTIES

 

The Portfolio

 

General

 

As of December 31, 2003, we wholly-owned interests in 20 office properties encompassing approximately 8.2 million rentable square feet located primarily in midtown Manhattan. Certain of these properties include at least a small amount of retail space on the lower floors, as well as basement/storage space. As of December 31, 2003, our portfolio also included ownership interests in six unconsolidated joint ventures which own six office properties located in Manhattan, encompassing approximately 7.0 million rentable square feet.

 

9



 

The following table sets forth certain information with respect to each of the Manhattan properties in the portfolio as of December 31, 2003:

 

Property Wholly-Owned

 

Year Built/
Renovated

 

Sub-market

 

Approximate
Rentable
Square
Feet

 

Percentage of
Portfolio
Rentable Square
Feet (%)

 

Percent
Leased (%)

 

Annualized
Rent (1)

 

Percentage of
Portfolio
Annualized
Rent (%) (2)

 

Number of
Tenants

 

Annualized
Rent Per
Leased Square
Foot (3)

 

Annualized Net
Effective Rent
Per Leased
Square Foot (4)

 

673 First Avenue (6)

 

1928/1990

 

Grand Central So.

 

422,000

 

2.8

 

99.8

 

$

14,162,244

 

3.5

 

16

 

$

33.20

 

$

22.86

 

470 Park Avenue South (5)

 

1912/1994

 

Park Avenue So.

 

260,000

 

1.7

 

85.7

 

7,859,160

 

1.9

 

25

 

$

32.97

 

$

23.74

 

70 West 36th Street

 

1923/1994

 

Times Square So.

 

151,000

 

1.0

 

96.8

 

4,079,484

 

1.0

 

31

 

$

27.21

 

$

22.48

 

1414 Ave. of Americas

 

1923/1998

 

Rockefeller Center

 

111,000

 

0.7

 

94.3

 

4,486,728

 

1.1

 

21

 

$

39.94

 

$

47.92

 

1372 Broadway

 

1914/1998

 

Times Square So.

 

508,000

 

3.4

 

99.5

 

16,112,808

 

3.9

 

27

 

$

30.35

 

$

29.55

 

1140 Ave. of Americas

 

1926/1998

 

Rockefeller Center

 

191,000

 

1.3

 

96.0

 

7,915,764

 

1.9

 

23

 

$

40.82

 

$

33.31

 

110 East 42nd Street

 

1921/

 

Grand Central No.

 

181,000

 

1.2

 

85.8

 

6,055,260

 

1.5

 

26

 

$

36.35

 

$

28.29

 

17 Battery Place North

 

1972

 

World Trade/Battery  Place

 

419,000

 

2.8

 

100.0

 

9,463,248

 

2.3

 

7

 

$

23.76

 

$

22.13

 

1466 Broadway

 

1907/1982

 

Times Square

 

289,000

 

1.9

 

89.4

 

10,301,472

 

2.5

 

97

 

$

42.11

 

$

28.18

 

420 Lexington Avenue (7)

 

1927/1999

 

Grand Central No.

 

1,188,000

 

7.9

 

94.1

 

48,469,512

 

11.8

 

266

 

$

43.16

 

$

34.86

 

440 Ninth Avenue

 

1927/1989

 

Times Square So.

 

339,000

 

2.2

 

100.0

 

10,197,972

 

2.5

 

15

 

$

27.82

 

$

23.40

 

711 Third Avenue (6) (8)

 

1955/

 

Grand Central No.

 

524,000

 

3.5

 

99.8

 

20,685,396

 

5.0

 

19

 

$

37.76

 

$

31.64

 

555 West 57th Street (6)

 

1971/

 

Midtown West

 

941,000

 

6.2

 

99.8

 

22,365,768

 

5.5

 

20

 

$

23.07

 

$

20.57

 

286 Madison Avenue

 

1918/1997

 

Grand Central So.

 

112,000

 

0.7

 

89.1

 

3,267,768

 

0.8

 

37

 

$

35.14

 

$

25.31

 

290 Madison Avenue

 

1952/

 

Grand Central So.

 

37,000

 

0.2

 

100.0

 

1,456,164

 

0.4

 

4

 

$

38.23

 

$

37.73

 

292 Madison Avenue

 

1923/

 

Grand Central So.

 

187,000

 

1.2

 

88.7

 

6,559,740

 

1.6

 

17

 

$

40.97

 

$

32.39

 

317 Madison Avenue

 

1920/

 

Grand Central

 

450,000

 

3.0

 

90.4

 

13,318,236

 

3.3

 

98

 

$

35.02

 

$

26.44

 

220 East 42nd Street

 

1929/

 

Grand Central East

 

1,135,000

 

7.5

 

94.5

 

35,572,822

 

8.7

 

42

 

$

33.58

 

$

31.88

 

461 Fifth Avenue (9)

 

1988/

 

Grand Central

 

200,000

 

1.3

 

93.9

 

11,261,760

 

2.6

 

19

 

$

59.12

 

$

55.17

 

125 Broad Street (9)

 

1968/1997

 

Downtown East

 

525,000

 

3.5

 

100.0

 

16,185,024

 

4.0

 

5

 

$

30.85

 

$

29.50

 

Total/Weighted average wholly-owned (10)

 

 

 

 

 

8,170,000

 

54.2

 

95.8

 

$

269,776,330

 

65.8

 

815

 

$

34.09

 

$

30.49

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Joint Ventures

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

1250 Broadway (6) (11)

 

1968/

 

Penn Station

 

670,000

 

4.4

 

91.9

 

$

19,459,632

 

2.6

 

28

 

$

30.66

 

$

25.97

 

100 Park Avenue (12)

 

1950

 

Grand Central So.

 

834,000

 

5.5

 

97.6

 

31,866,474

 

3.9

 

39

 

$

39.61

 

$

33.85

 

180 Madison Avenue (12)

 

1926/

 

Grand Central So.

 

265,000

 

1.8

 

85.6

 

7,621,008

 

0.9

 

50

 

$

34.34

 

$

23.82

 

1515 Broadway (6) (11)

 

1972/

 

Times Square

 

1,750,000

 

11.6

 

96.2

 

64,986,516

 

8.7

 

15

 

$

39.54

 

$

31.61

 

One Park Avenue (13)

 

1925/1986

 

Grand Central So.

 

913,000

 

6.1

 

91.1

 

32,935,152

 

4.4

 

16

 

$

38.04

 

$

36.52

 

1221 Ave. of Americas (14)

 

1971/1997

 

Rockefeller Center

 

2,550,000

 

16.4

 

98.8

 

123,568,632

 

13.7

 

24

 

$

50.63

 

$

50.03

 

Total/Weighted average joint ventures (15)

 

 

 

 

 

6,982,000

 

45.8

 

95.8

 

$

280,437,414

 

34.2

 

172

 

$

42.42

 

$

38.27

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Grand Total/ Weighted average portfolio

 

 

 

 

 

15,152,000

 

100.0

 

95.8

 

$

550,213,744

 

 

987

 

$

37.55

 

$

34.06

 

Grand Total/ our share of annualized rent

 

 

 

 

 

 

 

 

 

 

 

$

409,646,183

 

100.0

 

 

 

 

 

 

 

 

10



 


(1)   Annualized Rent represents the monthly contractual rent under existing leases as of December 31, 2003 multiplied by 12.  This amount reflects total rent before any rent abatements and includes expense reimbursements, which may be estimated as of such date.  Total rent abatements for leases in effect as of December 31, 2003 for the 12 months ending December 31, 2004 are approximately $3,061,000 for our wholly-owned properties and $774,000 for our joint venture properties.

 

(2)   Includes our share of unconsolidated joint venture annualized rent calculated on a consistent basis.

 

(3)   Annualized Rent Per Leased Square Foot represents Annualized Rent, as described in footnote (1) above, presented on a per leased square foot basis.

 

(4)   Annual Net Effective Rent Per Leased Square Foot represents (a) for leases in effect at the time an interest in the relevant property was first acquired by us, the remaining lease payments under the lease from the acquisition date (excluding operating expense pass-throughs, if any) divided by the number of months remaining under the lease multiplied by 12 and (b) for leases entered into after an interest in the relevant property was first acquired by us, all lease payments under the lease (excluding operating expense pass-throughs, if any) divided by the number of months in the lease multiplied by 12, and, in the case of both (a) and (b), minus tenant improvement costs and leasing commissions, if any, paid or payable by us and presented on a per leased square foot basis. Annual Net Effective Rent Per Leased Square Foot includes future contractual increases in rental payments and therefore, in certain cases, may exceed Annualized Rent Per Leased Square Foot.

 

(5)   470 Park Avenue South is comprised of two buildings, 468 Park Avenue South (a 17-story office building) and 470 Park Avenue South (a 12-story office building).

 

(6)   Includes a parking garage.

 

(7)   We hold an operating sublease interest in the land and improvements.

 

(8)   We hold a leasehold mortgage interest, a net sub-leasehold interest and a co-tenancy interest in this property.

 

(9)   We hold a leasehold interest in this property.

 

(10) Includes approximately 7,348,000 square feet of rentable office space, 710,000 square feet of rentable retail space and 112,000 square feet of garage space.

 

(11) We own a 55% interest in this joint venture.

 

(12) We own a 49.9% interest in this joint venture.

 

(13) We own a 55% interest in this joint venture which acquired various ownership and mortgage interests in this property.

 

(14) We own a 45% interest in this joint venture.  We do not manage this property.

 

(15) Includes approximately 6,117,000 square feet of rentable office space, 744,000 square feet of rentable retail space and 121,000 square feet of garage space.

 

11



 

Historical Occupancy.  We have historically achieved consistently higher occupancy rates in comparison to the overall Midtown markets, as shown over the last five years in the following table:

 

 

 

Percent of
Portfolio
Leased (1)

 

Occupancy Rate of
Class A
Office Properties
In The Midtown
Markets (2) (3)

 

Occupancy Rate of
Class B
Office Properties
in the Midtown  Markets (2) (3)

 

December 31, 2003

 

96

%

92

%

90

%

December 31, 2002

 

97

%

94

%

89

%

December 31, 2001

 

97

%

96

%

92

%

December 31, 2000

 

99

%

98

%

96

%

December 31, 1999

 

97

%

96

%

93

%

 


(1)   Includes space for leases that were executed as of the relevant date in our wholly-owned and joint venture properties owned by us as of that date.

 

(2)   Includes vacant space available for direct lease, but does not include vacant space available for sublease, which if included, would reduce the occupancy rate as of each date shown.  Source: Cushman & Wakefield.

 

(3)   The term “Class B” is generally used in the Manhattan office market to describe office properties that are more than 25 years old but that are in good physical condition, enjoy widespread acceptance by high-quality tenants and are situated in desirable locations in Manhattan.  Class B office properties can be distinguished from Class A properties in that Class A properties are generally newer properties with higher finishes and obtain the highest rental rates within their markets.

 

Lease Expirations

 

Leases in our portfolio, as at many other Manhattan office properties, typically extend for a term of seven to ten years, compared to typical lease terms of five to ten years in other large U.S. office markets.  For the five years ending December 31, 2008, the average annual rollover at our wholly-owned properties and joint venture properties is approximately 555,000 square feet and 425,000 square feet, respectively, representing an average annual expiration rate of 6.9% and 6.4% respectively, per year (assuming no tenants exercise renewal or cancellation options and there are no tenant bankruptcies or other tenant defaults).

 

The following tables set forth a schedule of the annual lease expirations at our wholly-owned properties and joint venture properties, respectively, with respect to leases in place as of December 31, 2003 for each of the next ten years and thereafter (assuming that no tenants exercise renewal or cancellation options and that there are no tenant bankruptcies or other tenant defaults):

 

Wholly-Owned Properties
Year of Lease Expiration

 

Number
of
Expiring
Leases

 

Square
Footage
of
Expiring
Leases

 

Percentage
of
Total
Leased
Square
Feet (%)

 

Annualized
Rent
of
Expiring
Leases (1)

 

Annualized
Rent
Per
Leased
Square
Foot of
Expiring
Leases (2)

 

 

 

 

 

 

 

 

 

 

 

 

 

2004 (3)

 

164

 

630,595

 

7.97

 

$

23,057,844

 

$

36.57

 

2005

 

140

 

559,916

 

7.07

 

20,343,768

 

36.33

 

2006

 

105

 

598,253

 

7.56

 

19,566,372

 

32.71

 

2007

 

84

 

356,838

 

4.51

 

13,117,620

 

36.76

 

2008

 

99

 

629,605

 

7.96

 

22,246,872

 

35.33

 

2009

 

41

 

611,281

 

7.72

 

21,559,608

 

35.27

 

2010

 

65

 

1,521,466

 

19.22

 

50,836,704

 

33.41

 

2011

 

25

 

316,272

 

4.00

 

14,187,228

 

44.86

 

2012

 

26

 

753,243

 

9.52

 

18,623,076

 

24.72

 

2013 & thereafter

 

83

 

1,937,070

 

24.47

 

66,237,238

 

34.19

 

Total/weighted average

 

832

 

7,914,539

 

100.00

 

$

269,776,330

 

$

34.09

 

 

12



 


(1)     Annualized Rent of Expiring Leases represents the monthly contractual rent under existing leases as of December 31, 2003 multiplied by 12.  This amount reflects total rent before any rent abatements and includes expense reimbursements, which may be estimated as of such date.  Total rent abatements for leases in effect as of December 31, 2003 for the 12 months ending December 31, 2004 are approximately $3,061,000 for the properties.

 

(2)     Annualized Rent Per Leased Square Foot of Expiring Leases represents Annualized Rent of Expiring Leases, as described in footnote (1) above, presented on a per leased square foot basis.

 

(3)     Includes 104,991 square feet of month-to-month holdover tenants whose leases expired prior to December 31, 2003.

 

Joint Venture Properties
Year of Lease Expiration

 

Number
of
Expiring
Leases

 

Square
Footage
of
Expiring
Leases

 

Percentage
of
Total
Leased
Square
Feet (%)

 

Annualized
Rent
of
Expiring
Leases (1)

 

Annualized
Rent
Per
Leased
Square
Foot of
Expiring
Leases (2)

 

 

 

 

 

 

 

 

 

 

 

 

 

2004 (3)

 

31

 

247,445

 

3.74

 

$

9,514,758

 

$

38.46

 

2005

 

27

 

486,973

 

7.37

 

16,591,548

 

34.07

 

2006

 

26

 

388,081

 

5.87

 

11,488,392

 

29.60

 

2007

 

13

 

460,271

 

6.96

 

24,269,328

 

52.73

 

2008

 

20

 

540,364

 

8.17

 

21,185,940

 

39.21

 

2009

 

21

 

631,217

 

9.55

 

26,949,480

 

42.69

 

2010

 

16

 

1,297,951

 

19.63

 

54,573,132

 

42.05

 

2011

 

6

 

165,256

 

2.50

 

6,782,352

 

41.04

 

2012

 

8

 

358,561

 

5.42

 

5,386,008

 

15.02

 

2013 & thereafter

 

23

 

2,035,256

 

30.78

 

103,696,476

 

50.95

 

Total/weighted average

 

191

 

6,611,375

 

100.00

 

$

280,437,414

 

$

42.42

 

 


(1)   Annualized Rent of Expiring Leases represents the monthly contractual rent under existing leases as of December 31, 2003 multiplied by 12.  This amount reflects total rent before any rent abatements and includes expense reimbursements, which may be estimated as of such date.  Total rent abatements for leases in effect as of December 31, 2003 for the 12 months ending December 31, 2004 are approximately $774,000 for the joint venture properties.

 

(2)   Annualized Rent Per Leased Square Foot of Expiring Leases represents Annualized Rent of Expiring Leases, as described in footnote (1) above, presented on a per leased square foot basis.

 

(3)   Includes 73,695 square feet of month-to-month holdover tenants whose leases expired prior to December 31, 2003.

 

13



 

Tenant Diversification

 

Our portfolio is currently leased to approximately 987 tenants, which are engaged in a variety of businesses, including professional services, financial services, media, apparel, business services and government/non-profit.  The following table sets forth information regarding the leases with respect to the 25 largest tenants in our portfolio, based on the amount of square footage leased by our tenants as of December 31, 2003:

 

Tenant (1)

 

Properties

 

Remaining
Lease Term
in Months (2)

 

Total Leased
Square Feet

 

Percentage
of
Aggregate
Portfolio
Leased
Square
Feet (%)

 

Percentage
of
Aggregate
Portfolio
Annualized
Rent (%)

 

Viacom International Inc.

 

1515 Broadway

 

116

 

1,277,895

 

8.48

 

7.78

 

Morgan Stanley & Co., Inc.

 

1221 Sixth Avenue

 

130

 

496,249

 

3.29

 

3.40

 

Societe Generale

 

1221 Sixth Avenue

 

129

 

486,662

 

3.23

 

2.57

 

The McGraw Hill Companies

 

1221 Sixth Avenue

 

195

 

443,399

 

2.94

 

2.10

 

Omnicom Group

 

220 East 42nd Street

 

160

 

419,111

 

2.78

 

3.16

 

Salomon Smith Barney

 

125 Broad Street

 

77

 

330,900

 

2.20

 

2.48

 

Visiting Nurse Services

 

1250 Broadway

 

104

 

264,331

 

1.75

 

0.97

 

City of New York, fka Dept. of Citywide Admin Services

 

17 Battery Place

 

108

 

249,854

 

1.66

 

1.39

 

BMW of Manhattan, Inc.

 

555 West 57th St.

 

115

 

227,782

 

1.51

 

0.90

 

CBS, Inc.

 

555 West 57th St.

 

120

 

188,583

 

1.25

 

0.96

 

Altria Corp. Services fka Phillip Morris

 

100 Park Avenue

 

48

 

175,887

 

1.17

 

0.91

 

The Columbia House Co.

 

1221 Sixth Avenue

 

49

 

175,312

 

1.16

 

0.89

 

City University of NY-CUNY

 

555 West 57th St.

 

133

 

171,733

 

1.14

 

1.25

 

J&W Seligman & Co., Inc.

 

100 Park Avenue

 

71

 

168,390

 

1.12

 

0.70

 

Segal Company

 

One Park Avenue

 

72

 

157,947

 

1.05

 

0.82

 

Sonnenschein, Nath & Rosenthal

 

1221 Sixth Avenue

 

169

 

147,997

 

0.98

 

0.76

 

Mt. Sinai Hospital & NYU Hospital Centers

 

One Park Avenue

 

134

 

140,600

 

0.93

 

0.69

 

MTA

 

420 Lexington Ave.

 

145

 

134,687

 

0.89

 

1.00

 

Tribune Newspaper/WQCD/WPIX

 

220 East 42nd Street

 

75

 

134,208

 

0.89

 

0.96

 

St. Luke’s Roosevelt Hospital Ctr.

 

555 West 57th St.

 

126

 

134,150

 

0.89

 

0.85

 

Ross Stores, Inc.

 

1372 Broadway

 

77

 

126,001

 

0.84

 

0.87

 

JP Morgan Chase Bank

 

1221 Sixth Avenue

 

72

 

103,991

 

0.69

 

0.70

 

Fahnestock & Co., Inc.

 

125 Broad Street

 

117

 

103,566

 

0.69

 

0.75

 

Minskoff/Nederlander JV

 

1515 Broadway

 

245

 

102,452

 

0.68

 

0.03

 

Ketchum, Inc.

 

711 Third Avenue

 

143

 

100,876

 

0.67

 

1.07

 

Total Weighted Average (3)

 

 

 

 

 

6,462,563

 

42.88

 

37.96

 

 


(1)   This list is not intended to be representative of our tenants as a whole.

(2)     Lease term from December 31, 2003 until the date of the last expiring lease for tenants with multiple leases.

(3)   Weighted average calculation based on total rentable square footage leased by each tenant.

 

14



 

420 Lexington Avenue (The Graybar Building)

 

We purchased the tenant’s interest in the operating sublease, or the Graybar operating sublease, at 420 Lexington Avenue, also known as the Graybar Building, in March 1998. This 31-story office property sits at the foot of Grand Central Terminal in the Grand Central North sub-market of the midtown Manhattan office market. The Graybar Building was designed by Sloan and Robertson and completed in 1927.  The building takes its name from its original owner, the Graybar Electric Company.  The Graybar Building contains approximately 1.2 million rentable square feet (including approximately 1,133,000 square feet of office space, and 60,000 square feet of mezzanine and retail space), with floor plates ranging from 17,000 square feet to 50,000 square feet.  We restored the grandeur of this building through the implementation of an $11.9 million capital improvement program geared toward certain cosmetic upgrades, including a new entrance and storefronts, new lobby, elevator cabs and elevator lobbies and corridors.

 

The Graybar Building offers unsurpassed convenience to transportation.  The Graybar Building enjoys excellent accessibility to a wide variety of transportation options with a direct passageway to Grand Central Station. Grand Central Station is the major transportation destination for commutation from southern Connecticut and Westchester, Putnam and Dutchess counties.  Major bus and subway lines serve this property as well.  The property is ideally located to take advantage of the renaissance of Grand Central Terminal, which has been redeveloped into a major retail/transportation hub containing restaurants such as Michael Jordan’s Steakhouse and retailers such as Banana Republic and Kenneth Cole.

 

The Graybar Building consists of the building at 420 Lexington Avenue and fee title to a portion of the land above the railroad tracks and associated structures which form a portion of the Grand Central Terminal complex in midtown Manhattan.  Our interest consists of a tenant’s interest in a controlling sublease, as described below.

 

Fee title to the building and the land parcel is owned by an unaffiliated third party, who also owns the landlord’s interest under the operating lease through which we hold our interest in this property.  This operating lease which expires December 31, 2008 is subject to renewal by us through December 31, 2029, or the Graybar ground lease.  We control the exercise of this renewal option through the terms of subordinate leases which have corresponding renewal option terms and control provisions and which culminate in the Graybar operating sublease.  An unaffiliated third-party owns the landlord’s interest in the Graybar operating sublease.

 

The Graybar Building is our largest wholly-owned property.  It contributes Annualized Rent of approximately $48.5 million, or 11.8% of our portfolio’s Annualized Rent at December 31, 2003.

 

As of December 31, 2003, 94.1% of the rentable square footage in the Graybar Building was leased.  The following table sets forth certain information with respect to this property:

 

Year-End

 

Percent Leased

 

Annualized
Rent per Leased
Square Foot

 

 

 

 

 

 

 

2003

 

94

%

$

43.16

 

2002

 

95

%

37.52

 

2001

 

95

%

33.48

 

2000

 

100

%

32.81

 

1999

 

97

%

29.63

 

 

As of December 31, 2003, the Graybar Building was leased to 266 tenants operating in various industries, including legal services, financial services and advertising.  One tenant occupied approximately 11.3% of the rentable square footage at this property and accounted for approximately 8.5% of this property’s Annualized Rent.  The next largest tenant occupied approximately 6.3% of the rentable square footage at this property and accounted for approximately 5.9% of this property’s Annualized Rent.

 

15



 

The following table sets out a schedule of the annual lease expirations at the Graybar Building for leases executed as of December 31, 2003 with respect to each of the next ten years and thereafter (assuming that no tenants exercise renewal or cancellation options and that there are no tenant bankruptcies or other tenant defaults):

 

Year of Lease Expiration

 

Number
of
Expiring
Leases

 

Square
Footage
of
Expiring
Leases

 

Percentage
of
Total
Leased
Square
Feet (%)

 

Annualized
Rent
of
Expiring
Leases (1)

 

Annualized
Rent Per
Leased
Square Foot
of Expiring
Leases (2)

 

 

 

 

 

 

 

 

 

 

 

 

 

2004 (3)

 

45

 

74,767

 

6.7

 

$

2,938,812

 

$

39.31

 

2005

 

43

 

109,153

 

9.7

 

4,406,232

 

40.37

 

2006

 

32

 

86,981

 

7.7

 

3,483,900

 

40.05

 

2007

 

39

 

98,226

 

8.7

 

3,898,596

 

39.69

 

2008

 

46

 

177,156

 

15.8

 

7,201,824

 

40.65

 

2009

 

10

 

112,270

 

10.0

 

4,436,520

 

39.52

 

2010

 

16

 

112,203

 

10.0

 

4,944,036

 

44.06

 

2011

 

9

 

96,197

 

8.6

 

3,761,580

 

39.10

 

22012

 

4

 

26,716

 

2.4

 

1,070,400

 

40.07

 

2013 & thereafter

 

25

 

229,222

 

20.4

 

12,327,612

 

53.78

 

Subtotal/Weighted average

 

269

 

1,122,891

 

100.0

 

$

48,469,512

 

$

43.16

 

 


(1)           Annualized Rent of Expiring Leases represents the monthly contractual rent under existing leases as of December 31, 2003 multiplied by 12.  This amount reflects total rent before any rent abatements and includes expense reimbursements, which may be estimated as of such date.  Total rent abatements for leases in effect as of December 31, 2003 for the 12 months ending December 31, 2004 are approximately $345,000 for this property.

 

(2)           Annualized Rent Per Leased Square Foot of Expiring Leases represents Annualized Rent of Expiring Leases, as described in footnote (1) above, presented on a per leased square foot basis.

 

(3)           Includes 14,800 square feet of month-to-month holdover tenants whose leases expired prior to December 31, 2003.

 

The aggregate undepreciated tax basis of depreciable real property at the Graybar Building for Federal income tax purposes was $156.8 million as of December 31, 2003. Depreciation and amortization are computed for Federal income tax purposes on the straight-line method over lives which range up to 39 years.

 

The current real estate tax rate for all Manhattan office properties is $11.431 per $100 of assessed value. The total annual tax for the Graybar Building at this rate, including the applicable BID tax for the 2003/2004 tax year, is $8.6 million (at a taxable assessed value of $70.2 million).

 

220 East 42nd Street

 

We acquired the 1.1 million square foot office property located at 220 East 42nd Street, Manhattan, known as The News Building, for a purchase price of approximately $265.0 million in February 2003.  This property located in the Grand Central and United Nations submarket.

 

The News Building is our second largest wholly-owned property.  It contributes Annualized Rent of approximately $35.6 million, or 8.7% of our portfolio’s Annualized Rent at December 31, 2003.

 

16



 

As of December 31, 2003, 94.5% of the rentable square footage in The News Building was leased and had an annualized rent per leased square foot of $33.58.

 

As of December 31, 2003, The News Building was leased to 42 tenants operating in various industries, including legal services, financial services and advertising.  One tenant occupied approximately 36.9% of the rentable square footage at this property and accounted for approximately 36.4% of this property’s Annualized Rent.  The next largest tenant occupied approximately 11.8% of the rentable square footage at this property and accounted for approximately 11.1% of this property’s Annualized Rent.  The third largest tenant occupied approximately 8.0% of the rentable square footage at this property and accounted for approximately 11.4% of this property’s Annualized Rent.

 

The following table sets out a schedule of the annual lease expirations at The News Building for leases executed as of December 31, 2003 with respect to each of the next ten years and thereafter (assuming that no tenants exercise renewal or cancellation options and that there are no tenant bankruptcies or other tenant defaults):

 

Year of Lease Expiration

 

Number
of
Expiring
Leases

 

Square
Footage
of
Expiring
Leases

 

Percentage
of
Total
Leased
Square
Feet (%)

 

Annualized
Rent
of
Expiring
Leases (1)

 

Annualized
Rent Per
Leased
Square Foot
of Expiring
Leases (2)

 

 

 

 

 

 

 

 

 

 

 

 

 

2004 (3)

 

3

 

4,463

 

0.4

 

$

219,408

 

$

49.16

 

2005

 

4

 

57,075

 

5.4

 

1,645,968

 

28.84

 

2006

 

2

 

84,804

 

8.0

 

2,382,048

 

28.09

 

2007

 

5

 

15,836

 

1.5

 

729,600

 

46.07

 

2008

 

3

 

79,596

 

7.5

 

2,186,088

 

27.46

 

2009

 

1

 

61,297

 

5.8

 

2,271,024

 

37.05

 

2010

 

8

 

251,141

 

23.7

 

9,012,492

 

35.89

 

2011

 

 

 

 

 

 

2012

 

4

 

14,427

 

1.4

 

684,084

 

47.42

 

2013 & thereafter

 

15

 

490,734

 

46.3

 

16,442,110

 

33.51

 

Subtotal/Weighted average

 

45

 

1,059,373

 

100.0

 

$

35,572,822

 

$

33.58

 

 


(1)           Annualized Rent of Expiring Leases represents the monthly contractual rent under existing leases as of December 31, 2003 multiplied by 12.  This amount reflects total rent before any rent abatements and includes expense reimbursements, which may be estimated as of such date.  Total rent abatements for leases in effect as of December 31, 2003 for the 12 months ending December 31, 2004 are approximately $132,000 for this property.

 

(2)           Annualized Rent Per Leased Square Foot of Expiring Leases represents Annualized Rent of Expiring Leases, as described in footnote (1) above, presented on a per leased square foot basis.

 

(3)           Includes 2,000 square feet of month-to-month holdover tenants whose leases expired prior to December 31, 2003.

 

The aggregate undepreciated tax basis of depreciable real property at The News Building for Federal income tax purposes was $237.9 million as of December 31, 2003.  Depreciation and amortization are computed for Federal income tax purposes on the straight-line method over lives which range up to 39 years.

 

The current real estate tax rate for all Manhattan office properties is $11.431 per $100 of assessed value.  The total annual tax for The News Building at this rate, including the applicable BID tax for the 2003/2004 tax year, is $6.9 million (at a taxable assessed value of $58.4 million).

 

17



 

Environmental Matters

 

We engaged independent environmental consulting firms to perform Phase I environmental site assessments on our portfolio, in order to assess existing environmental conditions.  All of the Phase I assessments met the ASTM Standard. Under the ASTM Standard, a Phase I environmental site assessment consists of a site visit, an historical record review, a review of regulatory agency data bases and records, and interviews with on-site personnel, with the purpose of identifying potential environmental concerns associated with real estate.  These environmental site assessments did not reveal any known environmental liability that we believe will have a material adverse effect on our results of operations or financial condition.

 

ITEM 3.            LEGAL PROCEEDINGS

 

As of December 31, 2003, we were not involved in any material litigation nor, to management’s knowledge, is any material litigation threatened against us or our portfolio other than routine litigation arising in the ordinary course of business or litigation that is adequately covered by insurance.

 

On October 24, 2001, an accident occurred at 215 Park Avenue South, a property which we manage, but do not own.  Personal injury and wrongful death claims were filed against us and others by 11 persons.  We believe that there is sufficient insurance coverage to cover the cost of such claims, as well as any other personal injury or property claims which may arise.

 

ITEM 4.            SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

 

No matters were submitted to a vote of our stockholders during the fourth quarter ended December 31, 2003.

 

18



 

PART II

 

ITEM 5.            MARKET FOR REGISTRANT’S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

 

Our common stock began trading on the New York Stock Exchange (“NYSE”) on August 15, 1997 under the symbol “SLG.” On February 27, 2004, the reported closing sale price per share of common stock on the NYSE was $44.00 and there were approximately 110 holders of record of our common stock.  The table below sets forth the quarterly high and low closing sales prices of the common stock on the NYSE and the distributions paid by us with respect to the periods indicated.

 

 

 

2003

 

2002

 

Quarter Ended

 

High

 

Low

 

Dividends

 

High

 

Low

 

Dividends

 

March 31

 

$

31.95

 

$

29.05

 

$

0.4650

 

$

33.60

 

$

30.40

 

$

0.4425

 

June 30

 

$

36.00

 

$

31.47

 

$

0.4650

 

$

36.50

 

$

33.60

 

$

0.4425

 

September 30

 

$

37.42

 

$

34.52

 

$

0.4650

 

$

35.40

 

$

29.23

 

$

0.4425

 

December 31

 

$

41.05

 

$

36.12

 

$

0.5000

 

$

31.87

 

$

27.65

 

$

0.4650

 

 

If dividends are declared in a quarter, those dividends will be paid during the subsequent quarter.  See Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Dividends” for additional information regarding our dividends.

 

UNITS

 

On February 13, 2003, the Operating Partnership issued 376,000 units of limited partnership interest in connection with the acquisition of 220 East 42nd Street.

 

On March 28, 2003, the Operating Partnership issued 51,667 units of limited partnership interest in connection with the acquisition of condominium interests in 125 Broad Street.

 

On May 15, 2002, the Operating Partnership issued 28,786 units of limited partnership interest in connection with the acquisition of 1515 Broadway.

 

At December 31, 2003 there were 2,305,955 units of limited partnership interest of the Operating Partnership outstanding.  These units received distributions per unit in the same manner as dividends per share were distributed to common stockholders.

 

SALE OF UNREGISTERED AND REGISTERED SECURITIES

 

We issued 211,750, 17,500 and 165,500 shares of our common stock in 2003, 2002 and 2001, respectively, for deferred stock-based compensation in connection with employment contracts.  These transactions were not registered under the Securities Act of 1933, pursuant to the exemption contemplated by Section 4(2) thereof for transactions not involving a public offering.

 

See Notes 15 and 17 to Consolidated Financial Statements in Item 8 for a description of our stock option plan and other compensation arrangements.

 

On July 25, 2001, we sold 5,000,000 shares of common stock under our shelf registration statement.  The net proceeds from this offering ($148.4 million) were used to pay down our unsecured revolving credit facility.

 

On September 30, 2003, we converted our 4,600,000 8% PIERS into 4,698,880 shares of our common stock.

 

On December 12, 2003, we sold 6,300,000 shares of preferred stock under our self-registration statement.  A portion of the net proceeds from this offering ($152.0 million) were used to pay down our secured and unsecured revolving credit facilities.

 

On January 16, 2004, we sold 1,800,000 shares of our common stock under our shelf registration statement.  The net proceeds from this offering ($73.9 million) were used to pay down our unsecured revolving credit facility.

 

19



 

ITEM 6.            SELECTED FINANCIAL DATA

 

The following table sets forth our selected financial data and should be read in conjunction with our Financial Statements and notes thereto included in Item 8, “Financial Statements and Supplementary Data” and Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in this Form 10-K.

 

In connection with this Annual Report on Form 10-K, we are restating our historical audited consolidated financial statements as a result of Statement of Financial Accounting Standards No. 144, or SFAS 144, “Accounting for the Impairment or Disposal of Long-Lived Assets”.  During 2003, we classified two properties as held for sale and, in compliance with SFAS 144, have reported revenue and expenses from these properties as discontinued operations, net of minority interest, for each period presented in our Annual Report on Form 10-K.  This reclassification had no effect on our reported net income or funds from operations.

 

We are also providing updated summary selected financial information, which is included below reflecting the prior period reclassification as discontinued operations of the property classified as held for sale during 2003.

 

 

 

Year Ended December 31,

 

Operating Data

 

2003

 

2002

 

2001

 

2000

 

1999

 

(In thousands, except per share data)

 

 

 

 

 

 

 

 

 

 

 

Total revenue

 

$

308,957

 

$

236,957

 

$

240,768

 

$

221,830

 

$

198,859

 

Property operating expenses

 

80,460

 

56,172

 

55,290

 

53,322

 

48,234

 

Real estate taxes

 

44,524

 

28,287

 

28,806

 

27,772

 

28,137

 

Ground rent

 

13,562

 

12,637

 

12,579

 

12,660

 

12,754

 

Interest

 

45,493

 

35,421

 

43,869

 

39,167

 

28,038

 

Depreciation and amortization

 

47,282

 

37,600

 

35,845

 

31,360

 

26,380

 

Marketing, general and administration

 

17,131

 

13,282

 

15,374

 

11,561

 

10,922

 

Total expenses

 

248,452

 

183,399

 

191,763

 

175,842

 

154,465

 

Income from continuing operations before items

 

60,505

 

53,558

 

49,005

 

45,988

 

44,394

 

Equity in net (loss) income from affiliates

 

(196

)

292

 

(1,054

)

378

 

730

 

Equity in net income of unconsolidated joint ventures

 

14,870

 

18,383

 

8,607

 

3,108

 

377

 

Income before minority interest and gain on sales

 

75,179

 

72,233

 

56,558

 

49,474

 

45,501

 

Minority interest

 

(4,624

)

(4,286

)

(4,084

)

(7,186

)

(4,895

)

Income before gains on sale and cumulative effect of accounting charge

 

70,555

 

67,947

 

52,474

 

42,288

 

40,606

 

Gain on sale of properties/preferred investments

 

3,087

 

 

4,956

 

41,416

 

 

Cumulative effect of change in accounting principle

 

 

 

(532

)

 

 

Income from continuing operations

 

73,642

 

67,947

 

56,898

 

83,704

 

40,606

 

Discontinued operations (net of minority interest)

 

24,517

 

6,384

 

6,103

 

2,513

 

2,250

 

Net income

 

98,159

 

74,331

 

63,001

 

86,217

 

42,856

 

Preferred dividends and accretion

 

(7,712

)

(9,690

)

(9,658

)

(9,626

)

(9,598

)

Income available to common shareholders

 

$

90,447

 

$

64,641

 

$

53,343

 

$

76,591

 

$

33,258

 

Net income per common share – Basic

 

$

2.80

 

$

2.14

 

$

1.98

 

$

3.14

 

$

1.37

 

Net income per common share – Diluted

 

$

2.66

 

$

2.09

 

$

1.94

 

$

2.93

 

$

1.37

 

Cash dividends declared per common share

 

$

1.895

 

$

1.7925

 

$

1.605

 

$

1.475

 

$

1.41

 

Basic weighted average common shares outstanding

 

32,265

 

30,236

 

26,993

 

24,373

 

24,192

 

Diluted weighted average common shares and common share equivalents outstanding

 

38,970

 

37,786

 

29,808

 

31,818

 

26,680

 

 

20



 

Balance Sheet Data

 

 

 

As of December 31,

 

(In thousands)

 

2003

 

2002

 

2001

 

2000

 

1999

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial real estate, before accumulated  depreciation

 

$

1,346,431

 

$

975,777

 

$

984,375

 

$

895,810

 

$

908,866

 

Total assets

 

2,261,841

 

1,473,170

 

1,371,577

 

1,161,154

 

1,071,242

 

Mortgages and notes payable, revolving  credit facilities and term loans

 

1,119,449

 

541,503

 

504,831

 

460,716

 

435,693

 

Minority interests

 

54,791

 

44,718

 

46,430

 

43,326

 

41,494

 

Preferred Income Equity Redeemable Shares SM

 

 

111,721

 

111,231

 

110,774

 

110,348

 

Stockholders’ equity

 

950,782

 

626,645

 

612,908

 

455,073

 

406,104

 

 

Other Data

 

 

 

 

Year Ended December 31,

 

(In thousands)

 

2003

 

2002

 

2001

 

2000

 

1999

 

Funds from operations after distributions to  preferred shareholders (1)

 

$

128,781

 

$

116,230

 

$

94,416

 

$

74,698

 

$

61,656

 

Funds from operations before distributions to  preferred shareholders (1)

 

135,474

 

125,430

 

103,616

 

83,898

 

70,856

 

Net cash provided by operating activities

 

78,250

 

101,948

 

80,588

 

53,806

 

48,013

 

Net cash used in investment activities

 

(491,369

)

(52,328

)

(420,061

)

(38,699

)

(228,678

)

Net cash provided by (used in) financing activities

 

393,645

 

(4,793

)

341,873

 

(25,875

)

195,990

 

 


(1)  The revised White Paper on Funds from Operations, or FFO, approved by the Board of Governors of NAREIT in October 1999 defines FFO as net income (loss) (computed in accordance with generally accepted accounting principles, or GAAP), excluding gains (or losses) from debt restructuring and sales of properties, plus real estate related depreciation and amortization and after adjustments for unconsolidated partnerships and joint ventures.  We believe that FFO is helpful to investors as a measure of the performance of an equity REIT because, along with cash flow from operating activities, financing activities and investing activities, it provides investors with an indication of our ability to incur and service debt, to make capital expenditures and to fund other cash needs.  We compute FFO in accordance with the current standards established by NAREIT, which may not be comparable to FFO reported by other REITs that do not define the term in accordance with the current NAREIT definition or that interpret the current NAREIT definition differently than us.  FFO does not represent cash generated from operating activities in accordance with GAAP and should not be considered as an alternative to net income (determined in accordance with GAAP) as an indication of our financial performance or to cash flow from operating activities (determined in accordance with GAAP) as a measure of our liquidity, nor is it indicative of funds available to fund our cash needs, including our ability to make cash distributions.

 

A reconciliation of FFO to net income computed in accordance with GAAP is provided under the heading of “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Funds From Operations.”

 

21



 

ITEM 7.            MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

Overview

 

SL Green Realty Corp., or the Company, a Maryland corporation, and SL Green Operating Partnership, L.P., or the Operating Partnership, a Delaware limited partnership, were formed in June 1997 for the purpose of combining the commercial real estate business of S.L. Green Properties, Inc. and its affiliated partnerships and entities.  Unless the context requires otherwise, all references to “we,” “our”, and “us” means the Company and all entities owned or controlled by the Company, including the Operating Partnership.

 

The following discussion related to our consolidated financial statements should be read in conjunction with the financial statements appearing in Item 8 of this Annual Report on Form 10-K.

 

2003 proved to be a year of transition.  The national economy began to recover after over two years of a difficult recession.  New York City witnessed an increase in overall business activity and a reduction in what had become significant budget deficits.  Securities firms began limited hiring and the City’s unemployment rates, which were above national averages, began to decline.  This improvement in the economic environment had a modestly positive impact on office space demand.  Vacancy rates stabilized as the supply of sublease space began to shrink.  Landlords should benefit from a moderation in property insurance costs.  Additionally, real estate tax increases are expected to moderate.

 

The Midtown office market appears to have bottomed with an overall vacancy of approximately 12%.  Overall rents and tenant concession packages appear to be stabilizing.  Midtown continues to benefit from the absence of new construction.  In 2003, no major project was completed in the approximately 231 million square foot Midtown marketIn this environment we registered 2003 year-end occupancy of 95.8% versus 96.9% at the end of 2002.  Additionally, new cash rents on previously occupied space by new tenants at our Same-Store Properties was 6.5% higher than the previous cash rent paid by the old tenant for the same space.  In 2004, we expect vacancy rates in Midtown will gradually decline as office space demand increases in response to a recovering economy.  We do not expect to see any meaningful increase in rents during 2004.  Tenant concession packages should remain stable.  Additionally, in order for us to maintain our current occupancy levels, we believe that ongoing capital improvements to the common areas and physical infrastructures will be required at our properties.

 

The acquisition market continues to witness record prices in heated auctions.  During 2003, approximately $9.1 billion of real estate acquisitions closed at an average rate of $346 per square foot.  Much of the activity was fueled by continued strong investor interest in midtown Manhattan and historically low borrowing costs.  Despite this environment, we purchased $867.9 million of properties in four separate real estate transactions at a blended rate of $323 per square foot.  These acquisitions included 220 East 42nd Street for $265.0 million, condominium interests in 125 Broad Street for $92.0 million, 461 Fifth Avenue for $60.9 million and a 45% interest in 1221 Avenue of the Americas for $450.0 million.

 

As of December 31, 2003, our wholly-owned properties consisted of 20 commercial properties encompassing approximately 8.2 million rentable square feet located primarily in midtown Manhattan, a borough of New York City, or Manhattan.  As of December 31, 2003, the weighted average occupancy (total leased square feet divided by total available square feet) of the wholly-owned properties was 95.8%.  Our portfolio also includes ownership interests in unconsolidated joint ventures, which own six commercial properties in Manhattan, encompassing approximately 6.9 million rentable square feet, and which had a weighted average occupancy of 95.8% as of December 31, 2003.  In addition, we manage three office properties owned by third parties and affiliated companies encompassing approximately 1.0 million rentable square feet.

 

Critical Accounting Policies

 

Our discussion and analysis of financial condition and results of operations is based on our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States.  The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, and contingencies as of the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods.  We evaluate our assumptions and estimates on an ongoing basis.  We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources.  Actual results may differ from these estimates under different assumptions or conditions.  We believe the following critical accounting policies affect our more significant judgments and estimates used in the preparation of our consolidated financial statements.

 

22



 

Rental Property

 

On a periodic basis, our management team assesses whether there are any indicators that the value of our real estate properties, including joint venture properties and assets held for sale, and structured finance investments may be impaired.  If the carrying amount of the property is greater than the estimated expected future cash flow (undiscounted and without interest charges) of the asset or sales price, impairment has occurred.  We will then record an impairment loss equal to the difference between the carrying amount and the fair value of the asset.  We do not believe that the value of any of our rental properties or structured finance investments was impaired at December 31, 2003 and 2002.

 

Revenue Recognition

 

Rental revenue is recognized on a straight-line basis over the term of the lease. The excess of rents recognized over amounts contractually due pursuant to the underlying leases are included in deferred rents receivable on the accompanying balance sheets.  We establish, on a current basis, an allowance for future potential tenant credit losses which may occur against this account.  The balance reflected on the balance sheet is net of such allowance.

 

Interest income on structured finance investments is recognized over the life of the investment using the effective interest method and recognized on the accrual basis.  Fees received in connection with loan commitments are deferred until the loan is funded and are then recognized over the term of the loan as an adjustment to yield.  Anticipated exit fees, whose collection is expected, are also recognized over the term of the loan as an adjustment to yield.  Fees on commitments that expire unused are recognized at expiration.

 

Income recognition is generally suspended for structured finance investments at the earlier of the date at which payments become 90 days past due or when, in the opinion of management, a full recovery of income and principal becomes doubtful.  Income recognition is resumed when the loan becomes contractually current and performance is demonstrated to be resumed.

 

Allowance for Doubtful Accounts

 

We maintain an allowance for doubtful accounts for estimated losses resulting from the inability of our tenants to make required rent payments. If the financial condition of a specific tenant were to deteriorate, resulting in an impairment of its ability to make payments, additional allowances may be required.

 

Reserve for Possible Credit Losses

 

The expense for possible credit losses in connection with structured finance investments is the charge to earnings to increase the allowance for possible credit losses to the level that we estimate to be adequate considering delinquencies, loss experience and collateral quality.  Other factors considered relate to geographic trends and product diversification, the size of the portfolio and current economic conditions.  Based upon these factors, we establish the provision for possible credit losses by category of asset.  When it is probable that we will be unable to collect all amounts contractually due, the account is considered impaired.

 

Where impairment is indicated, a valuation write-down or write-off is measured based upon the excess of the recorded investment amount over the net fair value of the collateral, as reduced by selling costs.  Any deficiency between the carrying amount of an asset and the net sales price of repossessed collateral is charged to the allowance for credit losses.  No reserve for impairment was required at December 31, 2003 or 2002.

 

Derivative Instruments

 

In the normal course of business, we use a variety of derivative instruments to manage, or hedge, interest rate risk.  We require that hedging derivative instruments be effective in reducing the interest rate risk exposure that they are designated to hedge.  This effectiveness is essential for qualifying for hedge accounting.  Some derivative instruments are associated with an anticipated transaction.  In those cases, hedge effectiveness criteria also require that it be probable that the underlying transaction occurs.  Instruments that meet these hedging criteria are formally designated as hedges at the inception of the derivative contract.

 

To determine the fair values of derivative instruments, we use a variety of methods and assumptions that are based on market conditions and risks existing at each balance sheet date.  For the majority of financial instruments including most derivatives, long-term investments and long-term debt, standard market conventions and techniques such as discounted cash flow analysis, option-pricing models, replacement cost, and termination cost are used to determine fair value.  All methods of assessing fair value result in a general approximation of value, and such value may never actually be realized.

 

23



 

Results of Operations

 

Comparison of the year ended December 31, 2003 to the year ended December 31, 2002

 

The following comparison for the year ended December 31, 2003, or 2003, to the year ended December 31, 2002, or 2002, makes reference to the following:  (i) the effect of the “Same-Store Properties,” which represents all properties owned by us at January 1, 2002 and at December 31, 2003 and total 17 of our 20 wholly-owned properties, representing approximately 80% of our annualized rental revenue, (ii) the effect of the “2003 Acquisitions,” which represents all properties acquired in 2003, namely, 220 East 42nd Street (February 2003), 125 Broad Street (March 2003) and 461 Fifth Avenue (October 2003), and (iii) “Other,” which represents corporate level items not allocable to specific properties and eEmerge.  Assets classified as held for sale, namely 50 West 23rd Street, 1370 Broadway and 875 Bridgeport Avenue, Shelton, CT, are excluded from the following discussion.

 

Rental Revenues (in millions)

 

2003

 

2002

 

$
Change

 

%
Change

 

Rental revenue

 

$

233.0

 

$

179.5

 

$

53.5

 

29.8

%

Escalation and reimbursement revenue

 

42.2

 

27.2

 

15.0

 

55.2

 

Signage revenue

 

1.0

 

1.5

 

(0.5

)

(33.3

)

Total

 

$

276.2

 

$

208.2

 

$

68.0

 

32.7

%

 

 

 

 

 

 

 

 

 

 

Same-Store Properties

 

$

223.2

 

$

208.6

 

$

14.6

 

7.0

%

2003 Acquisitions

 

50.6

 

 

50.6

 

 

Other

 

2.4

 

(0.4

)

2.8

 

700.0

 

Total

 

$

276.2

 

$

208.2

 

$

68.0

 

32.7

%

 

Despite a decrease in occupancy in the Same-Store Properties from 96.9% in 2002 to 95.8% in 2003, rental revenue in the Same-Store Properties increased because new cash rents on previously occupied space by new tenants at Same-Store Properties was 6.5% higher than the previously fully escalated rent (i.e., the latest annual rent paid on the same space by the old tenant).

 

At December 31, 2003, we estimated that the current market rents on our wholly-owned properties were approximately 1.0% higher than then existing in-place fully escalated rents.  Approximately 8.0% of the space leased at wholly-owned properties expires during 2004.  We believe that occupancy rates will remain relatively flat at the Same-Store Properties in 2004.

 

The increase in escalation and reimbursement revenue was primarily due to the recoveries at the Same-Store Properties ($9.6 million) and the 2003 Acquisitions ($5.4 million).  The increase in recoveries at the Same-Store Properties was due to real estate tax recoveries ($6.9 million), operating expense recoveries ($1.5 million) and electric recoveries ($1.2 million).  We recovered approximately 90% of our electric costs at our Same-Store Properties during 2003.

 

Investment and Other Income (in millions)

 

2003

 

2002

 

$
Change

 

%
Change

 

Equity in net income of unconsolidated joint ventures

 

$

14.9

 

$

18.4

 

$

(3.5

)

(19.0

)%

Investment and preferred equity income

 

22.1

 

23.2

 

(1.1

)

(4.7

)

Other

 

10.6

 

5.6

 

5.0

 

89.3

 

Total

 

$

47.6

 

$

47.2

 

$

0.4

 

0.9

%

 

The decrease in equity in net income of unconsolidated joint ventures was primarily due to lower occupancy levels in 2003 compared to 2002.  Occupancy at our joint venture properties decreased from 97.3% in 2002 to 95.8% in 2003.  At December 31, 2003, we estimated that current market rents at our joint venture properties were approximately 14.4% higher than then existing in-place fully escalated rents.  Approximately 3.7% of the space leased at our joint venture properties expires during 2004.  Our acquisition of a 45% interest in 1221 Avenue of the Americas in late December 2003 is expected to significantly increase our equity in net income of unconsolidated joint ventures in 2004.

 

24



 

The decrease in investment income from structured finance investments primarily represents a decrease in preferred equity income ($3.7 million) as a result of the redemption of the preferred equity investment in 220 East 42nd Street in March 2003.  This was partially offset by an increase in investment income from mezzanine transactions ($2.7 million).  The weighted average investment balance outstanding and yield were $135.8 million and 11.72%, respectively, for 2003 compared to $160.4 million and 13.1%, respectively, for 2002.

 

The increase in other income was primarily due to lease buyout income ($0.8 million) and gains from the sale of non-real estate assets ($1.1 million).  The balance represents fee income earned by the service corporation ($3.3 million), which was accounted for under the equity method prior to July 1, 2003.

 

Property Operating Expenses (in millions)

 

2003

 

2002

 

$
Change

 

%
Change

 

Operating expenses (excluding electric)

 

$

61.0

 

$

41.0

 

$

20.0

 

48.8

%

Electric costs

 

19.5

 

15.2

 

4.3

 

28.3

 

Real estate taxes

 

44.5

 

28.3

 

16.2

 

57.2

 

Ground rent

 

13.6

 

12.6

 

1.0

 

7.9

 

Total

 

$

138.6

 

$

97.1

 

$

41.5

 

42.7

%

 

 

 

 

 

 

 

 

 

 

Same-Store Properties

 

$

108.2

 

$

93.8

 

$

14.4

 

15.4

%

2003 Acquisitions

 

24.5

 

 

24.5

 

 

Other

 

5.9

 

3.3

 

2.6

 

78.8

 

Total

 

$

138.6

 

$

97.1

 

$

41.5

 

42.7

%

 

Same-Store Properties operating expenses, excluding real estate taxes ($8.0 million), increased approximately $6.4 million.  There were increases in insurance premiums from policy renewals ($2.4 million), advertising, professional and management costs ($1.3 million), repairs, maintenance and security expenses ($0.4 million) and utility costs ($1.7 million).

 

The increase in electric costs was primarily due to higher electric usage in 2003 compared to 2002 as well as an increase in the square footage of wholly-owned properties.

 

The increase in real estate taxes was primarily attributable to the Same-Store Properties ($8.0 million) due to higher assessed property values and increased tax rates and the 2003 Acquisitions ($8.3 million).

 

Other Expenses (in millions)

 

2003

 

2002

 

$
Change

 

%
Change

 

Interest expense

 

$

45.5

 

$

35.4

 

$

10.1

 

28.5

%

Depreciation and amortization expense

 

47.3

 

37.6

 

9.7

 

25.8

 

Marketing, general and administrative expenses

 

17.1

 

13.3

 

3.8

 

28.6

 

Total

 

$

109.9

 

$

86.3

 

$

23.6

 

27.4

%

 

The increase in interest expense was primarily attributable to costs associated with new investment activity ($15.1 million) and the funding of ongoing capital projects and working capital requirements ($0.3 million).  This was partially offset by reduced interest costs due to dispositions ($4.4 million) and floating rate debt ($0.5 million), due to the weighted average interest rate decreasing from 6.31% for the year ended December 31, 2002 to 5.66% for the year ended December 31, 2003.  As a result of the new investment activity, the weighted average debt balance increased from $555.6 million as of December 31, 2002 to $756.4 million as of December 31, 2003.

 

Marketing, general and administrative expenses increased primarily as a result of higher compensation awards.  Despite this, we have reduced our marketing, general and administrative costs to 5.5% of total revenues in 2003 compared to 5.6% in 2002.

 

25



 

Comparison of the year ended December 31, 2002 to the year ended December 31, 2001

 

The following comparison for the year ended December 31, 2002 (“2002”) to the year ended December 31, 2001 (“2001”) makes reference to the following:  (i) the effect of the “Same-Store Properties,” which represents all properties owned by us at January 1, 2001 and at December 31, 2002 and total 15 of our 19 wholly-owned properties, representing approximately 83% of our annualized rental revenue, (ii) the effect of the “2001 Acquisitions,” which represents all properties acquired in 2001, namely, 317 Madison Avenue (June 2001), (iii) the effect of the “2001 Dispositions,” which represents all properties disposed of in 2001, namely, 633 Third Avenue (January 2001), One Park Avenue which was contributed to a joint venture (May 2001) and 1412 Broadway (June 2001), and (iv) “Other,” which represents corporate level items not allocable to specific properties, eEmerge and assets of which a portion was sold, namely, 110 East 42nd Street.  Assets classified as held for sale are excluded from the following discussion.

 

Rental Revenues (in millions)

 

2002

 

2001

 

$
Change

 

%
Change

 

Rental revenue

 

$

179.5

 

$

190.0

 

$

(10.5

)

(5.2

)%

Escalation and reimbursement revenue

 

27.2

 

29.2

 

(2.0

)

(6.9

)

Signage revenue

 

1.5

 

1.5

 

 

 

Total

 

$

208.2

 

$

220.7

 

$

(12.5

)

(5.7

)%

 

 

 

 

 

 

 

 

 

 

Same-Store Properties

 

$

186.5

 

$

184.3

 

$

2.2

 

1.2

%

2001 Acquisitions

 

15.2

 

8.0

 

7.2

 

90.0

 

2001 Dispositions

 

 

21.3

 

(21.3

)

(100.0

)

Other

 

6.5

 

7.1

 

(0.6

)

(8.5

)

Total

 

$

208.2

 

$

220.7

 

$

(12.5

)

(5.7%

)

 

Rental revenue in the Same-Store Properties was primarily flat despite a decrease in occupancy from 97.4% in 2001 to 97.1% in 2002.  The revenue increase is primarily due to annualized rents from replacement rents on previously occupied space at Same-Store Properties being 41.0% higher than previous fully escalated rents.

 

We estimated that the current market rents on our wholly-owned properties were approximately 6.6% higher than existing in-place fully escalated rents.  Approximately 10.2% of the space leased at wholly-owned properties was expected to expire during 2003.

 

The decrease in escalation and reimbursement revenue was primarily due to the 2001 Dispositions ($4.1 million).  This was partially offset by increased recoveries at the Same-Store Properties ($1.0 million) and the 2001 Acquisitions ($1.2 million).  We recovered approximately 89% of our electric costs at our Same-Store Properties during 2002.

 

Investment and Other Income (in millions)

 

2002

 

2001

 

$
Change

 

%
Change

 

Equity in net income of unconsolidated joint ventures

 

$

18.4

 

$

8.6

 

$

9.8

 

114.0

%

Investment and preferred equity income

 

23.2

 

17.4

 

5.8

 

33.3

 

Other

 

5.6

 

2.8

 

2.8

 

100.0

 

Total

 

$

47.2

 

$

28.8

 

$

18.4

 

63.9

%

 

The increase in equity in net income of unconsolidated joint ventures was due to an increase in the square footage of our joint venture properties from 3.1 million square feet in 2001 to 4.6 million square feet in 2002.  The increase was primarily due to One Park Avenue being included for all of 2002, but only seven months of 2001 and 1515 Broadway being included for seven months in 2002 and none in 2001.  This was partially offset by 469 Seventh Avenue, which was sold in June 2002.  Occupancy at the joint venture properties decreased from 98.4% in 2001 to 97.3% in 2002.  We estimated that current market rents were approximately 20.8% higher than existing in-place fully escalated rents at our joint venture properties.  Approximately 10.9% of the space leased at joint venture properties was expected to expire during 2003.

 

26



 

The increase in investment income primarily represents interest income from structured finance transactions ($6.8 million).  The weighted average loan balance outstanding and yield were $160.4 million and 13.1%, respectively, for 2002 compared to $94.2 million and 15.6%, respectively, for 2001.  This was offset by a decrease in interest income from excess cash on hand ($1.0 million).

 

The increase in other income was primarily due to management and asset management fees earned from joint ventures ($2.2 million) due to the increase in the size of the joint venture portfolio compared to prior periods.  The balance of the increase was due to the receipt of an acquisition break-up fee ($0.3 million) and a gain on the sale of mortgage recording tax credits ($0.6 million).

 

Property Operating Expenses (in millions)

 

2002

 

2001

 

$
Change

 

%
Change

 

Operating expenses (excluding electric)

 

$

41.0

 

$

37.7

 

$

3.3

 

8.8

%

Electric costs

 

15.2

 

17.6

 

(2.4

)

(13.6

)

Real estate taxes

 

28.3

 

28.8

 

(0.5

)

(1.7

)

Ground rent

 

12.6

 

12.6

 

 

 

Total

 

$

97.1

 

$

96.7

 

$

0.4

 

0.4

%

 

 

 

 

 

 

 

 

 

 

Same-Store Properties

 

$

84.0

 

$

81.1

 

$

2.9

 

3.6

%

2001 Acquisitions

 

6.4

 

3.7

 

2.7

 

73.0

 

2001 Dispositions

 

 

7.2

 

(7.2

)

(100.0

)

Other

 

6.7

 

4.7

 

2.0

 

42.6

 

Total

 

$

97.1

 

$

96.7

 

$

0.4

 

0.4

%

 

Same-Store Properties operating expenses, excluding real estate taxes, were relatively flat.  There were increases in security costs and insurance ($1.5 million), advertising ($0.2 million), operating payroll ($0.2 million), management ($0.9 million) and repairs and maintenance ($0.5 million).  These increases were partially offset by decreases in professional fees ($0.3 million), electric costs ($1.0 million), and lower steam costs ($0.5 million).

 

The decrease in electric costs was primarily due to lower electric rates in 2002 compared to 2001.

 

The decrease in real estate taxes was primarily attributable to the 2001 Dispositions which decreased real estate taxes by $2.8 million.  This was partially offset by an increase in real estate taxes attributable to the Same-Store Properties ($1.5 million) due to higher assessed property values and the 2001 Acquisitions ($0.9 million).

 

Other Expenses (in millions)

 

2002

 

2001

 

$
Change

 

%
Change

 

Interest expense

 

$

35.4

 

$

43.9

 

$

(8.5

)

(19.4

)%

Depreciation and amortization expense

 

37.6

 

35.8

 

1.8

 

5.0

 

Marketing, general and administrative expenses

 

13.3

 

15.4

 

(2.1

)

(13.6

)

Total

 

$

86.3

 

$

95.1

 

$

(8.8

)

(9.3%

)

 

The decrease in interest expense was primarily attributable to lower average debt levels due to dispositions ($10.6 million) and reduced interest costs on floating rate debt ($3.6 million).  The 2001 balance also includes $0.3 million associated with the reclassification of an extraordinary item related to the early extinguishment of debt to interest expense.  This was partially offset by increases due to costs associated with new investment activity ($5.2 million), and the funding of ongoing capital projects and working capital reserves ($0.5 million).  The weighted average interest rate decreased from 6.91% for the year ended December 31, 2001 to 6.31% for the year ended December 31, 2002 and the weighted average debt balance increased from $492.0 million to $555.6 million for these same periods.

 

27



 

Marketing, general and administrative expenses decreased primarily due to a one time $1.0 million donation made in 2001 to the Twin Towers Fund and a decrease in corporate advertising ($0.5 million) in 2002.  We have reduced our marketing, general and administrative costs to 5.6% of total revenues in 2002 compared to 6.4% in 2001.

 

Liquidity and Capital Resources

 

We currently expect that our principal sources of working capital and funds for acquisition and redevelopment of properties and for structured finance investments will include: (1) cash flow from operations; (2) borrowings under our secured and unsecured revolving credit facilities; (3) other forms of secured or unsecured financing; (4) proceeds from common or preferred equity or debt offerings by us or the Operating Partnership (including issuances of limited partnership units in the Operating Partnership); and (5) net proceeds from divestitures of properties.  Additionally, we believe that our joint venture investment programs will also continue to serve as a source of capital for acquisitions and structured finance investments.  We believe that our sources of working capital, specifically our cash flow from operations and borrowings available under our unsecured and secured revolving credit facilities, and our ability to access private and public debt and equity capital, are adequate for us to meet our short-term and long-term liquidity requirements for the foreseeable future.

 

Cash Flows

 

2003 Compared to 2002

 

Net cash provided by operating activities decreased $23.6 million to $78.3 million for the year ended December 31, 2003 compared to $101.9 million for the year ended December 31, 2002.  Operating cash flow was primarily generated by the Same-Store Properties and 2003 Acquisitions, as well as the structured finance investments, but was reduced by the decrease in operating cash flow from the properties sold in 2003.

 

Net cash used in investing activities increased $439.1 million to $491.4 million for the year ended December 31, 2003 compared to $52.3 million for the year ended December 31, 2002.  The increase was due primarily to the purchase of 1221 Avenue of the Americas in 2003 of which our share of the cash invested was approximately $385.1 million.  This was offset by the receipt of net proceeds from the sale of 50 West 23rd Street, 1370 Broadway and 875 Bridgeport Avenue, Shelton, CT ($119.1 million).  In addition, there was an increase in acquisitions and capital improvements in 2003 ($81.2 million and $22.5 million, respectively) as compared to 2002 (none and $26.7 million, respectively).  This relates primarily to the acquisitions of 220 East 42nd Street, condominium interests in 125 Broad Street and 461 Fifth Avenue.  In addition, there were net originations of structured finance investments ($169.3 million) in 2003 compared to 2002.

 

Net cash provided by financing activities increased $398.4 million to $393.6 million for the year ended December 31, 2003 compared to $4.8 million of net cash used for the year ended December 31, 2002.  The increase was primarily due to new mortgage financings and draws under our credit facilities and term loans ($598.0 million) being greater than repayments ($346.9 million).  In addition we received net proceeds of $152.0 million from the sale of our 7.625% Series C cumulative redeemable preferred stock in 2003.

 

2002 Compared to 2001

 

Net cash provided by operating activities increased $21.3 million to $101.9 million for the year ended December 31, 2002 compared to $80.6 million for the year ended December 31, 2001.  Operating cash flow was primarily generated by the Same-Store Properties and 2001 Acquisitions, as well as the structured finance investments, but was reduced by the decrease in operating cash flow from the 2001 Dispositions and contributions to a joint venture.

 

Net cash used in investing activities decreased $367.8 million to $52.3 million for the year ended December 31, 2002 compared to $420.1 million for the year ended December 31, 2001.  The decrease was due primarily to the acquisitions of One Park Avenue ($233.9 million) and 1370 Broadway ($50.5 million) in January 2001 compared to no acquisitions of wholly-owned properties in 2002.  Approximately $50.2 million of the 2001 acquisitions was funded out of restricted cash set aside from the sale of 17 Battery Place South.  The investing activity in 2002 related primarily to the joint venture investment in connection with the acquisition of 1515 Broadway in May 2002.  The change in structured finance investments relates primarily to the timing of originations and repayments or participations of these investments.

 

28



 

Net cash used in financing activities decreased $346.7 million to $4.8 million of net cash used for the year ended December 31, 2002 compared to $341.9 million of net cash provided for the year ended December 31, 2001.  The decrease was primarily due to lower borrowing requirements due to the decrease in acquisitions, which would have been funded with mortgage debt and draws under the line of credit.  In addition, the 2001 financing activities include the $148.4 million in net proceeds from a common stock offering.

 

Capitalization

 

On January 16, 2004, we sold 1,800,000 shares of common stock under our shelf registration statement.  The net proceeds from this offering ($73.9 million) were used to pay down our unsecured revolving credit facility.

 

On December 12, 2003, we sold 6,300,000 shares of our 7.625% Series C cumulative redeemable preferred stock under our shelf registration statement.  A portion of the net proceeds from this offering ($152.0 million) were used to pay down our secured and unsecured revolving credit facilities.

 

On September 30, 2003, we converted our 4,600,000 PIERS into 4,698,880 shares of our common stock.

 

On July 25, 2001, we sold 5,000,000 shares of common stock under our shelf registration statement.  The net proceeds from this offering ($148.4 million) were used to pay down our unsecured revolving credit facility.

 

Rights Plan

 

We adopted a shareholder rights plan which provides, among other things, that when specified events occur, our common shareholders will be entitled to purchase from us a new created series of junior preferred shares, subject to our ownership limit described below.  The preferred share purchase rights are triggered by the earlier to occur of (1) ten days after the date of a purchase announcement that a person or group acting in concert has acquired, or obtained the right to acquire, beneficial ownership of 17% or more of our outstanding shares of common stock or (2) ten business days after the commencement of or announcement of an intention to make a tender offer or exchange offer, the consummation of which would result in the acquiring person becoming the beneficial owner of 17% or more of our outstanding common stock.  The preferred share purchase rights would cause substantial dilution to a person or group that attempts to acquire us on terms not approved by our board of directors.

 

Dividend Reinvestment and Stock Purchase Plan

 

We filed a registration statement with the SEC for our dividend reinvestment and stock purchase plan, or DRIP, which was declared effective on September 10, 2001.  The DRIP commenced on September 24, 2001.  We registered 3,000,000 shares of common stock under the DRIP.

 

During the years ended December 31, 2003 and 2002, we issued 68,453 and 71 common shares and received approximately $2,500,000 and $2,000 of proceeds from dividend reinvestments and/or stock purchases under the DRIP, respectively.  DRIP shares may be issued at a discount to the market price.

 

2003 Long-Term Outperformance Compensation Program

 

At the May 2003 meeting of our board of directors, our board ratified a long-term, seven-year compensation program for certain members of senior management.  The program, which measures our performance over a 48-month period (unless terminated earlier) commencing April 1, 2003, provides that holders of our common equity are to achieve a 40% total return, or baseline return, during the measurement period over a base share price of $30.07 per share before any restricted stock awards are granted.  Plan participants will receive an award of restricted stock in an amount between 8% and 10% of the excess total return over the baseline return.  At the end of the four-year measurement period, 40% of the award will vest on the measurement date and 60% of the award will vest ratably over the subsequent three years based on continued employment.  Any restricted stock to be issued under the program will be allocated from our 1997 Stock Option and Incentive Plan, as amended, which was previously approved through a shareholder vote in May 2002.   We will record the expense of the restricted stock award in accordance with Financial Accounting Standards Board, or FASB, Statement No. 123, “Accounting for Stock-Based Compensation”.  The fair value of the award on the date of grant was determined to be $3.2 million.  Forty percent of the award will be amortized over four years and the balance will be amortized at 20% per year over five, six and seven years, respectively, such that 20% of year five, 16.67% of year six and 14.29% of year seven will be recorded in year one.  The total value of the award (capped at $25.5 million) will determine the number of shares assumed to be issued for purposes of calculating diluted earnings per share.  Compensation expense of $0.5 million related to this plan was recorded during the year ended December 31, 2003.

 

29



 

Market Capitalization

 

At December 31, 2003, borrowings under our mortgage loans, secured and unsecured revolving credit facilities and unsecured term loan (excluding our share of joint venture debt of $473.6 million) represented 39.3% of our consolidated market capitalization of $2.9 billion (based on a common stock price of $41.05 per share, the closing price of our common stock on the New York Stock Exchange on December 31, 2003).  Market capitalization includes our consolidated debt, common and preferred stock and the conversion of all units of limited partnership interest in our Operating Partnership, but excludes our share of joint venture debt.

 

Indebtedness

 

The table below summarizes our consolidated mortgage, secured and unsecured revolving credit facilities and unsecured term loan outstanding at December 31, 2003 and 2002, respectively (in thousands).

 

 

 

December 31,

 

Debt Summary:

 

2003

 

2002

 

Balance

 

 

 

 

 

Fixed rate

 

$

515,871

 

$

232,972

 

Variable rate — hedged

 

270,000

 

233,254

 

Total fixed rate

 

785,871

 

466,226

 

Variable rate

 

267,578

 

74,000

 

Variable rate—supporting variable rate assets

 

66,000

 

22,178

 

Total variable rate

 

333,578

 

96,178

 

Total

 

$

1,119,449

 

$

562,404

 

 

 

 

 

 

 

Percent of Total Debt:

 

 

 

 

 

Total fixed rate