FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1998
.................................................
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ...................to ...........................
Commission file number: 1-13375
........................................................
TOWER REALTY TRUST, INC.
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(Exact name of registrant as specified in its charter)
Maryland 13-3938558
- -------------------------------- -------------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
292 Madison Avenue 3rd Floor, New York, New York 10017
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(Address of principal executive offices)
(Zip Code)
(212) 448-1864
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(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
---- ----
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
The number of shares of common stock, par value $0.01 per share,
outstanding on August 12, 1998 was 16,959,355.
<PAGE>
TOWER REALTY TRUST, INC.
This Quarterly Report on Form 10-Q contains forward-looking statements within
the meaning of the Private Securities Litigation Reform Act of 1995, which
involves certain risks and uncertainties. The Company's actual results in future
periods may be materially different from any future performance anticipated
herein. Each forward-looking statement that the Company believes is material is
accompanied by a cautionary statement or statements identifying important
factors that could cause actual results to differ materially from those
described in the forward-looking statement. In the context of forward-looking
information provided in this Quarterly Report on Form 10-Q and in other reports,
please refer to the discussion of risk factors detailed in, as well as the other
information contained in, the Company's filings with the Securities and Exchange
Commission during the past 12 months.
INDEX
<TABLE>
<CAPTION>
Part I -- FINANCIAL INFORMATION Page
Number
------
Item 1. Financial Statements (unaudited).
<S> <C>
Condensed Consolidated Balance Sheets of Tower Realty Trust, Inc. (the "Company") as of
June 30, 1998 and December 31, 1997............................................................3
Condensed Consolidated Statements of Operations of the Company for the Three Months Ended
June 30, 1998 and 1997 and Condensed Combined Statement of Operations of Tower Predecessor
for the Three Months Ended June 30, 1997.......................................................4
Condensed Consolidated Statements of Operations for the Company for the Six Months Ended
June 30, 1998 and 1997 and Condensed Combined Statement of Operations of Tower Predecessor
for the Six Months Ended June 30, 1997.........................................................5
Condensed Consolidated Statements of Cash Flows of the Company for the Three Months Ended
June 30, 1998 and 1997 and Condensed Combined Statement of Cash Flows of Tower Predecessor
for the Six Months ended June 30, 1997.........................................................6
Notes to Condensed Consolidated and Combined Financial Statements..............................7
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations..............15
Item 3. Quantitative and Qualitative Disclosures About Market Risk.........................................20
Part II -- OTHER INFORMATION
Item 1. Legal Proceedings..................................................................................21
Item 2. Changes in Securities and Use of Proceeds..........................................................22
Item 3. Defaults Upon Senior Securities....................................................................22
Item 4. Submission of Matters to a Vote of Security Holders................................................22
Item 5. Other Information..................................................................................23
Item 6. Exhibits and Reports on Form 8-K...................................................................23
Signatures..................................................................................................24
</TABLE>
2
<PAGE>
PART 1 -- FINANCIAL INFORMATION
Item 1. Financial Statements.
TOWER REALTY TRUST, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
(Dollars in thousands)
<TABLE>
<CAPTION>
ASSETS June 30, 1998 December 31, 1997
-------------------- ----------------------
<S> <C> <C>
Real estate $ 679,837 $ 620,557
Less: accumulated depreciation (10,074) (2,444)
-------------------- ----------------------
669,763 618,113
Deferred charges, net 12,285 11,495
Receivables, net 7,384 3,820
Cash and cash equivalents 10,728 1,347
Escrowed cash 2,962 6,373
Other assets 9,888 12,537
Investments in joint ventures 2,701 2,411
-------------------- ----------------------
Total assets $ 715,711 $ 656,096
==================== ======================
LIABILITIES AND STOCKHOLDERS' EQUITY
Debt on real estate $ 228,863 $ 228,990
Line of credit 57,680 -
Accounts payable and accrued liabilities 8,365 7,494
Distributions payable 7,877 6,543
Deferred real estate taxes payable 9,468 9,758
Other liabilities 9,021 6,602
Amounts due to affiliates 285 372
-------------------- ----------------------
Total liabilities 321,559 259,759
-------------------- ----------------------
Minority interest in Operating Partnership net of
dividends declared 35,599 33,920
-------------------- ----------------------
Stockholders' equity:
Preferred shares 50,000,000 shares authorized,
none issued and outstanding - -
Common shares, .01 par value, 150,000,000 shares authorized,
16,959,355 shares issued and outstanding 169 169
Additional paid in capital 365,814 364,250
Distribution in excess of accumulated earnings (7,430) (2,002)
-------------------- ----------------------
Total stockholders' equity 358,553 362,417
-------------------- ----------------------
Total liabilities and stockholders' equity $ 715,711 $ 656,096
==================== ======================
</TABLE>
The accompanying notes are an integral part of these financial statements.
3
<PAGE>
<TABLE>
<CAPTION>
TOWER REALTY TRUST, INC.
CONDENSED CONSOLIDATED AND COMBINED STATEMENTS OF OPERATIONS
(Unaudited)
(Dollars in thousands, except per share amounts)
Tower
The Company The Company Predecessor
(Consolidated) For the (Consolidated) For (Combined) For
Three Months Ended the Three Months the Three Months
June 30, 1998 Ended June 30, 1997 Ended
(1) June 30, 1997
Revenues:
<S> <C> <C> <C>
Rental income $ 28,340 $ - $ 6,576
Management fees - - (12)
Construction, leasing and other fees 300 33 (24)
------------------- --------------- --------------
Total revenues 28,640 33 6,540
------------------- --------------- --------------
Expenses:
Property operating and maintenance 6,353 - 1,353
Real estate taxes 3,605 - 1,135
General and administrative 2,712 - 651
Interest expense 5,283 176 3,543
Depreciation and amortization 4,320 - 1,796
Ground rent/air rights expense 171 - 149
Sale of the Company 950 - -
Severance and other compensation
costs 1,443 - -
------------------- --------------- --------------
Total expenses 24,837 176 8,627
------------------- --------------- --------------
Equity in income of joint ventures
and unconsolidated subsidiaries 87 60 34
Net income (loss) before extraordinary
gain on early extinguishment of
debt and minority interest 3,890 (83) (2,053)
and minority interest
Extraordinary gain on early
extinguishment of debt - - 6,475
Minority interest (354) - -
-------------------- --------------- ---------------
Net income (loss) $ 3,536 $ (83) $ 4,422
==================== =============== ===============
Net income per common share - basic
and dilutive $ 0.21
====================
Weighted average number of common
shares outstanding-basic and dilutive 16,945,408
--------------------
</TABLE>
(1) The Company (Consolidated) for the three months ended June 30, 1997
represents operations from March 27, 1997 (date of inception) to June
30, 1997.
The accompanying notes are an integral part of these financial statements.
4
<PAGE>
<TABLE>
<CAPTION>
TOWER REALTY TRUST, INC.
CONDENSED CONSOLIDATED AND COMBINED STATEMENTS OF OPERATIONS
(Unaudited)
(Dollars in thousands, except per share amounts)
The Company The Company Tower
(Consolidated) (Consolidated) For Predecessor (Combined)
For the Six the Six Months For the Six Months
Months Ended Ended Ended June 30, 1997
June 30, 1998 June 30, 1997(1)
Revenues:
<S> <C> <C> <C>
Rental income $ 54,090 $ - $ 13,521
Management fees - - 245
Construction, leasing and other fees 494 33 474
----------- -------------- --------------
Total revenues 54,584 33 14,240
----------- -------------- --------------
Expenses:
Property operating and maintenance 11,976 - 2,703
Real estate taxes 7,217 - 2,331
General and administrative 4,840 - 1,746
Interest expense 9,896 176 7,028
Depreciation and amortization 8,643 - 3,494
Ground rent/air rights expense 342 - 299
Sale of the Company 950 - -
Severance and other compensation costs 1,443 - -
----------- -------------- --------------
Total expenses 45,307 176 17,601
----------- -------------- --------------
Equity in income of joint ventures and
unconsolidated subsidiaries 290 60 68
Net income (loss) before extraordinary gain on
early extinguishment of debt and minority
interest 9,567 (83) (3,293)
Extraordinary gain on early extinguishment of
debt - - 6,475
Minority interest (854) - -
----------- -------------- --------------
Net income (loss) $ 8,713 $ (83) $ 3,182
=========== ============== ===============
Net income per common share - basic and dilutive
$ 0.51
===========
Weighted average number of common shares
outstanding - basic and dilutive 16,933,070
===========
(1) The Company (Consolidated) for the six months ended June 30, 1997
represents operations from March 27, 1997 (date of inception) to June
30, 1997.
The accompanying notes are an integral part of these financial statements.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
TOWER REALTY TRUST, INC.
CONDENSED CONSOLIDATED AND COMBINED STATEMENTS OF CASH FLOWS
(Unaudited)
(Dollars in thousands)
The Company The Company Tower Predecessor
(Consolidated) For (Consolidated) For (Combined) For the
the Six Months the Six Months Six Months Ended
Ended June 30, 1998 Ended June 30, 1997 June 30, 1997
Cash flows from operating activities:
<S> <C> <C> <C>
Net income (loss) $ 8,713 $ (83) $ 3,182
Adjustments to reconcile net income (loss)
to net cash provided by operating
activities:
Depreciation and amortization 8,643 - 3,494
Amortization of deferred financing costs 860 - 345
Unbilled rental income (3,206) - 662
Extraordinary gain on early
extinguishment of debt - - (6,475)
Equity in income of joint ventures and
unconsolidated subsidiaries (250) (60) -
Changes in assets and liabilities:
Receivables (358) - (660)
Escrowed cash 3,411 - (8)
Other assets 2,690 - 49
Deferred real estate taxes liability (290) - -
Accounts payable and other liabilities 5,200 1,689 (281)
Minority interest 854 -
Other liabilities and amounts due to
affiliates 2,322 - 3,617
Stock compensation to
employees 682 - -
-------------------- --------------------- ------------------------
Net cash provided by operating
activities 27,952 1,546 3,925
-------------------- --------------------- ----------------------
Cash flows from investing activities:
Acquisitions of real estate, joint
venture interests and deferred charges (61,629) (7,640) (2,757)
Contribution to Management company - - 571
Increase in due from affiliates - (1,182) -
-------------------- --------------------- ----------------------
Net cash used in investing
activities (61,629) (8,822) (2,186)
-------------------- --------------------- ----------------------
Cash flows from financing activities:
Proceeds from debt on real estate and
other debt 114,900 7,279 2,186
Repayments of debt on real estate (57,627) - (4,612)
Partners' contributions, net - - 28
Distributions to OP Unitholders (1,284) - -
Distributions to common stockholders (13,131) - -
Proceeds from issuance of common stock - 1 -
Proceeds from Lawrence H. Feldman in
lieu of OP Units 200 - -
-------------------- --------------------- ----------------------
Net cash provided by (used in)
financing activities 43,058 7,280 (2,398)
-------------------- --------------------- ----------------------
Net increase (decrease) in cash and cash
equivalents 9,381 4 (659)
Cash and cash equivalents, beginning of period 1,347 - 4,985
==================== ===================== ======================
Cash and cash equivalents, end of period $ 10,728 $ 4 $ 4,326
==================== ===================== ======================
The accompanying notes are an integral part of these financial statements.
</TABLE>
6
<PAGE>
TOWER REALTY TRUST, INC.
NOTES TO CONDENSED CONSOLIDATED AND
COMBINED FINANCIAL STATEMENTS
1. Organization and Basis of Presentation:
Tower Realty Trust, Inc.
Tower Realty Trust, Inc. (collectively with its subsidiaries, the
"Company") was incorporated in the state of Maryland on March 27, 1997.
The Company operates so as to qualify as a real estate investment trust
("REIT") for federal income tax purposes. As of October 16, 1997, the
Company consummated an initial public offering (the "Offering") of
13,817,250 shares of common stock, par value $0.01 per share (the "Common
Stock") (including the exercise of the underwriters' over-allotment
option of 1,802,250 shares) and effected concurrent private placements
(the "Concurrent Private Placements") of 1,153,845 shares of Common Stock
at a price of $26.00 per share and realized net proceeds therefrom of
approximately $353.35 million. In addition, in connection with the
formation transactions (the "Formation Transactions") relating to the
Offering, including the acquisition of certain property interests and the
cancellation of certain indebtedness, the Company issued 1,949,360 shares
of Common Stock. Upon consummation of the Offering, the Company acquired
a sole 1% general partner interest in Tower Realty Operating Partnership,
L.P., a Delaware limited partnership (the "Operating Partnership") and a
90.4% limited partner interest in the Operating Partnership. At June 30,
1998, the Company had a 1% general partnership interest and a 90.0%
limited partner interest in the Operating Partnership.
The Company was formed to continue and expand the commercial real estate
business of Tower Equities & Real Estate Corp. and its affiliates
(collectively with its predecessor entities and affiliates, "Tower
Equities"), including developing, acquiring, owning, renovating,
managing, and leasing office properties in the Manhattan, Phoenix,
Tucson, and Orlando markets. Upon consummation of the Offering and the
Formation Transactions, the Operating Partnership owned or had interests
in 21 office properties (the "Initial Properties"). On (i) December 31,
1997, the Company purchased the approximately 700,000 square foot office
tower located at 810 Seventh Avenue in midtown Manhattan ("810 Seventh
Avenue") for approximately $150.0 million, including closing costs, (ii)
January 16, 1998, the Company purchased the approximately 126,000 square
foot Blue Cross/Blue Shield office complex located in Phoenix, Arizona
("Blue Cross/Blue Shield") for $16.9 million (see Note 4) and (iii) May
6, 1998, the Company purchased the approximately 335,000 square foot, 25
story downtown New York City office building located on 90 Broad Street
(the "90 Broad Property") for approximately $34.3 million (see Note 4).
The Initial Properties, together with 810 Seventh Avenue, Blue Cross/Blue
Shield and the 90 Broad Property, are collectively referred to herein as
the "Properties." The Company also owns or has an option to acquire four
parcels of land adjacent to four properties (the "Development Parcels"),
which can support 2.2 million rentable square feet of development. In
November 1997, the Company exercised its option to purchase one of the
optioned Development Parcels located in Phoenix, Arizona for
approximately $10.3 million.
On March 31, 1997, interests in certain partnerships, properties and
limited liability companies were contributed to the Operating Partnership
in exchange for units of limited partnership interest in the Operating
Partnership (the "OP Units"). Certain of these interests were owned by
the Operating Partnership after consummation of the Offering.
Simultaneously with such contribution of these interests, the Company
issued $12.3 million of notes (the "MSAM Notes") to certain investors
advised by Morgan Stanley Asset Management, Inc. ("MSAM"). The MSAM Notes
were collateralized by certain interests in the Properties. Upon
completion of the Offering, all MSAM Notes were converted into Common
Stock of the Company.
The net proceeds from the Offering were contributed to the Operating
Partnership in exchange, in part, for the Company's approximate 91.4%
interest therein. The Operating Partnership used the proceeds received
from the Company, the $107.0 million net cash proceeds from the Company's
term loan facility (the "Term Loan"), borrowed concurrent with and
subsequent to the Offering and approximately $12.3 million of proceeds
received from MSAM from the conversion of the MSAM Notes into Common
Stock, as follows: (i) approximately $281.0 million for repayment of
certain indebtedness (including associated prepayment penalties) relating
to the Initial Properties and the partnerships that own the Initial
Properties (the "Property
7
<PAGE>
TOWER REALTY TRUST, INC.
NOTES TO CONDENSED CONSOLIDATED AND
COMBINED FINANCIAL STATEMENTS--(Continued)
Partnerships"), (ii) approximately $137.0 million to acquire certain
equity, debt and fee interests in the Initial Properties; (iii)
approximately $3.1 million to pay for commitment fees and expenses
related to the Term Loan and the Company's $200.0 million unsecured line
of credit (the "Line of Credit"); (iv) approximately $3.0 million to pay
transfer taxes and other expenses associated with the acquisition of the
Initial Properties; and (v) the remaining approximately $48.6 million for
working capital.
The Tower Equities management and leasing companies and Properties
Atlantic, Inc. management and leasing company (which, prior to the
Offering, was controlled and operated by Clifford L. Stein, Managing
Director, Southeast Region of the Company) (collectively, the
"Predecessor Management Companies") contributed an undivided 95% interest
in the assets of such companies to the Operating Partnership, which, in
turn, recontributed such assets to Tower Equities Management, Inc. (the
"Management Company") in exchange for 100% of the non-voting stock and 5%
of the voting stock in the Management Company (which entitles the Company
to receive 95% of the dividends of the Management Company).
The Management Company and each of the members of Tower Equities that
hold interests in seven retail properties that continue to be owned by
Tower Equities after the consummation of the Offering (the "Excluded
Properties") entered into management agreements with respect to each of
the Excluded Properties. In consideration for the services to be provided
under the management agreements, the Management Company receives a
property management fee and applicable construction fees and leasing
commissions which are determined by reference to existing market areas
for similar transactions.
Tower Predecessor
The following entities comprising the Tower Predecessor were controlled
and managed by Tower Equities, all of which were controlled by Lawrence
H. Feldman, the former Chairman of the Board, Chief Executive Officer and
President of the Company (see Note 10):
<TABLE>
<CAPTION>
Lawrence H. Feldman's
Ownership Percentage Location
----------------------------- ---------------------------
<S> <C> <C>
Tower 45 6% New York City
120 Mineola Boulevard 5% Long Island, NY
Maitland Forum 15% Maitland, FL
Maitland Center Parkway (3 properties) 90% Maitland, FL
5750 Major Boulevard (purchased in October 1996) 6% Orlando, FL
Predecessor Management Companies 90% New York City and
Maitland, FL
</TABLE>
Lawrence H. Feldman owned a majority general partnership interest in the
partnerships owning these properties. Accordingly, the Tower Predecessor
financial statements reflect, on a combined basis, 100% of the assets,
liabilities and operations of these properties.
Lawrence H. Feldman held a non-controlling interest in the partnerships
that owned the properties listed below. Lawrence H. Feldman was a general
partner in these partnerships and DRA Advisors, Inc. ("DRA") was the
managing general partner. These properties are collectively referred to
as the "DRA Joint Ventures." The Tower Predecessor financial statements
reflect the investments in the DRA Joint Ventures using the equity method
of accounting. Upon consummation of the Offering, the Company purchased
all of the partnership interests in the DRA Joint Ventures:
8
<PAGE>
TOWER REALTY TRUST, INC.
NOTES TO CONDENSED CONSOLIDATED AND
COMBINED FINANCIAL STATEMENTS--(Continued)
<TABLE>
<CAPTION>
Lawrence H. Feldman's
Ownership Percentage Location
--------------------------- --------------------
<S> <C> <C>
286 Madison Avenue 3% New York City
290 Madison Avenue 3% New York City
292 Madison Avenue 3% New York City
Corporate Center Building (6 properties) 20% Phoenix, AZ
5151 East Broadway 3% Tucson, Arizona
One Orlando Center 3% Orlando, Florida
</TABLE>
Lawrence H. Feldman also held a 3.8% non-controlling interest in a
partnership controlling the 2800 North Central Avenue Property ("2800
North Central"). The Tower Predecessor financial statements reflect this
investment using the equity method of accounting. The Company, upon
consummation of the Offering, acquired this interest and the interests of
Tower Equities (10% aggregate interest).
Basis of Presentation
The condensed consolidated balance sheet of the Company as of June 30,
1998, the condensed consolidated statements of operations and cash flows
of the Company for the three and six month periods ended June 30, 1998,
the condensed consolidated statement of operations and cash flows of the
Company for the three month period ended June 30, 1997 and the condensed
combined statements of operations and cash flows for the three and six
month periods ended June 30, 1997 of Tower Predecessor are unaudited. The
Company's condensed consolidated balance sheet as of December 31, 1997
and the condensed consolidated statement of operations and cash flows for
the six months ended June 30, 1997 have been derived from the respective
audited consolidated financial statements. The unaudited financial
statements of the Company and Tower Predecessor have been prepared in
accordance with the rules and regulations of the Securities and Exchange
Commission for interim financial statements. They do not include all of
the disclosures required by generally accepted accounting principles for
a complete presentation of these unaudited financial statements. In the
opinion of management, all adjustments (consisting of normal recurring
matters) necessary for a fair presentation of the financial statements
for these interim periods have been included. The results for the three
and six months ended June 30, 1998 are not necessarily indicative of the
results to be obtained for the full year. These financial statements
should be read in conjunction with the December 31, 1997 audited
financial statements and notes thereto, included in the Company's Annual
Report on Form 10-K for the fiscal year ended December 31, 997.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities
and disclosure of contingent assets and liabilities at the date of the
financial statements and reported amounts of revenues and expenses during
the reporting period. The most significant estimates and assumptions are
related to the recoverability and depreciable lives of real estate.
Actual results could differ from those estimates.
Net income per common share has been computed by dividing net income
applicable to common stockholders by the weighted average number of
Common Shares outstanding (16,945,408 and 16,933,070) for the three and
six months ended June 30, 1998. A total of 975,000 shares were reserved
for issuance under the Company's 1997 Incentive Plan and Non-Employee
Directors' Stock Option Plan. The effect of the outstanding options has
been excluded from the calculation of net income per common share as
these options had an antidilutive effect in the current period.
2. Sale of the Company:
On July 9, 1998, the Company entered into an agreement (the "Merger
Agreement") relating to the merger of the Company with Metropolitan
Partners LLC, a newly formed joint venture between Reckson Associates
Realty Corp. ("Reckson") and Crescent Real Estate Equities Company
("Crescent"). The Merger Agreement
9
<PAGE>
TOWER REALTY TRUST, INC.
NOTES TO CONDENSED CONSOLIDATED AND
COMBINED FINANCIAL STATEMENTS--(Continued)
and the transactions contemplated thereunder (collectively, the "Merger")
were approved by the Company's Board of Directors on July 8, 1998.
Pursuant to the Merger Agreement, each share of the Company's Common
Stock will be exchanged, at the election of each Company stockholder, for
either $24 in cash or .4615 of a share, par value $.01 per share, of
Reckson common stock and .3523 of a share of beneficial interest, par
value $.01 per share, of Crescent (the "Crescent Shares") in lieu of the
$24 in cash (such fractions of shares being subject to downward
adjustments if the stock prices of Reckson common stock and Crescent
Shares increase by more than 7% after July 7, 1998) for up to an
aggregate of 40% of the total consideration payable in the transaction.
In addition, if a stockholder of the Company elects to receive Reckson
common stock and Crescent Shares, they will be entitled to share in the
benefit of up to, and including, a 7% increase in the value of each share
of Reckson common stock and Crescent Shares after July 7, 1998. If,
however, there has been an increase of more that 7% in the stock price of
either Reckson common stock or Crescent Shares, then the exchange ratio
for the applicable common stock will be adjusted downward in proportion
to the increase in excess of 7%, such that Company stockholders who
receive Reckson and Crescent stock will receive fewer shares. As a
result, the benefit of any appreciation in the stock value of either
Reckson common stock or Crescent Shares is effectively limited to 7%.
It is expected that the Merger will be completed during the second half
of calendar 1998, subject to satisfaction of customary closing
conditions, including the approval of the Company's stockholders.
In connection with the Merger and other strategic initiatives explored by
the Company (the "Initiatives"), the Company entered into an agreement
with Merrill Lynch & Co. ("Merrill Lynch") on April 16, 1998 whereby
Merrill Lynch acts as the exclusive financial advisor to the Company in
connection with the Initiatives. Pursuant to the terms of this agreement,
Merrill Lynch is entitled to .6% of the aggregate purchase price paid to
the Company for its sale upon closing of the applicable sale agreement.
If the Merger does not occur as anticipated, the Company will be
responsible for payments in the amount of approximately $1.0 million to
Merrill Lynch. As of June 30, 1998, the Company has charged $0.25 million
to operations, representing the retainer portion under the agreement,
which is included in the Sale of the Company item on the condensed
consolidated statements of operations.
Other items relating to the Initiatives that have been included in the
Sale of the Company item for the three and six month periods ended June
30, 1998 consist of legal, accounting and consulting fees incurred
through June 30, 1998. The Company anticipates that significant
additional costs will be incurred through the date that the Merger is
completed.
3. Severance and Other Compensation Costs:
On April 18, 1998, Joseph D. Kasman resigned as Senior Vice President and
Chief Financial Officer of the Company. Pursuant to, and under the terms
and conditions of, his employment agreement with the Company, severance
payments will be payable over the course of a 12-month period in monthly
installments of approximately $46,000. A severance provision of
approximately $556,000.00 has been charged to operations during the
second quarter of 1998.
During the second quarter of 1998, Lawrence H. Feldman transferred
approximately 28,900 OP Units and $200,000 of cash to the Company, and in
turn, the Company issued 28,900 shares of Common Stock and $200,000 of
cash to four current and former employees for their efforts during the
time of the Offering. In connection with this event, the Company recorded
$887,000 of compensation expense during the second quarter of 1998.
4. Acquisition of Real Estate:
During the six months ended June 30, 1998, the Company, through the
Operating Partnership, acquired the Blue Cross/Blue Shield office
complex, an approximately 126,000 square foot twin office building
located in the Northwest submarket of Phoenix, Arizona for $16.9 million
and the 90 Broad Property, a 335,000 square foot, 25 story downtown New
York City office building located in the center of the city's financial
district,
10
<PAGE>
TOWER REALTY TRUST, INC.
NOTES TO CONDENSED CONSOLIDATED AND
COMBINED FINANCIAL STATEMENTS--(Continued)
for approximately $34.3 million. In conjunction with these acquisitions,
the Company drew down funds from its Line of Credit.
5. Line of Credit:
Upon consummation of the Offering, the Company entered into the Line of
Credit with Merrill Lynch Capital Corporation. The Line of Credit may be
used, among other things, to finance acquisitions of additional office
properties, to refinance existing indebtedness and for general working
capital requirements. As of June 30, 1998, the Company has an outstanding
balance under the Line of Credit Facility of $57.4 million. The funds
were primarily drawn upon for the acquisitions of Blue Cross/Blue Shield
and the 90 Broad Street Property and to fund capital improvements for the
Properties.
In conjunction with its Line of Credit, the Company must maintain
certain financial ratios:
i. Total outstanding indebtedness must not exceed 55% of Total Value
(as defined in the Line of Credit) during the first year of the
facility and must not exceed 50% thereafter.
ii. Collateral indebtedness must not exceed 40% of Total Value (as
defined) during the first year of the facility and 35%
thereafter.
iii. Recourse indebtedness cannot exceed 5% of Total Value (as
defined).
iv. Other financial covenants that must be met by the Company include
interest expense and fixed charges to debt ratios, among others.
As of June 30, 1998, the Company has complied with the financial debt
covenants.
As a general policy, the Company intends to maintain a debt policy
limiting the Company's total consolidated indebtedness plus its pro rata
share of joint venture debt to 50% of the Company's total market
capitalization. As of June 30, 1998, the debt to total market
capitalization, including the Company's 10% interest in the debt of 2800
North Central, was 43%.
The Company pays interest on the outstanding amounts on the Line of
Credit at LIBOR (London Interbank Offered Rate) plus 150 basis points
(weighted average of 7.3% for the six months ended June 30, 1998).
Interest expense on the Line of Credit for the period ended June 30, 1998
amounted to approximately $1.4 million.
As a result of the acquisition of 810 Seventh Avenue, the Company has a
$100.0 million mortgage loan from Credit Suisse First Boston Mortgage
Capital LLC that matures on December 31, 1998.
During the second quarter of 1998 the Company has capitalized
approximately $525,000 of interest costs pursuant to Statement of
Financial Accounting Standards 34, "Capitalization of Interest Cost,"
related to properties that are under development or in construction and
not ready for their intended use.
6. Distribution:
On June 19, 1998, the Company declared a cash distribution for the second
quarter of 1998 in the amount of $.4225 per share and OP Unit which was
paid on July 15, 1998 to stockholders and OP Unitholders of record on
June 30, 1998. The distributions totalled approximately $7.9 million.
On March 17, 1998, the Company declared a cash distribution for the first
quarter of 1998 in the amount of $.4225 per share and OP Unit which was
paid on April 15, 1998 to stockholders and OP Unitholders of record on
March 31, 1998. The distributions totalled approximately $7.8 million.
11
<PAGE>
TOWER REALTY TRUST, INC.
NOTES TO CONDENSED CONSOLIDATED AND
COMBINED FINANCIAL STATEMENTS--(Continued)
On December 19, 1997, the Company declared a cash distribution for the
period from October 16, 1997 through December 31, 1997 in the amount of
$.3536 per share or OP Unit which was paid on January 19, 1998 to
stockholders and OP Unitholders of record as of December 31, 1997. The
distributions totalled approximately $6.5 million.
7. Supplemental Disclosure of Non-Cash Investing and Financing Activities:
The Company issued 129,032 OP Units on March 6, 1998 relating to the
contribution to the Operating Partnership of the entity that held the
management agreement on the 810 Seventh Avenue property.
During the second quarter of 1998, Lawrence H. Feldman transferred
approximately 28,900 OP Units and $200,000 of cash to the Company, and in
turn, the Company issued 28,900 shares of Common Stock and paid $200,000
of cash to four current and former employees for their efforts during the
time of the Offering. The transaction has been accounted for as a
contribution of capital with corresponding charge to compensation expense
in the accompanying financial statements.
In connection with the acquisition of the 90 Broad Property, the Company
assumed $280,000 in debt.
8. Recently Issued Accounting Standards:
Effective January 1, 1998, the Company adopted the Financial Accounting
Standards Board Statement of Financial Accounting Standards No. 130
"Reporting Comprehensive Income" ("SFAS 130"). SFAS 130 specifies the
presentation and disclosure requirements for reporting comprehensive
income, which includes items which have been formerly reported as a
component of stockholders' equity. SFAS 130 does not have an impact on
the Company's financial statements.
In June 1997, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 131, "Disclosures about Segments of
an Enterprise and Related Information" ("SFAS 131"). SFAS 131 establishes
disclosure standards for information about operating segments in annual
financial statements and requires that enterprises report selected
information about operating segments in interim financial reports issued
to shareholders. Management expects to adopt this standard in connection
with the preparation of the 1998 annual financial statements. When
adopted, SFAS 131 will require the Company to report additional
geographic information based on the Company's major geographic areas of
focus.
In June 1998, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities." This statement addresses the
accounting for derivative instruments including certain derivative
instruments embedded in other contracts and for hedging activities. This
statement is effective for years beginning after June 15, 1999. The
Company's management believes that this statement will not have a
material impact on the Company's financial statements.
During 1998, the Accounting Standards Executive Committee of the American
Institute of Certified Public Accountants issued Statement of Position
98-5 "Reporting on the Costs of Start-Up Activities" ("SOP 98-5") and
Statement of Position 98-1 "Accounting for the Costs of Computer Software
Developed or Obtained for Internal Use" ("SOP 98-1"), which are effective
for the fiscal years beginning after December 15, 1998. In addition, the
Emerging Issues Task Force of the Financial Accounting Standards Board
released Issue No. 97-11 "Accounting for Internal Costs Relating to Real
Estate Property Acquisitions" ("EITF 97-11"). SOP 98-5 requires that
certain costs incurred in conjunction with start-up activities be
expensed. SOP 98-1 provides guidance on whether the costs of computer
software developed or obtained for internal use should be capitalized or
expensed. EITF 97-11 requires that the internal pre-acquisition costs of
identifying and acquiring operating property be expensed as incurred.
Management believes that, when adopted, SOP 98-5 SOP 98-1 will not have a
significant impact on the Company's financial statements. EITF 97-11 was
adopted during the first quarter of fiscal 1998 and resulted in the
Company having to expense internal property acquisition costs they would
have otherwise capitalized.
12
<PAGE>
TOWER REALTY TRUST, INC.
NOTES TO CONDENSED CONSOLIDATED AND
COMBINED FINANCIAL STATEMENTS--(Continued)
9. Commitments and Contingencies:
The Company is party to and has become a successor party-in-interest to
certain legal proceedings arising in the ordinary course of business. The
Company believes it has adequate insurance and does not expect that these
proceedings, in the aggregate, will have a material adverse effect on the
operations, cash flows or financial position of the Company.
The Company has written agreements with several key members of management
for severance and stay bonuses. The amounts described in these agreements
will be triggered upon a change in control as defined in the agreements
and are of a significant nature. These amounts will have a material
adverse effect on the financial position, cash flows and operations of
the Company upon a change in control of the Company.
In the event of a termination of the Merger Agreement (as described in
Note 2) by the Company, the Company will be subject to a termination fee
pursuant to the terms of the Merger Agreement. This fee ranges from $1.75
million to $9.0 million to each of Reckson and Crescent and is dependent
on the reasons for termination.
On or about July 10, 1998 a complaint was filed in the U.S. District
Court for the Southern District of New York (the "Complaint") against a
Tower Equities management company, the Company, three of the Company's
subsidiaries and one former officer and director of the Company
(collectively, the "Defendants") in which the plaintiff alleges she was
discriminated against in the terms and conditions of her employment on
the basis of her religion in violation of federal, state and city
statutes. The plaintiff was never employed by the Company and was not
employed by any of the other Defendants at the time of the formation of
the Company in March 1997. The Defendants deny the allegations and intend
to vigorously defend the action. An answer to the Complaint is scheduled
to be filed on September 30, 1998. The Company does not expect that this
action will have a material adverse effect on its operations, cash flows
or financial position.
In addition, in July 1998, David Miller, a purported stockholder of the
Company, commenced a putative class action against the Company and
certain of its then directors and officers in the Supreme Court of New
York, New York County, captioned Miller v. Adams, et al., Index No.
98113363 (Sup. Ct. of N.Y. Co.) (the "Miller Action"). The Miller Action
challenges, among other things, the process employed by the Company and
its directors in reviewing and approving the Merger and the fairness of
the terms of the Merger to the Company's public stockholders. Among other
things, the Miller Action seeks injunctive relief or, in the alternative,
rescission and monetary damages of an unspecified amount. The Company
intends to contest the Miller Action vigorously.
10. Subsequent Events:
Subsequent to June 30, 1998 the Company entered into the Merger Agreement
wherein the Company agreed to be acquired by a joint venture formed by
Reckson Associates Realty Corp. and Crescent Real Estate Equities Company
(see Note 2).
On August 3, 1998 Lawrence H. Feldman resigned from his positions as
Chairman of the Board, Chief Executive Officer and President of the
Company. In connection with his resignation, the Company expects to pay
Mr. Feldman a severance payment equal to 2.99 times his "base amount" as
described in his employment agreement and as defined in Section 280G of
the Internal Revenue Code of 1986, as amended, payable over a twelve
month period or approximately $84,273 per month. This severance amount of
approximately $1.0 million will be charged to operations by the Company
during the third quarter of 1998.
11. Pro Forma Financial Information:
Due to the impact of the Offering and the Formation Transactions, the
Properties acquired concurrent with and subsequent to the Offering, the
historical results of operations are not indicative of future results of
operations. The following Pro Forma Information for the six months ended
June 30, 1998 and June 30, 1997 are presented as if the Offering and the
Formation Transactions and all property acquisitions, including the
acquisitions of the Blue Cross/Blue Shield office complex and the 90
Broad Property, which occurred
13
<PAGE>
TOWER REALTY TRUST, INC.
NOTES TO CONDENSED CONSOLIDATED AND
COMBINED FINANCIAL STATEMENTS--(Continued)
subsequent to December 31, 1997, had occurred at January 1, 1998 and
1997. The pro forma information is based upon historical information and
does not purport to present what actual results would have been had such
transactions, in fact, occurred at January 1, 1998 and 1997, or to
project results for any future periods.
<TABLE>
<CAPTION>
Six Months Ended
June 30,
(Unaudited)
---------------------------------
1998 1997
---------------- ---------------
in thousands,
(except per share data)
<S> <C> <C>
Total revenues $56,551 $50,536
Net income $ 8,946 $ 9,646
Net income per common share - basic and dilutive $ 0.53 $ 0.57
</TABLE>
12. Other
The Company is obligated in accordance with its lease provisions, to
provide certain tenants with tenant improvements.
13. Reclassification:
Certain prior year amounts have been reclassified to conform to the
current year presentation.
14
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations.
Overview and Recent Developments
The Company was incorporated in the State of Maryland on March 27, 1997. The
Company operates so as to qualify as a REIT for federal income tax purposes. As
of October 16, 1997, the Company consummated the Offering of 13,817,250 shares
of Common Stock (including the exercise of the underwriters' over-allotment
option of 1,802,250 shares) and effected the Concurrent Private Placements of
1,153,845 shares of Common Stock at a price of $26.00 per share and realized net
proceeds therefrom of approximately $353.35 million. In addition, in connection
with the Formation Transactions relating to the Offering, including the
acquisition of certain property interests and the cancellation of certain
indebtedness, the Company issued 1,949,360 shares of Common Stock. Upon
consummation of the Offering, the Company acquired a sole 1% general partner
interest in the Operating Partnership, and a 90.4% limited partner interest in
the Operating Partnership. At June 30, 1998, the Company had a 1% general
partner interest and a 90.0% limited partner interest in the Operating
Partnership.
The Company was formed to continue and expand the commercial real estate
business of Tower Equities, including developing, acquiring, owning, renovating,
managing, and leasing office properties in the Manhattan, Phoenix, Tucson and
Orlando markets. Upon consummation of the Offering and the Formation
Transactions, the Operating Partnership owned or had interests in the Initial
Properties. On (i) December 31, 1997, the Company purchased the approximately
700,000 square foot office located at 810 Seventh Avenue in midtown Manhattan
for approximately $150.0 million, including closing costs, (ii) January 16,
1998, the Company purchased the approximately 126,000 square foot Blue
Cross/Blue Shield office complex located in Phoenix, Arizona for $16.9 million
and (iii) May 6, 1998, the Company purchased the approximately 335,000 square
foot 90 Broad Property for $34.3 million. The Company also owns or has an option
to acquire the Development Parcels, which can support 2.2 million rentable
square feet of development. In November 1997, the Company exercised its option
to purchase one of the optioned Development Parcels located in Phoenix, Arizona
for approximately $10.3 million.
On March 31, 1997 interests in certain partnerships, properties and limited
liability companies were contributed to the Operating Partnership in exchange
for OP Units in the Operating Partnership. Certain of these interests were owned
by the Operating Partnership after consummation of the Offering. Simultaneously
with such contributions of interests, the Company issued the MSAM Notes to
certain investors advised by MSAM. The MSAM Notes were collateralized by certain
interest in the Properties. Upon completion of the Offering, all MSAM Notes were
converted into Common Stock of the Company.
On July 9, 1998, the Company entered into the Merger Agreement relating to the
merger of the Company with Metropolitan Partners LLC, a newly formed joint
venture between Reckson and Crescent. The Merger Agreement and the Merger were
approved by the Company's Board of Directors on July 8, 1998.
Pursuant to the Merger Agreement, each share of the Company's Common Stock will
be exchanged, at the election of each Company stockholder, for either $24 in
cash or .4615 of a share of Reckson common stock and .3523 of a share of
Crescent Shares (such fractions of shares being subject to downward adjustments
if the stock prices of Reckson common stock and Crescent Shares increase by more
than 7% after July 7, 1998) for up to an aggregate of 40% of the total
consideration payable in the transaction. In addition, if a stockholder of the
Company elects to receive Reckson common stock and the Crescent Shares, they
will be entitled to share in the benefit of up to, and including, a 7% increase
in the value of each share of Reckson common stock and the Crescent shares after
July 7, 1998. If however, there has been an increase of more that 7% in the
stock price of either Reckson common stock or Crescent Shares, then the exchange
ratio for the applicable common stock will be adjusted downward in proportion to
the increase in excess of 7%, such that Company stockholders who receive Reckson
and Crescent stock will receive fewer shares. Accordingly, the benefit of any
appreciation in the stock value of either Reckson common stock or Crescent
Shares is effectively limited to 7%.
It is expected that the merger will be completed during the second half of
calendar 1998, subject to satisfaction of customary closing conditions,
including the approval of the Company's stockholders.
On August 3, 1998 Lawrence H. Feldman resigned from his positions as Chairman of
the Board, Chief Executive Officer and President of the Company. In connection
with his resignation, the Company expects to pay Mr. Feldman a severance payment
equal to 2.99 times his "base amount" as described in his employment agreement
and as defined in Section 280G of the Internal Revenue Code of 1986, as amended,
payable over a twelve month period
15
<PAGE>
or approximately $84,273 per month. This severance amount will be charged to
operations by the Company during the third quarter of 1998. On August 3, 1998,
Francis X. Tansey, a director of the Company, was appointed Chairman of the
Board and Robert L. Cox, a director and Executive Vice President and Chief
Operating Officer of the Company, was appointed acting Chief Executive Officer
and President of the Company.
Results of Operations
The results of operations for the three and six month periods ended June 30,
1998 and the three and six month periods ended June 30, 1997 include the
operations of the Company and Tower Predecessor, respectively. Consequently, the
comparison of the periods provides only limited information regarding the
operations of the Company as currently constituted.
The results of operations of the Company for the three and six month periods
ended June 30, 1997 consist primarily of the interest expense and interest
income related to the amounts borrowed from MSAM.
Comparison of Three Months Ended June 30, 1998 (the Company) to the Three Months
Ended June 30, 1997 (Tower Predecessor)
Total revenues increased by $22.1 million or 337.9%, to 28.6 million for the
three months ended June 30, 1998 as compared to $6.5 million for the three
months ended June 30, 1997. Rental income increased by $21.7 million, or 328.8%,
to $28.3 million for the three months ended June 30, 1998 as compared to $6.6
million for the three months ended June 30, 1997, primarily as a result of the
Properties acquired concurrent with and subsequent to the Offering, as described
above. Rental income for the three months ended June 30, 1998 included (i) $5.9
million of rental income from the Properties previously held by DRA (these
properties were reflected as an 18% an investment on the equity method of
accounting by Tower Predecessor) and (ii) rental revenues of $12.2 million from
the 100 Wall, Century Plaza, 810 Seventh Avenue, Blue Cross/Blue Shield and 90
Broad office buildings, Properties which were acquired concurrent with or
subsequent to the Offering. The remaining increase in rental income can be
attributed to an increase in base rent, primarily resulting from (i) an increase
in leasing activity from the date of the Offering and (ii) additional unbilled
rent resulting from the effect of re-straightlining the lease payments over the
remaining lease terms from the date of the Offering.
Total expenses for the three months ended June 30, 1998 increased by $16.2
million, or 187.9%, to $24.8 million from $8.6 million for the three months
ended June 30, 1997 primarily as a result of the inclusion of the DRA Joint
Venture properties and the properties purchased concurrent with and subsequent
to the Offering. Expenses, excluding interest and depreciation and amortization,
as a percentage of total revenue increased from 50.3% for the three months ended
June 30, 1997 to 53.2% for the three months ended June 30, 1998, primarily as a
result of an increase in general and administrative costs (including costs
incurred related to the Initiatives and the severance charge related to the
resignation of Joseph D. Kasman (see Note 3 to the Financial Statements)
recorded during the second quarter of 1998). In addition, management recorded
compensation expense of approximately $0.9 million related to the issuance of
stock and cash to current and former employees of the Company for their efforts
during the Offering. These costs impacted the results of operations for the
three months ended June 30, 1998 by $0.14 per common share. Property operating
and maintenance increased as a percentage of revenue due to the inclusion of the
properties located in Arizona, where utility costs are typically higher. The
components of expenses, excluding interest and depreciation and amortization, as
a percentage of total revenue are as follows:
Three Months
Ended June 30,
---------------------------
1998 1997
----------- ------------
Property operating and maintenance 22.2% 20.7%
Real estate taxes 12.6 17.4
General and administrative 17.8 9.9
Ground rent/air rights 0.6 2.3
----------- ------------
Total 53.2% 50.3%
=========== ============
16
<PAGE>
Interest expense increased by $1.8 million to $5.3 million for the three months
ended June 30, 1998 as compared to $3.5 million for the three months ended June
30, 1997 as a result of utilization of the Line of Credit to fund new
acquisitions and capital expenditures and proceeds from the Term Loan.
Depreciation and amortization increased by $2.5 million, or 138.9%, to $4.3
million for the three months ended June 30, 1998 as compared to $1.8 million for
the three months ended June 30, 1997 due to depreciation of additional
properties in 1998 as compared in 1997.
Equity in joint ventures and unconsolidated subsidiaries increased by
approximately $.1 million primarily as a result of the operations of the
Management Company, which is accounted for as an unconsolidated subsidiary in
1998.
Minority interest, which did not exist at June 30, 1997, pertains to interest in
certain partnerships, properties and Properties Atlantic which were contributed
to the Operating Partnership in exchange for OP Units concurrent with and
subsequent to the Offering.
Net income increased by $5.5 million to $3.5 million for the three months ended
June 30, 1998 as compared to a net loss of $2.0 million (prior to the
extraordinary gain on early extinguishment of debt of $6.5 million) for the
three months ended June 30, 1997, as a result of the acquisition of properties
and the factors described above.
Comparison of Six Months Ended June 30, 1998 (the Company) to the Six Months
Ended June 30, 1997 (Tower Predecessor)
Total revenues increased by $40.4 million, or 284.5%, to $54.6 million for the
six months ended June 30, 1998 as compared to $14.2 million for the six months
ended June 30, 1997. Rental income increased by $40.6 million, or 300.7%, to
$54.1 million for the six months ended June 30, 1998 as compared to $13.5
million for the six months ended June 30, 1997, primarily as a result of the
Properties acquired concurrent with and subsequent to the Offering. Rental
income for the six months ended June 30, 1998 included (i) $16.0 million of
rental income from the Properties previously held by DRA (these properties were
reflected as an 18% investment on the equity method of accounting by Tower
Predecessor) and (ii) rental revenues of $22.0 million from the 100 Wall,
Century Plaza, 810 Seventh Avenue, Blue Cross/Blue Shield and 90 Broad office
buildings, Properties which were acquired concurrent with or subsequent to the
Offering. The remaining increase in rental income can be attributed to an
increase in base rent, primarily resulting from (i) an increase in leasing
activity from the date of the Offering and (ii) additional unbilled rent
resulting from the effect of re-straightlining the lease payments over the
remaining lease terms from the date of the Offering.
Management fee income decreased by $0.2 million, or 100.0% to $0 for the six
months ended June 30, 1998. These fees relate to services provided to the
Properties (which have been eliminated since the consummation of the Offering)
as well as services to third-party properties (which fees are reflected in the
Management Company for the six months ended June 30, 1998).
Total expenses for the six months ended June 30, 1998 increased by $27.7
million, or 157.4%, to $45.3 million from $17.6 million for the six months ended
June 30, 1997 primarily as a result of the inclusion of the DRA Joint Venture
properties and the properties purchased concurrent with and subsequent to the
Offering. Expenses, excluding interest and depreciation and amortization, as a
percentage of total revenue decreased from 49.7% for the six months ended June
30, 1997 to 48.9% for the six months ended June 30, 1998, primarily as a result
of economies of scale being realized through spreading fixed costs over larger
total revenues, net of an increase in general and administrative costs
(including costs incurred related to the Initiatives and the severance charge
related to the resignation of Joseph D. Kasman (see Note 3 to the Financial
Statements) recorded during the second quarter of 1998). In addition, management
recorded compensation expense of approximately $0.9 million relating to the
issuance of stock and cash to current and former employees of the Company for
their efforts during the Offering. These costs impacted the results of
operations for the six months ended June 30, 1998 by $0.14 per common share.
Property operating and maintenance increased as a percentage of revenue due to
the inclusion of the properties located in Arizona, where utility costs are
typically higher. The components of expenses, excluding interest and
depreciation and amortization, as a percentage of total revenue are as follows:
17
<PAGE>
Six Months
Ended June 30,
--------------------------
1998 1997
----------- -----------
Property operating and maintenance 22.0% 19.0%
Real estate taxes 13.2 16.3
General and administrative 13.1 12.3
Ground rent/air rights 0.6 2.1
----------- -----------
Total 48.9% 49.7%
=========== ===========
Interest expense increased by $2.9 million to $9.9 million for the six months
ended June 30, 1998 as compared to $7.0 million for the six months ended June
30, 1997 as a result of utilization of the Line of Credit to fund new
acquisitions and capital expenditures and proceeds from the Term Loan.
Depreciation and amortization increased by $5.1 million, or 147.4 %, to $8.6
million for the six months ended June 30, 1998 as compared to $3.5 million for
the six months ended June 30, 1997 due to depreciation of additional properties
in 1998 as compared to 1997.
Equity in joint ventures and unconsolidated subsidiaries increased by
approximately $0.2 million primarily as a result of the operations of the
Management Company, which is accounted for as an unconsolidated subsidiary in
1998.
Minority interest, which did not exist at June 30, 1997, pertains to interests
in certain partnerships, properties and Properties Atlantic which were
contributed to the Operating Partnership in exchange for OP Units concurrent
with and subsequent to the Offering.
Net income increased by $12.0 million to $8.7 million for the six months ended
June 30, 1998 as compared to a net loss of $3.3 million (prior to the
extraordinary gain on early extinguishment of debt of $6.5 million) for the six
months ended June 30, 1997, as a result of the acquisition of properties and the
other factors discussed above.
Funds From Operations
The Company generally considers Funds from Operations ("FFO") an appropriate
measure of liquidity of an equity REIT because industry analysts have accepted
it as a performance measure of equity REITs. "Funds from Operations," as defined
by the National Association of Real Estate Investment Trusts, means net income
(computed in accordance with GAAP), excluding gains (or losses) from debt
restructurings and gains (losses) on sales of property, plus depreciation and
amortization on real estate assets, and after adjustments for unconsolidated
partnerships and joint ventures. The Company has also adjusted FFO to add back
compensation expense related to the issuance of stock to key employees for
services performed in conjunction with the Offering, the severance charge
related to the resignation of Joseph D. Kasman and costs incurred related to the
Initiatives. The Company believes that in order to facilitate a clear
understanding of the historical operating results of the Company, FFO should be
considered in conjunction with net income (loss), determined in accordance with
GAAP, as presented in the unaudited consolidated and combined financial
statements of the Company and Tower Predecessor, respectively, and notes thereto
included elsewhere in this Quarterly Report on Form 10-Q. Funds from Operations
should not be considered as an alternative to net income, determined in
accordance with GAAP, as an indication of the Company's performance or to cash
flows from operating activities, determined in accordance with GAAP, as a
measure of liquidity or ability to make distributions.
The following is a reconciliation of Net Income to FFO for the three and six
months ended June 30, 1998 and June 30, 1997.
18
<PAGE>
<TABLE>
<CAPTION>
Tower Tower
The Company Predecessor The Company Predecessor
(Consolidated) (Combined) (Consolidated) (Combined)
Three Months Three Months Six Months Six Months
Ended Ended Ended Ended
June 30, 1998 June 30, 1997 June 30, 1998 June 30, 1997
---------------- ---------------- ---------------- ----------------
<S> <C> <C> <C> <C>
Net income $ 3,536 $ 4,422 $ 8,713 $ 3,182
Add:
Real estate depreciation and
amortization 4,320 1,796 8,643 3,494
Real estate depreciation and
amortization of unconsolidated
joint venture 8 207 16 415
Minority interest 354 - 854 -
Severance and other
compensation costs 1,443 - 1,443 -
Sale of the Company 950 - 950 -
Less:
Gain on extinguishment of debt - (6,475) - (6,475)
---------------- ---------------- ---------------- ---------------
Funds from Operations $ 10,611 $ (50) $ 20,619 $ 616
================ ================ ================ ===============
Funds from Operations
available for $ 9,645 $ 18,598
Stockholders
================ ================
</TABLE>
Liquidity and Capital Resources
Cash and cash equivalents were $10.7 million and $1.3 million at June 30, 1998
and December 31, 1997, respectively. The significant increase in cash and cash
equivalents is a result of the net increase in amounts outstanding under the
Line of Credit of $57.4 million and cash flows from operations of $21.6 million,
net of approximately $54.6 million for additions to real estate (primarily as a
result of the $16.9 million purchase of Blue Cross/Blue Shield and the $34.3
million purchase of the 90 Broad Property), and $15.1 million relating to
distributions to stockholders and OP Unitholders.
The Company believes that its principal short-term liquidity needs are to fund
normal recurring expenses, debt service requirements, and deferred real estate
taxes. The Properties require periodic investment of capital for tenant-related
capital expenditures and for general capital improvements. In addition, the
Company has adopted a policy of paying regular quarterly distributions on its
Common Stock and OP Units. Based upon its cash and cash equivalents as of June
30, 1998, its expected cash flows from operations and the funds available under
the Line of Credit, the Company expects to meet its cash requirements for the
foreseeable future.
The Line of Credit has a three-year term and bears interest at the rate of
approximately 150 basis points over LIBOR (London Interbank Offered Rate). As of
June 30, 1998, $57.4 million was outstanding under the Line of Credit.
In conjunction with its Line of Credit the Company must maintain certain
financial ratios:
i. Total outstanding indebtedness must not exceed 55% of Total Value (as
defined in the Line of Credit) during the first year of the facility and
must not exceed 50% thereafter.
ii. Collateral indebtedness must not exceed 40% of Total Value (as defined)
during the first year of the facility and 35% thereafter.
iii. Recourse indebtedness cannot exceed 5% of Total Value (as defined).
iv. Other financial covenants that must be met by the Company include
interest expense and fixed charges to debt ratios, among others.
As of June 30, 1998, the Company has complied with the financial debt covenants.
19
<PAGE>
As a general policy, the Company intends to maintain a debt policy limiting the
Company's total consolidated indebtedness plus its pro rata share of joint
venture debt to 50% of the Company's total market capitalization. As of June 30,
1998, the debt to total market capitalization, including the Company's 10%
interest in the debt of 2800 North Central, was 43%.
As a result of the acquisition of 810 Seventh Avenue, the Company has a $100
million mortgage loan from Credit Suisse First Boston Mortgage Capital LLC that
matures on December 31, 1998.
Inflation
The Company's leases with the majority of its tenants require the tenants to pay
most operating expenses, including insurance and real estate taxes, and
increases in common area maintenance expenditures which partially offsets the
Company's exposure to increases in costs and operating expenses resulting from
inflation.
Year 2000
The year 2000 issue is the result of computer programs being written using two
digits rather than four digits to define the applicable year. Any of the
Company's computer programs, or computer programs of the Company's vendors,
suppliers, tenants, or lenders, that have date-sensitive software may recognize
a date using "00" as the year 1900 rather than the year 2000. This could result
in a system failure, delays, or miscalculations causing disruptions of
operations, including, among other things, a temporary inability to process
transactions, send invoices, or engage in similar normal business activity.
The Company is currently in the process of completing its assessment of the
impact of the year 2000 issue on its computer systems and property operations.
Based on the results of their preliminary assessment, the Company does not
believe that the year 2000 will have a material impact on the results of
operations, cash flows or financial position of the Company.
Environmental Matters
The Company is not aware of any environmental issues at any of its Properties.
The Company believes it has sufficient insurance coverage at each of its
Properties.
Subsequent Events
On July 9, 1998, the Company entered into the Merger Agreement relating to the
merger of the Company with Metropolitan Partners LLC, a newly formed joint
venture between Reckson and Crescent. The Merger Agreement and the Merger was
approved by the Company's Board of Directors on July 8, 1998.
Pursuant to the Merger Agreement, each share of the Company's Common Stock will
be exchanged, at the election of each Company stockholder, for either $24 in
cash or .4615 of a share of Reckson common stock and .3523 of a share of
Crescent Shares (such fractions of shares being subject to downward adjustments
if the stock prices of Reckson common stock and Crescent Shares increase by more
than 7% after July 7, 1998) for up to an aggregate of 40% of the total
consideration payable in the transaction. In addition, if a stockholder of the
Company elects to receive Reckson common stock and Crescent Shares they will be
entitled to share in the benefit of up to, and including, a 7% increase in the
value of each Reckson common stock and the Crescent Shares after July 7, 1998.
If however, there has been an increase of more that 7% in the stock price of
either Reckson common stock or Crescent Shares, then the exchange ratio for the
applicable common stock will be adjusted downward in proportion to the increase
in excess of 7%, such that Company stockholders who receive Reckson and Crescent
stock will receive fewer shares. Accordingly, the benefit of any appreciation in
the stock value of either Reckson common stock or Crescent Shares is effectively
limited to 7%.
It is expected that the merger will be completed during the second half of 1998,
subject to the satisfaction of customary closing conditions, including approval
of the Company's stockholders.
On August 3, 1998 Lawrence H. Feldman resigned from his positions as Chairman of
the Board, Chief Executive Officer and President of the Company. In connection
with his resignation, the Company expects to pay Mr. Feldman a severance payment
equal to 2.99 times his "base amount" as described in his employment agreement
and as defined in Section 280G of the Internal Revenue Code of 1986, as amended,
payable over a twelve month
20
<PAGE>
period or approximately $84,273 per month. This severance amount of
approximately $1.0 million will be charged to operations by the Company during
the third quarter of 1998.
Recently Issued Accounting Standards
Effective January 1, 1998, the Company adopted the Financial Accounting
Standards Board Statement of Financial Accounting Standards No. 130 "Reporting
Comprehensive Income" ("SFAS 130"). SFAS 130 specifies the presentation and
disclosure requirements for reporting comprehensive income, which includes items
which have been formerly reported as a component of stockholders' equity. SFAS
130 does not have an impact on the Company's financial statements.
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 131, "Disclosures about Segments of an
Enterprise and Related Information" ("SFAS 131"). SFAS 131 establishes
disclosure standards for information about operating segments in annual
financial statements and requires that enterprises report selected information
about operating segments in interim financial reports issued to shareholders.
Management expects to adopt this standard in connection with the preparation of
the 1998 annual financial statements. When adopted, SFAS 131 will require the
Company to report additional geographic information based on the Company's major
geographic areas of focus.
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Instruments
and Hedging Activities." This statement addresses the accounting for derivative
instruments including certain derivative instruments embedded in other contracts
and for hedging activities. This statement is effective for years beginning
after June 15, 1999. The Company's management believes that this statement will
not have a material impact on the Company's financial statements.
During 1998, the Accounting Standards Executive Committee of the American
Institute of Certified Public Accountants issued Statement of Position 98-5
"Reporting on the Costs of Start-Up Activities" ("SOP 98-5") and Statement of
Position 98-1 "Accounting for the Costs of Computer Software Developed or
Obtained for Internal Use" ("SOP 98-1"), which are effective for the fiscal
years beginning after December 15, 1998. In addition, the Emerging Issues Task
Force of the Financial Accounting Standards Board released Issue No. 97-11
"Accounting for Internal Costs Relating to Real Estate Property Acquisitions"
("EITF 97-11"). SOP 98-5 requires that certain costs incurred in conjunction
with start-up activities be expensed. SOP 98-1 provides guidance on whether the
costs of computer software developed or obtained for internal use should be
capitalized or expensed. EITF 97-11 requires that the internal pre-acquisition
costs of identifying and acquiring operating property be expensed as incurred.
Management believes that, when adopted, SOP 98-5 SOP 98-1 will not have a
significant impact on the Company's financial statements. EITF 97-11 was adopted
during the first quarter of fiscal 1998 and resulted in the Company having to
expense internal property acquisition costs they would have otherwise
capitalized.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Not applicable.
PART II -- OTHER INFORMATION
Item 1. Legal Proceedings.
The Company is party to and has become a successor party-in-interest to certain
legal proceedings arising in the ordinary course of business. The Company
believes it has adequate insurance and does not expect that these proceedings,
in the aggregate, will have a material adverse effect on the operations, cash
flows or financial position of the Company.
On or about July 10, 1998 a complaint was filed in the U.S. District Court for
the Southern District of New York (the "Complaint") against a Tower Equities
management company, the Company, three of the Company's subsidiaries and one
former officer and director of the Company (collectively, the "Defendants") in
which the plaintiff alleges she was discriminated against in the terms and
conditions of her employment on the basis of her religion in violation of
federal, state and city statutes. The plaintiff is seeking actual, compensatory
and punitive damages. The plaintiff was never employed by the Company and was
not employed by any of the other Defendants at the time of the formation of the
Company in March 1997. The Defendants deny the allegations and intend to
vigorously defend the action. An answer to the Complaint is scheduled to be
filed on September 30, 1998. The
21
<PAGE>
Company does not that this action will have a material adverse effect on its
operations, cash flows or financial position.
In addition, in July 1998, David Miller, a purported stockholder of the Company,
commenced a putative class action against the Company and certain of its then
directors and officers in the Supreme Court of New York, New York County,
captioned Miller v. Adams, et al., Index No. 98113363 (Sup. Ct. of N.Y. Co.)
(the "Miller Action"). The Miller Action challenges, among other things, the
process employed by the Company and its directors in reviewing and approving the
Merger and the fairness of the terms of the Merger to the Company's public
stockholders. Among other things, the Miller Action seeks injunctive relief or,
in the alternative, rescission and monetary damages of an unspecified amount.
The Company intends to contest the Miller Action vigorously.
Item 2. Changes in Securities and Use of Proceeds.
None.
Item 3. Defaults Upon Senior Securities.
None.
Item 4. Submission of Matters to a Vote of Security Holders.
The Annual Meeting of Stockholders of the Company (the "Annual Meeting") was
held on May 26, 1998. At the Annual Meeting, Russell C. Platt and Francis X.
Tansey were elected as Class II and Class III directors, respectively, of the
Company to serve until the 1999 and 2000 Annual Meetings of Stockholders,
respectively, or until their successors are duly elected and qualified and
Robert M. Adams, Esko I. Korhonen and Richard M. Wisely were re-elected as Class
I directors of the Company to serve until the 2001 Annual Meeting of
Stockholders or until their successors are duly elected and qualified. The
following votes were cast for, against or were withheld from voting with respect
the election of each of the following persons:
<TABLE>
<CAPTION>
AUTHORITY
NAME FOR AGAINST WITHHELD
---- --- ------- ----------
<S> <C> <C> <C>
Robert M. Adams 11,938,825 0 20,875
Esko I. Korhonen 11,938,925 0 20,775
Russell C. Platt 11,938,925 0 20,775
Francis X. Tansey 11,938,925 0 20,775
Richard M. Wiseley 11,938,925 0 20,775
</TABLE>
There were no broker non-votes or abstentions in connection with the election of
directors at the Annual Meeting.
The following votes were cast for, against or abstaining regarding the approval
of Coopers & Lybrand L.L.P. as independent auditors for the fiscal year ending
December 31, 1998:
FOR AGAINST ABSTAIN
--- ------- -------
11,938,270 7,000 14,430
There were no non-broker votes in connection with the approval of Coopers &
Lybrand L.L.P. as independent auditors for the fiscal year ending December 31,
1998.
22
<PAGE>
Item 5. Other Information.
None.
Item 6. Exhibits and Reports on Form 8-K.
a) Exhibits
The exhibits listed in the Exhibit Index immediately preceding the
exhibits are filed as part of this Quarterly Report on Form 10-Q.
b) Reports on Form 8-K:
None.
23
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
TOWER REALTY TRUST, INC.
Date: August 18, 1998 By: /s/ Lester S. Garfinkel
---------------------------------------------
Name: Lester S. Garfinkel
Title: Executive Vice President --
Finance and Administration and Chief
Financial Officer (Principal Financial
and Chief Accounting Officer)
24
<PAGE>
Exhibit Index
-------------
The following exhibits are filed as part of this Quarterly Report on
Form 10-Q.
Exhibit No. Description
----------- -----------
2.1* Agreement and Plan of Merger, dated July 9, 1998, by and
among Tower Realty Trust, Inc., Reckson Associates Realty
Corp., Crescent Real Estate Equities Company and
Metropolitan Partners LLC
27.1 Financial Data Schedule
- --------------------------
* Incorporated herein by reference to the Company's Current
Report on Form 8-K, dated July 9, 1998.
25
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED
FROM THE FINANCIAL STATEMENTS OF TOWER REALTY TRUST, INC. FOR THE PERIOD
ENDED JUNE 30, 1998
</LEGEND>
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> JUN-30-1998
<CASH> 10,728
<SECURITIES> 0
<RECEIVABLES> 7,384
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 0
<PP&E> 679,837
<DEPRECIATION> 10,074
<TOTAL-ASSETS> 715,711
<CURRENT-LIABILITIES> 0
<BONDS> 0
0
0
<COMMON> 169
<OTHER-SE> 358,384
<TOTAL-LIABILITY-AND-EQUITY> 715,711
<SALES> 0
<TOTAL-REVENUES> 54,090
<CGS> 0
<TOTAL-COSTS> 45,307
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 9,896
<INCOME-PRETAX> 8,713
<INCOME-TAX> 0
<INCOME-CONTINUING> 8,713
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 8,713
<EPS-PRIMARY> 0.51
<EPS-DILUTED> 0.51
</TABLE>
