<PAGE>
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UNITED STATES SECURITIES AND
EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------------
FORM 10-Q
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[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1997
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 01-12846
SECURITY CAPITAL INDUSTRIAL TRUST
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
MARYLAND 74-2604728
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
14100 EAST 35TH PLACE, AURORA, 80011
COLORADO (ZIP CODE)
(ADDRESS OF PRINCIPAL EXECUTIVE
OFFICES)
(303) 375-9292
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
(FORMER NAME, FORMER ADDRESS AND FORMER FISCAL YEAR,
IF CHANGED SINCE LAST REPORT)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing for the past 90 days. Yes X No
The number of shares outstanding of the Registrant's common stock as of
November 11, 1997 was:
Common Shares of Beneficial Interest, $.01 par value--108,773,707 shares
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<PAGE>
SECURITY CAPITAL INDUSTRIAL TRUST
INDEX
<TABLE>
<CAPTION>
PAGE
NUMBER
------
<C> <S> <C>
PART I. Financial Information......................................
Item 1. Consolidated Financial Statements..........................
Consolidated Balance Sheets--September 30, 1997 and
December 31, 1996......................................... 3
Consolidated Statements of Operations--Three and nine
months ended September 30, 1997 and 1996.................. 4
Consolidated Statements of Cash Flows--Nine months ended
September 30, 1997 and 1996............................... 5
Notes to Consolidated Financial Statements................. 6
Report of Independent Public Accountants................... 13
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................. 14
PART II. Other Information.......................................... 22
Item 4. Submission of Matters to a Vote of Securities Holders...... 22
Item 5. Other Information.......................................... 22
Item 6. Exhibits and Reports on Form 8-K........................... 22
</TABLE>
<PAGE>
SECURITY CAPITAL INDUSTRIAL TRUST
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
1997 1996
ASSETS (UNAUDITED) (AUDITED)
------ ------------- ------------
<S> <C> <C>
Real Estate......................................... $2,818,142 $2,508,747
Less accumulated depreciation..................... 156,860 109,147
---------- ----------
2,661,282 2,399,600
Investments in and Advances to Unconsolidated
Subsidiaries....................................... 41,769 --
Cash and Cash Equivalents........................... 46,983 4,770
Net Amount Due From Related Party................... 2,267 --
Accounts Receivable................................. 8,625 5,397
Other Assets........................................ 67,448 52,539
---------- ----------
Total assets.................................... $2,828,374 $2,462,306
========== ==========
<CAPTION>
LIABILITIES AND SHAREHOLDERS' EQUITY
------------------------------------
<S> <C> <C>
Liabilities:
Line of credit.................................... $ -- $ 38,600
Long-term debt.................................... 724,029 524,191
Mortgage notes payable............................ 88,526 91,757
Securitized debt.................................. 33,874 36,025
Assessment bonds payable.......................... 11,888 12,170
Accounts payable and accrued expenses............. 51,077 35,357
Construction payable.............................. 27,105 24,645
Distributions payable............................. -- 25,058
Other liabilities................................. 17,962 18,130
---------- ----------
Total liabilities............................... 954,461 805,933
---------- ----------
Commitments and Contingencies
Minority Interest................................... 55,516 56,984
Shareholders' Equity:
Series A Preferred Shares, $0.01 par value;
5,400,000 shares issued and outstanding at
September 30, 1997 and December 31, 1996; stated
liquidation preference of $25 per share.......... 135,000 135,000
Series B Convertible Preferred Shares, $0.01 par
value; 8,050,000 shares issued and outstanding at
September 30, 1997 and December 31, 1996; stated
liquidation preference of $25 per share.......... 201,250 201,250
Series C Preferred Shares, $0.01 par value;
2,000,000 shares issued and outstanding at
September 30, 1997 and December 31, 1996; stated
liquidation preference of $50 per share.......... 100,000 100,000
Common shares of beneficial interest, $0.01 par
value; 108,778,419 shares issued and outstanding
at September 30, 1997 and 93,676,546 shares at
December 31, 1996................................ 1,088 937
Additional paid-in capital.......................... 1,571,529 1,257,347
Employee share purchase notes....................... (27,345) --
Distributions in excess of net earnings............. (163,125) (95,145)
---------- ----------
Total shareholders' equity...................... 1,818,397 1,599,389
---------- ----------
Total liabilities and shareholders' equity...... $2,828,374 $2,462,306
========== ==========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
3
<PAGE>
SECURITY CAPITAL INDUSTRIAL TRUST
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
THREE MONTHS
ENDED SEPTEMBER NINE MONTHS ENDED
30, SEPTEMBER 30,
----------------- ------------------
1997 1996 1997 1996
-------- ------- -------- --------
<S> <C> <C> <C> <C>
Income:
Rental income.......................... $ 72,376 $59,391 $208,919 $163,814
Other real estate income............... 3,756 854 9,446 2,034
Income from unconsolidated
subsidiaries.......................... 711 -- 2,257 --
Interest income........................ 303 201 1,420 708
-------- ------- -------- --------
Total income......................... 77,146 60,446 222,042 166,556
-------- ------- -------- --------
Expenses:
Rental expenses, net of recoveries of
$10,567 and $8,228 for the three month
periods in 1997 and 1996,
respectively, and $31,089 and $21,310
for the nine month periods in 1997 and
1996, respectively.................... 5,554 4,938 15,709 16,388
Property management fees paid to
affiliate, net of recoveries of $1,014
and $886 for the three month periods
in 1997 and 1996, respectively, and
$3,870 and $2,529 for the nine month
periods in 1997 and 1996,
respectively.......................... 1,151 1,145 3,821 3,087
Depreciation and amortization.......... 21,217 15,972 58,241 43,187
Interest expense....................... 14,630 11,364 39,188 28,723
REIT management fee paid to affiliate.. 4,957 5,702 17,791 15,376
Administrative services fee paid to
affiliate............................. 288 -- 288 --
General and administrative............. 1,560 195 2,247 747
Costs incurred in acquiring management
companies from a related party........ 75,376 -- 75,376 --
Other.................................. 776 703 2,237 1,903
-------- ------- -------- --------
Total expenses....................... 125,509 40,019 214,898 109,411
-------- ------- -------- --------
Net Earnings/(Loss) Before Minority
Interest and Gain/(Loss) on Disposition
of Real Estate.......................... (48,363) 20,427 7,144 57,145
Minority Interest........................ 928 859 2,763 2,499
-------- ------- -------- --------
Net Earnings /(Loss) Before Gain/(Loss)
on Disposition of Real Estate........... (49,291) 19,568 4,381 54,646
Gain/(Loss) on disposition of real
estate.................................. 2,756 -- 6,529 (29)
-------- ------- -------- --------
Net Earnings/(Loss)...................... (46,535) 19,568 10,910 54,617
Less preferred share dividends........... 8,829 6,694 26,488 18,062
-------- ------- -------- --------
Net Earnings/(Loss) Attributable to
Common Shares........................... $(55,364) $12,874 $(15,578) $ 36,555
======== ======= ======== ========
Weighted Average Common Shares
Outstanding............................. 100,033 81,513 97,948 81,462
======== ======= ======== ========
Per Share Net Earnings/(Loss)
Attributable to Common Shares........... $ (0.55) $ 0.16 $ (0.16) $ 0.45
======== ======= ======== ========
Distributions Per Common Share........... $ 0.2625 $0.2525 $ 0.8025 $ 0.7575
======== ======= ======== ========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
4
<PAGE>
SECURITY CAPITAL INDUSTRIAL TRUST
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(IN THOUSANDS)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30,
--------------------
1997 1996
--------- ---------
<S> <C> <C>
Operating Activities:
Net earnings............................................ $ 10,910 $ 54,617
Minority interest....................................... 2,763 2,499
Adjustments to reconcile net earnings to net cash
provided by operating activities:
Depreciation and amortization......................... 58,241 43,187
(Gain)/loss on disposition of real estate............. (6,529) 29
Costs incurred in acquiring management companies from
a related party...................................... 75,376 --
Rent leveling......................................... (3,772) (4,165)
Amortization of deferred financing costs.............. 1,528 1,866
Increase in net amount due from related party......... (2,267) --
Increase in accounts receivable and other assets........ (11,786) (6,371)
Increase in accounts payable, accrued expenses and
other liabilities...................................... 15,552 9,381
--------- ---------
Net cash provided by operating activities........... 140,016 101,043
--------- ---------
Investing Activities:
Real estate investments................................. (435,185) (475,277)
Tenant improvements and lease commissions............... (11,086) (10,461)
Recurring capital expenditures.......................... (3,659) (1,580)
Proceeds from disposition of real estate................ 111,838 1,092
--------- ---------
Net cash used in investing activities............... (338,092) (486,226)
--------- ---------
Financing Activities:
Net proceeds from sale of shares, exercised warrants
and dividend reinvestment and share purchase plan...... 206,147 327,377
Proceeds from long-term debt offerings.................. 199,772 199,632
Debt issuance costs..................................... (2,477) (2,792)
Termination of interest rate contracts.................. 1,894 (1,923)
Distributions paid to common shareholders............... (77,459) (61,688)
Distributions paid to minority interest holders......... (4,245) (3,934)
Preferred share dividends............................... (26,488) (18,062)
Proceeds from line of credit............................ 358,391 362,600
Payments on line of credit.............................. (396,991) (379,000)
Regularly scheduled principal payments on mortgage
notes payable.......................................... (3,451) (2,825)
Balloon principal payments made upon maturity........... (14,804) (14,155)
--------- ---------
Net cash provided by financing activities........... 240,289 405,230
--------- ---------
Net Increase in Cash and Cash Equivalents................ 42,213 20,047
Cash and Cash Equivalents, beginning of period........... 4,770 22,235
--------- ---------
Cash and Cash Equivalents, end of period................. $ 46,983 $ 42,282
========= =========
Supplemental Schedule of Noncash Investing and Financing
Activities:
In conjunction with real estate acquired:
Assumption of existing mortgage notes payable......... $ 12,591 $ 18,103
Issuance of common shares............................. $ 1,000 $ --
In conjunction with the acquisition of management
companies:
Issuance of common shares to affiliate................ $ 79,840 $ --
Tangible net assets acquired from affiliate........... $ (4,464) $ --
Notes received for common shares issued under employee
share purchase plan.................................... $ 27,345 $ --
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
5
<PAGE>
SECURITY CAPITAL INDUSTRIAL TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
(UNAUDITED)
1. GENERAL:
The consolidated financial statements of Security Capital Industrial Trust
("SCI") as of September 30, 1997 are unaudited, and pursuant to the rules of
the Securities and Exchange Commission, certain information and footnote
disclosures normally included in financial statements have been omitted. The
consolidated financial statements for 1996 have been restated to conform to
the 1997 presentation. While management of SCI believes that the disclosures
presented are adequate, these interim consolidated financial statements should
be read in conjunction with SCI's December 31, 1996 consolidated financial
statements.
In the opinion of management, the accompanying unaudited consolidated
financial statements contain all adjustments, consisting of normal recurring
adjustments, necessary for a fair presentation of SCI's consolidated financial
position and results of operations for the interim periods. The results of
operations for the three and nine month periods ended September 30, 1997 and
1996 are not necessarily indicative of the results to be expected for the
entire year.
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 the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
2. RECENT ACCOUNTING PRONOUNCEMENTS:
In March 1997, the Financial Accounting Standards Board ("FASB") released
Statement of Financial Accounting Standards No. 128, "Earnings Per Share"
("SFAS No. 128"). The new statement is effective December 15, 1997 and will
require restatement of prior years' earnings per share; early adoption is not
permitted. The adoption of SFAS No. 128 will have no material effect on SCI's
reported earnings per share.
The FASB has also released Statement of Financial Accounting Standard No.
129, "Disclosure of Information about Capital Structure" ("SFAS No. 129"). SCI
already complies with the requirements of the standard which is effective for
periods ending after December 15, 1997.
3. REAL ESTATE:
The following summarizes real estate investments as of September 30, 1997
and December 31, 1996 (in thousands):
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
1997 1996
------------- ------------
(UNAUDITED) (AUDITED)
<S> <C> <C>
Land held for development...................... $ 133,026 $ 109,316
Land under development......................... 59,132 40,465
Improved land.................................. 395,385 356,428
Buildings and improvements..................... 2,142,340 1,918,256
Construction in progress....................... 81,145 77,506
Capitalized preacquisition costs............... 7,114 6,776
---------- ----------
Total real estate.......................... 2,818,142 2,508,747
Less accumulated depreciation.................. 156,860 109,147
---------- ----------
Net real estate............................ $2,661,282 $2,399,600
========== ==========
</TABLE>
6
<PAGE>
SECURITY CAPITAL INDUSTRIAL TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
Capitalized preacquisition costs include $966,000 and $1,634,000 of funds on
deposit with title companies as of September 30, 1997 and December 31, 1996,
respectively, for property acquisitions.
4. INVESTMENTS IN AND ADVANCES TO UNCONSOLIDATED SUBSIDIARIES:
On September 1, 1997, SCI's preferred stock subsidiary, SCI Development
Services Incorporated ("SCI Development Services"), acquired 9.6% of the
outstanding common shares of Insight, Inc., a privately owned logistics
optimization consulting company, for $500,000, and committed to invest an
additional $2.0 million over the next two years to increase its ownership to
33%. SCI Development Services has accounted for this investment on the cost
method. The accounts of SCI Development Services are consolidated with SCI and
all intercompany transactions are eliminated in consolidation.
On April 24, 1997, SCI Logistics Services Incorporated ("SCI Logistics"), a
newly formed corporation, acquired a 60% interest in a refrigerated warehouse
company, renamed CS Integrated LLC ("CSI"). On September 1, 1997, SCI Logistics
contributed additional capital to CSI and increased its ownership to 71.1%. As
of September 30, 1997, CSI owned refrigerated warehouses totaling 53.0 million
cubic feet and also owned two dry storage facilities. SCI owns 100% of the
nonvoting preferred stock of SCI Logistics. An unrelated third party owns 100%
of the common stock of SCI Logistics. SCI will recognize 95% of the economic
benefits from SCI Logistics' cash flow (as defined) through its cumulative
preferred stock dividends. SCI accounts for its investment in SCI Logistics on
the equity method of accounting.
As of September 30, 1997, Investments In and Advances to Unconsolidated
Subsidiaries consists of the following items (in thousands):
<TABLE>
<S> <C>
Investment in Insight, Inc....................................... $ 500
Investment in preferred stock of SCI Logistics................... 4,946
Note receivable from SCI Logistics............................... 35,163
Accrued interest and other receivables........................... 1,160
-------
Total........................................................ $41,769
=======
</TABLE>
The note receivable from SCI Logistics is an unsecured loan which bears
interest at 13% per annum payable on the 24th of April of each year, commencing
April 24, 1998, and matures on April 24, 2002.
5. BORROWINGS:
Line of Credit
SCI has a $350.0 million unsecured revolving line of credit agreement with
NationsBank of Texas, N.A. (as agent for a bank group). Borrowings bear
interest at SCI's option, at either an annual rate equal to the lesser of (a)
the greater of the federal funds rate plus 0.5%, and the prime rate, or (b)
LIBOR plus .95%, based upon SCI's current senior debt ratings. Additionally,
there is a commitment fee ranging from .125% to .20% per annum of the unused
line of credit balance. The line is scheduled to mature in May 1999 and may be
extended annually for an additional year with the approval of NationsBank and
the other participating lenders; if not extended, at SCI's election, the
facility will either (a) convert to a three year term note, or (b) continue on
a revolving basis with the remaining one year maturity. All debt incurrences
are subject to a covenant that SCI maintain a debt to tangible net worth ratio
of not greater than 1 to 1. Additionally, SCI is required to maintain an
adjusted net worth (as defined) of at least $1.25 billion, to maintain interest
payment coverage of not less than 2 to 1, and to maintain a fixed charge
coverage ratio (as defined) of not less than 1.75 to 1. As of September 30,
1997, SCI was in compliance with all covenants contained in the line of credit,
and as of November 12, 1997, $6.0 million of borrowings were outstanding on the
line of credit.
7
<PAGE>
SECURITY CAPITAL INDUSTRIAL TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
On October 1, 1997, SCI extended its $15.0 million short-term unsecured
borrowing agreement with NationsBank through October 1, 1998. The rate of
interest and the maturity date of each advance will be determined by agreement
between SCI and NationsBank at the time of each advance. There was $15.0
million of borrowings on this credit line as of November 12, 1997.
Long-Term Debt
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
1997 1996
------------- ------------
(IN THOUSANDS)
<S> <C> <C>
8.72% Senior Unsecured Notes, issued on March 2,
1995 in an original principal amount of
$150,000,000. Interest is payable March 1 and
September 1 of each year. The Notes are payable in
eight consecutive annual installments of
$18,750,000 commencing March 1, 2002 and mature on
March 1, 2009...................................... $150,000 $150,000
9.34% Senior Unsecured Notes, issued on March 2,
1995 in an original principal amount of
$50,000,000. Interest is payable March 1 and
September 1 of each year. The Notes are payable in
six consecutive annual installments ranging from
$5,000,000 to $12,500,000 commencing on March 1,
2010 and mature on March 1, 2015................... 50,000 50,000
7.125% Senior Unsecured Notes due 1998, issued on
May 16, 1995 in an original principal amount of
$15,000,000, net of original issue discount.
Interest is payable May 15 and November 15 of each
year............................................... 14,997 14,993
7.25% Senior Unsecured Notes due 2000, issued on May
16, 1995 in an original principal amount of
$17,500,000, net of original issue discount.
Interest is payable May 15 and November 15 of each
year............................................... 17,459 17,448
7.30% Senior Unsecured Notes due 2001, issued on May
16, 1995 in an original principal amount of
$17,500,000, net of original issue discount.
Interest is payable May 15 and November 15 of each
year............................................... 17,446 17,435
7.875% Senior Unsecured Notes, issued on May 16,
1995 in an original principal amount of
$75,000,000, net of original issue discount.
Interest is payable May 15 and November 15 of each
year. The Notes are payable in eight annual
installments of $9,375,000 commencing May 15, 2002
and mature on May 15, 2009......................... 74,687 74,668
7.25% Senior Unsecured Notes, issued on May 17, 1996
in an original principal amount of $50,000,000, net
of original issue discount. Interest is payable May
15 and November 15 of each year. The Notes are
payable in four annual installments of $12,500,000
commencing May 15, 1999 and mature on May 15,
2002............................................... 49,959 49,951
7.95% Senior Unsecured Notes, issued on May 17, 1996
in an original principal amount of $100,000,000,
net of original issue discount. Interest is payable
May 15 and November 15 of each year. The Notes are
payable in four annual installments of $25,000,000
commencing May 15, 2005 and mature on May 15,
2008............................................... 99,848 99,840
8.65% Senior Unsecured Notes, issued on May 17, 1996
in an original principal amount of $50,000,000, net
of original issue discount. Interest is payable May
15 and November 15 of each year. The Notes are
payable in seven annual installments ranging from
$5,000,000 to $12,500,000 commencing May 15, 2010
and mature on May 15, 2016......................... 49,860 49,856
</TABLE>
8
<PAGE>
SECURITY CAPITAL INDUSTRIAL TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
1997 1996
------------- ------------
(IN THOUSANDS)
<S> <C> <C>
7.81% Medium-Term Notes, issued on February 4, 1997
in an original principal amount of $100,000,000.
Interest is payable February 1 and August 1 of each
year. The Notes are payable in six annual
installments ranging from $10,000,000 to $20,000,000
commencing February 1, 2010 and mature on February
1, 2015............................................. $100,000 $ --
7.625% Senior Unsecured Notes, due July 1, 2017,
issued July 11, 1997 in an original principal amount
of $100,000,000, net of original issue discount.
Interest is payable January 1 and July 1 of each
year................................................ 99,773 --
-------- --------
Total long-term debt, net of original issue
discount........................................ $724,029 $524,191
======== ========
</TABLE>
All of the foregoing notes are redeemable at any time at the option of SCI,
in whole or in part, at a redemption price equal to the sum of the principal
amount of the notes being redeemed plus accrued interest thereon to the
redemption date plus an adjustment, if any, based on the yield to maturity
relative to market yields available at redemption. Such notes are governed by
the terms and provisions of an indenture (the "Indenture") between SCI and
State Street Bank and Trust Company, as trustee.
Under the terms of the Indenture, SCI can incur additional debt only if,
after giving effect to the debt being incurred and application of proceeds
therefrom, (i) the ratio of debt to total assets, as defined in the Indenture,
does not exceed 60%, (ii) the ratio of secured debt to total assets, as defined
in the Indenture, does not exceed 40%, and (iii) SCI's pro forma interest
coverage ratio, as defined in the Indenture, for the four preceding fiscal
quarters is not less than 1.5:1. In addition, SCI may not at any time own Total
Unencumbered Assets, as defined in the Indenture, equal to less than 150% of
the aggregate outstanding principal amount of SCI's unsecured debt. At
September 30, 1997, SCI was in compliance with all debt covenants contained in
the Indenture.
Mortgage Notes Payable, Assessment Bonds Payable and Securitized Debt
Mortgage notes payable of $88.5 million were secured by real estate with an
aggregate undepreciated cost of $163.4 million at September 30, 1997.
Assessment bonds payable of $11.9 million were secured by real estate with an
aggregate undepreciated cost of $222.7 million at September 30, 1997.
Securitized debt of $33.9 million was collateralized by real estate with an
aggregate undepreciated cost of $67.0 million at September 30, 1997.
Approximate principal payments due on long-term debt, mortgage notes payable,
assessment bonds payable and securitized debt during each of the years in the
five year period ending December 31, 2002, and thereafter are as follows (in
thousands):
<TABLE>
<S> <C>
Remainder of 1997............................................... $ 13,162
1998............................................................ 19,763
1999............................................................ 25,668
2000............................................................ 38,407
2001............................................................ 40,662
2002............................................................ 44,592
2003 and thereafter............................................. 677,034
--------
Total principal due............................................. 859,288
Less: original issue discount................................... (971)
--------
Total carrying value........................................ $858,317
========
</TABLE>
9
<PAGE>
SECURITY CAPITAL INDUSTRIAL TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
For the nine month periods ended September 30, 1997 and 1996, interest
expense on all borrowings was $39,188,000 and $28,723,000, respectively, which
was net of capitalized interest of $12,863,000 and $11,512,000, respectively.
The total interest paid in cash was $45,227,000 and $33,638,000 for the nine
month periods ended September 30, 1997 and 1996, respectively.
6. MINORITY INTEREST:
Minority interest represents limited partners' interests in five real estate
partnerships controlled by SCI (Red Mountain Joint Venture, SCI Limited
Partnership-I, SCI Limited Partnership-II, SCI Limited Partnership-III, and
SCI Limited Partnership-IV). As of September 30, 1997, a total of 5,194,258
limited partnership units were held by minority interest limited partners in
the various real estate partnerships. Limited partners are entitled to
exchange each partnership unit for one common share of SCI.
In October 1994, SCI IV, Inc., a wholly-owned subsidiary of SCI made a $27.5
million cash contribution to SCI Limited Partnership-IV, a Delaware limited
partnership (Partnership-IV), in exchange for a 96.36% general partnership
interest in Partnership-IV, and third party investors that were not affiliated
with SCI contributed an aggregate of $1.0 million in assets to Partnership-IV
in exchange for limited partner interests totaling 3.64% in Partnership-IV.
SCI has contributed additional funds to the partnership in 1996 and 1997 in
conjunction with tax deferred exchanges of real estate which increased SCI's
interest from 96.36% to 96.65%. SCI IV, Inc., as general partner, manages the
activities of Partnership-IV and has fiduciary responsibilities to
Partnership-IV and its other partners.
Both Partnership-IV and SCI IV, Inc. are legal entities that are separate
and distinct from SCI, its affiliates and each other, and each has separate
assets, liabilities, business functions and operations. The assets owned by
Partnership-IV consist of income producing, improved real property primarily
located in Florida, Ohio and Oklahoma. The sole assets owned by SCI IV, Inc.
are its general partner advances to and interest in Partnership-IV. SCI and
its affiliates had no borrowings from SCI IV, Inc. at September 30, 1997.
Partnership-IV had $3.2 million of borrowings from SCI IV, Inc. at September
30, 1997. SCI IV, Inc. had $3.2 million of borrowings from SCI and its
affiliates at September 30, 1997. For financial reporting purposes, the
assets, liabilities, results of operations and cash flows of each of
Partnership-IV and SCI IV, Inc. are included in SCI's consolidated financial
statements and the third party investors' interests in Partnership-IV are
reflected as minority interest. Limited partners are entitled to receive
preferential cumulative quarterly distributions per unit equal to the
quarterly distribution in respect of common shares. At September 30, 1997,
there were 68,612 limited partnership units outstanding in Partnership-IV.
7. SHAREHOLDERS' EQUITY:
On August 6, 1997, in connection with the consummation of the Merger (see
Note 9), SCI commenced a rights offering to sell 4,970,352 common shares at
$21 per share. The rights offering was designed to allow SCI's shareholders,
other than Security Capital Group Incorporated ("Security Capital"), the
opportunity to maintain their relative ownership in SCI by purchasing
additional common shares at a price which was below the price at which
Security Capital received common shares in the Merger. On September 9, 1997,
SCI offered 994,070 common shares at $21 per share to third party subscribers
in the rights offering that were not accepted in whole or in part due to
demand in excess of the common shares offered. All of these common shares were
issued in September 1997, and net proceeds from these offerings totaled $124.9
million.
On March 24, 1997, SCI issued 48,809 common shares in conjunction with an
acquisition of property. On February 7, 1997, SCI completed a public offering
of 4,025,000 common shares; net proceeds to SCI after underwriting discounts
and offering costs were $80.4 million.
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SECURITY CAPITAL INDUSTRIAL TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
On September 30, 1997, SCI paid a quarterly dividend of $0.5875 per
cumulative redeemable Series A preferred share, $0.4375 per cumulative
convertible Series B preferred share ("Series B Preferred Share") and $1.0675
per cumulative redeemable Series C preferred share to preferred shareholders of
record on September 15, 1997. On October 28, 1997, SCI declared a distribution
of $0.2675 per common share, payable on November 25, 1997, to common
shareholders of record as of November 11, 1997.
8. EARNINGS PER SHARE:
Earnings per share is computed based on the weighted average number of common
shares outstanding during the period. Exercise of outstanding warrants and
options to acquire 3,110,621 SCI common shares would not have a material
dilutive effect on earnings per share. The conversion of the limited
partnership units (as discussed in Note 6) and the Series B Preferred Shares
into common shares is not assumed since the effect would not be materially
dilutive.
9. CONSUMMATION OF MERGER:
On September 8, 1997, SCI's shareholders voted to approve an agreement with
Security Capital to exchange Security Capital's REIT management and property
management companies for 3,692,023 shares of SCI's common stock (the "Merger").
As a result, SCI became an internally managed REIT on September 9, 1997 with
Security Capital remaining as SCI's largest shareholder. The $81.9 million
value of the management companies was approved by the independent Trustees and
a fairness opinion was obtained from a third party investment bank. Pursuant to
the terms of the Merger Agreement, the number of shares issued to Security
Capital was based on the average market price of the common shares ($22.175)
over the five-day period prior to the August 6, 1997 record date for
determining the SCI shareholders entitled to vote on the Merger. The market
value of the common shares issued to Security Capital on September 9, 1997 was
$79.8 million of which $4.4 million was allocated to the net tangible assets
acquired and the $75.4 million difference was accounted for as costs incurred
in acquiring the management companies from a related party. For accounting
purposes the management companies were not considered "businesses" for purposes
of applying APB Opinion No. 16, "Business Combinations", and therefore the
market value of the common shares issued in excess of the fair value of the net
tangible assets acquired was charged to operating income rather than
capitalized as goodwill.
As a result of the Merger, SCI no longer pays REIT management and property
management fees to Security Capital. All employees of the REIT manager and the
property manager became employees of SCI and SCI directly incurs the personnel
and other costs related to these functions. The costs relating to property
management are recorded as rental expenses whereas the costs associated with
managing the REIT are recorded as general and administrative expenses. Direct
and incremental costs related to successful development, acquisition and
leasing activities are capitalized in accordance with generally accepted
accounting principles (GAAP).
Upon consummation of the Merger, SCI and Security Capital entered into an
administrative services agreement (the "Administrative Services Agreement"),
pursuant to which Security Capital will provide SCI with certain administrative
and other services with respect to certain aspects of SCI's business, as
selected from time to time by SCI at its option. These services are expected to
include, but are not limited to, payroll and human resources, cash management,
accounts payable, MIS support and other computer services, research, investor
relations and insurance, legal and tax administration. Fees payable to Security
Capital will be equal to Security Capital's cost of providing such services,
plus 20%, subject to a maximum amount of approximately $7.1 million during the
initial term of the agreement, of which approximately $2.0 million will apply
to the period between closing of the Merger and December 31, 1997 and the
remainder will apply to 1998. Cost savings under the Administrative Services
Agreement will accrue to SCI. The agreement will be for an initial term
expiring on December 31, 1998 and will be automatically renewed for consecutive
one-year terms subject to approval by a majority of the independent Trustees.
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SECURITY CAPITAL INDUSTRIAL TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONCLUDED)
In addition, after the closing of the Merger, Security Capital issued $101.0
million of warrants pro rata to holders of SCI's common shares (other than
Security Capital), Series B Preferred Shares and limited partnership unit
holders ("Unitholders"), to acquire 3,608,202 shares of Class B common stock of
Security Capital. SCI common shareholders and Unitholders received 0.046549
warrants for each common share or unit held and Series B preferred shareholders
received 0.059676 warrants for each preferred share held. Each warrant can be
exercised for one share of Security Capital Class B common stock at an exercise
price of $28 per share and has a term of one year. Security Capital issued
these warrants as an incentive to SCI shareholders to vote in favor of the
Merger and to raise additional equity capital at a relatively low cost in
addition to other benefits.
10. LONG-TERM INCENTIVE PLAN:
On September 8, 1997, SCI's common shareholders approved a long-term
incentive plan (the "Incentive Plan"), which provides for awards consisting of
the following: 1) options to purchase common shares, 2) dividend equivalent
units ("DEUs") on options, 3) a share purchase program, and 4) share awards. No
more than 9,600,000 common shares in the aggregate may be awarded under the
Incentive Plan and no individual may be granted awards with respect to more
than 500,000 common shares in any one-year period.
Under the Incentive Plan, certain employees of SCI purchased 1,356,834 common
shares on September 8, 1997, at a price of $21.21875 per share (the average of
the high and low price per share on September 8, 1997). SCI financed 95% of the
total purchase price through ten-year, recourse loans to the participants
aggregating $27.3 million (including $22.5 million due from officers of SCI).
The loans, which have been recognized as a deduction from Additional Paid-In
Capital in Shareholders' Equity, bear interest at the lower of SCI's annual
dividend yield or 6% per annum. The loans are secured by the common shares
purchased. For each common share purchased, participants were granted options
to purchase two additional common shares at a price of $21.21875.
Also, on September 8, 1997, SCI granted options to purchase 359,189 common
shares for $21.21875 per share to officers and certain employees of SCI. These
options are entitled to DEUs each December 31, depending on the relationship
between SCI's common share dividend yield and the S&P 500 average dividend
yield for the year. DEU's will vest as the applicable options vest and entitle
the holder to one common share for each DEU. The 3,072,857 options granted on
September 8, 1997, have five or nine year vesting schedules.
SCI has elected to account for these plans under APB Opinion No. 25.
Accordingly, no compensation cost has been recognized in the accompanying
financial statements for the fair value (as defined under FAS 123) of granted
options. SCI intends to make the proforma disclosures as required by FAS 123 in
its December 31, 1997 consolidated financial statements.
11. SUBSEQUENT EVENTS:
Prior to November 7, 1997, SCI had $167.7 million in securities remaining
available to be issued under its previous shelf registration statement. On
November 7, 1997, SCI's most recent shelf registration statement was filed with
the Securities and Exchange Commission regarding the offering from time to time
of an additional $600 million in one or more series of its debt securities,
preferred shares of beneficial interest, and common shares of beneficial
interest.
On October 28, 1997, SCI entered into two interest rate protection agreements
in anticipation of debt offerings in March 1998 and May 1998. A forward
treasury lock agreement was executed with a notional amount of $75.0 million on
the 6 3/8% Treasury bond due August 2027 and a swap agreement was entered into
with a notional amount of $75.0 million on the 6 5/8% Treasury bond due
February 2027. The forward treasury lock has a termination date of March 31,
1998 and effectively locks in the 30 year treasury rate used to price SCI's
debt, at 6.316%. The swap agreement has a termination date of May 31, 1998, and
carries a fixed rate of 6.721% which is a combination of the treasury rate plus
the swap spread and the forward premium.
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REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
To the Board of Trustees and Shareholders of
Security Capital Industrial Trust
We have reviewed the accompanying consolidated balance sheet of Security
Capital Industrial Trust and subsidiaries as of September 30, 1997, and the
related consolidated statements of operations for the three and nine months
ended September 30, 1997 and 1996, and the consolidated statements of cash
flows for the nine months ended September 30, 1997 and 1996. These financial
statements are the responsibility of the Trust's management.
We conducted our review in accordance with standards established by the
American Institute of Certified Public Accountants. A review of interim
financial information consists principally of applying analytical procedures to
financial data and making inquiries of persons responsible for financial and
accounting matters. It is substantially less in scope than an audit conducted
in accordance with generally accepted auditing standards, the objective of
which is the expression of an opinion regarding the financial statements taken
as a whole. Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that
should be made to the financial statements referred to above for them to be in
conformity with generally accepted accounting principles.
We have previously audited, in accordance with generally accepted auditing
standards, the consolidated balance sheet of Security Capital Industrial Trust
and subsidiaries as of December 31, 1996, and in our report dated February 10,
1997, we expressed an unqualified opinion on that statement. In our opinion,
the information set forth in the accompanying consolidated balance sheet as of
December 31, 1996, is fairly stated in all material respects, in relation to
the consolidated balance sheet from which it has been derived.
Arthur Andersen LLP
Chicago, Illinois
November 12, 1997
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ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The statements contained in this discussion that are not historical facts are
forward-looking statements within the meaning of Section 27A of the Securities
Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These
forward-looking statements are based on current expectations, estimates and
projections about the industry and markets in which SCI operates, management's
beliefs, and assumptions made by management. Words such as "expects,"
"anticipates," "intends," "plans," "believes," "seeks," "estimates," variations
of such words and similar expressions are intended to identify such forward-
looking statements. These statements are not guarantees of future performance
and involve certain risks, uncertainties and assumptions ("Future Factors")
which are difficult to predict. Therefore, actual outcomes and results may
differ materially from what is expressed or forecasted in such forward-looking
statements. Future Factors include: (i) changes in general economic conditions
in its target markets that could adversely affect demand for SCI's properties
and the creditworthiness of SCI's customers, (ii) changes in financial markets
and interest rates that could adversely affect SCI's cost of capital and its
ability to meet its financial needs and obligations, and (iii) those factors
discussed below. These are representative of the Future Factors that could
affect the outcome of the forward-looking statements.
OVERVIEW
Consummation of Merger Transaction
On September 8, 1997, SCI terminated its REIT management agreement with
Security Capital Industrial Incorporated (the "REIT Manager") and the property
management agreement with SCI Client Services Incorporated (the "Property
Manager") (collectively the "Management Companies"), pursuant to a merger
transaction ("the Merger") whereby SCI acquired the operations and businesses
of the Management Companies valued at approximately $81.9 million from Security
Capital Group Incorporated ("Security Capital") in exchange for 3,692,023
common shares. The number of common shares issued to Security Capital was
determined using a per common share price of $22.175 (the average market price
of common shares over the five-day period prior to the August 6, 1997 record
date for determining SCI's shareholders entitled to vote on the Merger). The
Board of Trustees approved the Merger transaction based on the recommendation
of a special committee comprised of independent Trustees. The Merger, which
required the approval of a majority of SCI's outstanding common shares, was
approved by approximately 99% of the shareholders voting on the transaction on
September 8, 1997. As a result of the transaction, SCI became an internally
managed REIT and Security Capital remains SCI's largest shareholder (43.0%
ownership based on outstanding common shares as of September 30, 1997).
The financial impact of the Merger is discussed in more detail below under
"Results of Operations" and "Liquidity and Capital Resources".
General
SCI's operating results depend primarily upon net operating income from
distribution properties, which is substantially influenced by (i) the demand
for and supply of distribution properties in SCI's target market cities, (ii)
the pace and economic returns at which SCI can acquire and develop additional
distribution properties, (iii) the extent to which SCI can sustain improved
market performance as measured by lease rates and occupancy, and (iv) the
operating performance of SCI's unconsolidated subsidiaries (see "--Results of
Operations: Income from Unconsolidated Subsidiaries"). SCI's target market
cities and submarkets have benefited substantially in recent periods from
demographic trends (including population and job growth) which influence the
demand for distribution properties. SCI believes its ability to compete is
significantly enhanced relative to other companies because of its depth of
management and the ability to serve customers through the SCI International
Operating System(TM), which includes acquisition and development personnel, and
presence in local markets. SCI expanded its operations into Mexico and Europe
in the first half of 1997 to meet the needs of its targeted national and
international customers as they expand and reconfigure their distribution
facility requirements globally. With six
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target market cities identified in Mexico and 15 identified in Europe, SCI
believes that there are significant growth opportunities internationally. As a
result of acquisitions and developments of distribution properties for the
last three months of 1996 and the first nine months of 1997, SCI's rentable
square footage increased by 12.5 million square feet or 16.7% to 87.3 million
square feet as of September 30, 1997. As of September 30, 1997, the properties
were 93.50% leased. Management expects that SCI's ability to acquire and
develop distribution properties at favorable economic returns will continue
through the remainder of 1997. Additionally, SCI Development Services
Incorporated (see "--Other Real Estate Income") and SCI Logistics (see "--
Income from Unconsolidated Subsidiaries") are expected to contribute recurring
income in subsequent periods.
SCI frequently acquires properties which are underleased and develops
properties which are not fully leased at the start of construction, which
reduces SCI's overall occupancy rate below its stabilized level but provides
opportunities to increase revenues. The term "stabilized" means that capital
improvements, repositioning, new management and new marketing programs (or
development and marketing, in the case of newly developed properties) have
been completed and in effect for a sufficient period of time (but in no case
longer than 12 months for properties acquired by SCI and 12 months after shell
completion for properties developed by SCI) to achieve stabilized occupancy
(typically 93%, but ranging from 90% to 95%, depending on the submarket and
product type) at market rents. SCI has been successful in increasing
occupancies on acquired and developed properties during their initial months
of operations resulting in an occupancy rate of 94.58% and a leased rate of
96.12% for stabilized properties owned as of September 30, 1997. The average
increase in rental rates for new and renewed leases on previously leased space
(14.0 million square feet) during the first nine months of 1997 was 18.7%. As
leases are renewed or new leases are acquired, SCI expects most lease rates on
renewals or new leases to increase in the remainder of 1997. These factors
should improve SCI's results of operations. Capital and credit market
conditions which affect SCI's cost of equity and debt capital may influence
future growth in operating results.
No assurance can be given that expected trends for the remainder of 1997 in
leasing rates and economic returns on acquired and developed properties will
be realized. There are risks associated with SCI's development and acquisition
activities which include Future Factors such as: development and acquisition
opportunities explored by SCI may be abandoned, construction costs of a
project may exceed original estimates due to increased materials, labor or
other expenses; and construction and lease-up may not be completed on
schedule, resulting in increased debt service expense and construction costs.
Acquisition activities entail risks that investments will fail to perform in
accordance with expectations and that analysis with respect to the cost of
improvements to bring an acquired project up to standards will prove
inaccurate, as well as general investment risks associated with any new real
estate investment. Although SCI undertakes a thorough evaluation of the
physical condition of each new project before it is acquired, certain defects
or necessary repairs may not be detected until after the project is acquired,
which could increase SCI's total acquisition cost. The occurrence of any of
the events described above could adversely affect SCI's ability to achieve its
projected returns on acquisitions and projects under development and could
hinder SCI's ability to make expected distributions.
RESULTS OF OPERATIONS
Nine Months Ended September 30, 1997 Compared to Nine Months Ended September
30, 1996
Net earnings for the nine months ended September 30, 1997 and 1996 were
$10.9 million and $54.6 million, respectively, a decrease of $43.7 million
(80.0%). This decrease resulted from a one-time, non-cash charge of
approximately $75.4 million related to the costs incurred in acquiring the
businesses and operations of the Management Companies from Security Capital.
See "--Costs Incurred in Acquiring Management Companies from a Related Party"
below. The impact of this one-time charge and higher interest expense (due to
larger debt balances) was partially offset by a $7.4 million increase in Other
Real Estate Income, $2.2 million of income from 1997 investments in
unconsolidated subsidiaries, a $6.5 million increase in gains on dispositions
and increased earnings from SCI distribution properties.
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Historically, the primary components of revenue and earnings growth have been
SCI's acquisition and development activity. SCI owned 982 operating properties
totaling 87.3 million square feet as of September 30, 1997 with a historical
cost of $2.5 billion. Net earnings are expected to increase in subsequent
periods due to the acquisition and development of additional operating
properties, the continued increase in the prestabilized portfolio rental rates
and occupancy and the stabilized portfolio rental rates, and additional
investments in unconsolidated subsidiaries. A discussion of the major
components of SCI's results of operations follows.
Rental Revenues
Rental revenues for the first nine months of 1997 increased by $45.1 million
or 27.5% to $208.9 million, as compared to $163.8 million for the same period
in 1996. Of this increase, $15.5 million was generated by the 111 properties
acquired in 1996, $20.6 million was generated by the 86 developments completed
in 1996, $2.7 million was generated by the 42 properties acquired in 1997, and
$4.8 million was generated by the 44 developments completed in 1997. The
remaining $1.5 million increase was attributable to revenue increases in the
745 properties owned at January 1, 1996.
Other Real Estate Income
Other real estate income consists primarily of gains on disposition of
undepreciated property and fees and other income from corporate distribution
facilities services business, the majority of which is generated by SCI
Development Services Incorporated ("SCI Development Services"). SCI Development
Services develops corporate distribution facilities that do not meet SCI's
strict investment criteria for long-term ownership and works on a fee basis for
customers who want to own their own facilities. SCI Development Services is
expected to generate recurring income in subsequent periods. Through its
preferred stock ownership, SCI will realize substantially all economic benefits
of SCI Development Services' activities. The activities of SCI Development
Services are consolidated with SCI. SCI Development Services pays federal and
state taxes at the applicable corporate rate.
Income from Unconsolidated Subsidiaries
Income from unconsolidated subsidiaries relates to SCI's 1997 investments in
the preferred stock of SCI Logistics Services Incorporated ("SCI Logistics"),
and notes receivable from SCI Logistics and CS Integrated LLC ("CSI") (see "--
Item 1: Financial Statements, Footnote 4"). SCI Logistics' primary source of
income is its ownership interest in CSI. At the time of SCI's initial
investment in SCI Logistics on April 24, 1997, SCI Logistics owned 60% of the
common stock of CSI. On September 1, 1997, SCI Logistics increased its
ownership interest to 71.1% of CSI through additional capital contributions in
conjunction with the acquisition of Texas Cold Storage, adding 9.7 million
cubic feet to CSI's refrigerated distribution network. As of September 30,
1997, CSI operated 53.0 million cubic feet of refrigerated distribution space
and has an additional 22.8 million cubic feet under contract.
Interest Income
Interest income for the first nine months of 1997 increased $712,000 from the
same period in 1996. The increase in interest income was a result of higher
interest rates and higher cash balances in interest bearing accounts in the
first nine months of 1997 compared to the same period in 1996.
Rental Expenses and Acquisition of Property Manager
Rental expenses, including property management fees paid to affiliate, net of
recoveries, increased by $55,000 or 0.3% to $19,530,000 for the first nine
months of 1997 from $19,475,000 for the same period in 1996. Gross expenses,
before the deduction of amounts recovered from tenants, were approximately 26%
of rental income for both the first nine months of 1997 and 1996.
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As a result of the Merger on September 8, 1997, SCI acquired the operations
of the Property Manager who managed approximately 96% of SCI's operating
portfolio prior to the Merger. Although subsequent to September 8, 1997, SCI
will no longer incur a 3% property management fee on the properties managed by
its Property Manager, SCI will include the actual personnel and other operating
costs of this property management function in rental expenses on its Statement
of Operations.
Interest Expense
Interest expense increased by $10.5 million or 36.6% to $39.2 million for the
first nine months of 1997 from $28.7 million for the same period in 1996. Total
interest capitalized increased by $1.4 million or 12.2% to $12.9 million for
the first nine months of 1997 from $11.5 million for the same period in 1996.
The increase in interest expense was principally due to the issuance of $200
million in Senior Notes on May 17, 1996, the issuance of $100 million of Medium
Term Notes--Series A on February 4, 1997 and the issuance of $100 million of
Senior Notes on July 11, 1997. (See "Liquidity and Capital Resources"). The
capitalized interest increase is attributable to increased development activity
in the first nine months of 1997.
REIT Management Fee and Acquisition of REIT Manager
The REIT management fee paid by SCI increased by approximately $2.4 million
or 15.6% during the nine months ended September 30, 1997 as compared to the
same period in 1996 due to increased operating income from the greater number
of distribution properties in operation in 1997, which was partially offset by
the termination of the REIT management agreement upon closing of the Merger on
September 8, 1997. Pursuant to the consummation of the Merger, SCI acquired the
REIT Manager and became an internally managed REIT. Subsequent to September 8,
1997, the REIT management fee was replaced with the actual personnel and other
operating costs associated with the REIT management function. These costs are
recorded as general and administrative expenses. Direct and incremental costs
related to successful development, acquisition and leasing activities have been
capitalized in accordance with generally accepted accounting principles (GAAP).
Upon closing of the Merger, SCI entered into an Administrative Services
Agreement (ASA) with Security Capital for services which include, but are not
limited to, payroll and human resources, cash management, accounts payable, MIS
support and other computer services, research, investor relations and
insurance, legal and tax administration. These services are provided in
exchange for a fee equal to Security Capital's cost of providing the service
plus 20%, subject to a maximum of approximately $2.0 million during 1997 and
$5.1 million for 1998. ASA fees expensed from the Merger date through September
30, 1997 under this agreement aggregated $288,000. The ASA, which expires on
December 31, 1998, provides for automatic renewals for consecutive one-year
terms, subject to approval by a majority of the independent Trustees.
Costs Incurred in Acquiring Management Companies from a Related Party
The market value of the 3,692,023 common shares issued to Security Capital on
the Merger date was approximately $79.8 million, based on the $21.625 per share
closing price of the common shares on the Merger date, of which approximately
$4.4 million was allocated to the estimated fair value of the tangible net
assets acquired. The $75.4 million difference was accounted for as costs
incurred in acquiring the Management Companies from a related party, rather
than "goodwill" since for accounting purposes the Management Companies were not
considered "businesses" for purposes of applying APB Opinion No. 16 "Business
Combinations". This one-time adjustment was recorded as an expense on SCI's
Statement of Operations but was not deducted for purposes of calculating funds
from operations, due to the non-recurring and non-cash nature of this expense.
Other Expense
Other expense increased by $334,000 or 17.6% to $2.2 million for the first
nine months of 1997 from $1.9 million for the same period in 1996. Other
expenses consist of land holding costs and acquisition and corporate
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distribution facilities services pursuit cost write-offs. Land holding costs
were $1,560,000 for the first nine months of 1997 compared to $1,150,000 for
the same period in 1996, and acquisition and corporate distribution facilities
services pursuit cost write-offs were $677,000 for the first nine months of
1997 compared to $753,000 for the same period in 1996.
Preferred Share Dividends
In June 1995, SCI issued $135 million of Series A Cumulative Redeemable
Preferred Shares ("Series A Preferred Shares") that have an annual dividend of
$2.35 per share (9.4% annual dividend rate), which totalled $9.5 million for
the first nine months of 1997 and 1996. In February 1996, SCI issued $201.3
million of Series B Cumulative Convertible Redeemable Preferred Shares
("Series B Preferred Shares") that have an annual dividend of $1.75 per share
(7% annual dividend rate) which totalled $10.6 million for the nine months
ended September 30, 1997 compared to $8.5 million for the period from the
February 21, 1996 issue date through September 30, 1996. In November 1996, SCI
issued $100 million of Series C Cumulative Redeemable Preferred Shares
("Series C Preferred Shares") that have an annual dividend of $4.27 per share
(8.54% annual dividend rate) which totalled $6.4 million for the nine months
ended September 30, 1997.
Three Month Period Ended September 30, 1997 and 1996
Revenues and expenses for the three months ended September 30, 1997 compared
to the three months ended September 30, 1996 reflect changes similar to those
discussed in the preceding paragraphs for the comparison of the nine months
ended on the same dates. The changes are substantially attributable to the
same reasons discussed in the preceding paragraphs for the nine months ended
September 30, 1997 and 1996.
LIQUIDITY AND CAPITAL RESOURCES
Cash provided by operating activities increased from $101.0 million in the
first nine months of 1996 to approximately $140.0 million in the first nine
months of 1997 principally due to the acquisition and development of
additional operating properties. Cash used in investing activities decreased
from $486.2 million in the first nine months of 1996 to $338.1 million in the
first nine months of 1997 principally due to the $111 million increase in
proceeds received from property dispositions. Cash provided by financing
activities was $240.3 million in the first nine months of 1997 compared to
$405.2 million in the first nine months of 1996. Cash provided by financing
activities for the first nine months of 1997 consisted primarily of $80.4
million of net proceeds from the sale of common shares in February 1997,
$124.9 million of net proceeds received in September 1997 from a rights
offering and related sale of common shares, $197.3 million of net proceeds
from the February and July debt offerings and net repayment on the line of
credit of $38.6 million. Cash provided by financing activities in the first
nine months of 1996 consisted primarily of $134.9 million of net proceeds from
the sale of common shares, $192 million of net proceeds from the sale of the
Series B Preferred Shares, $199.6 million net proceeds from the May 1996 debt
offering, and $16.4 million net repayment on the line of credit. Additionally,
distributions paid to common and preferred shareholders and to minority
interest holders were $108.2 million in the first nine months of 1997 compared
to $83.7 million in the first nine months of 1996, and mortgage principal
payments were $18.3 million in the first nine months of 1997 compared to $17.0
million for the first nine months of 1996.
On September 8, 1997, SCI's shareholders approved a long-term incentive
plan. 9,600,000 common shares have been reserved for issuance under this plan.
On September 8, 1997, SCI granted options (that have five or nine year vesting
schedules) to purchase 3,072,857 common shares at $21.21875 per share to
officers and certain employees of SCI. Also under the Incentive Plan, certain
officers and employees of SCI purchased 1,356,834 common shares at a price of
$21.21875 per share. SCI financed 95% of the total purchase price through ten-
year, recourse loans to the participants aggregating $27.3 million.
On August 6, 1997, in connection with the consummation of the Merger, SCI
commenced a rights offering to sell 4,970,352 common shares at $21 per share.
On September 9, 1997, SCI offered 994,070 common shares
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at $21 per share to third party subscribers in the rights offering that were
not accepted in whole or in part due to demand in excess of the common shares
offered. All of these common shares were issued in September 1997, and net
proceeds from these offerings totaled $124.9 million.
On July 11, 1997, SCI issued $100 million of Senior Notes due 2017 (the
"July 1997 Notes"). The July 1997 Notes bear interest at 7.625% per annum
payable semi-annually on January 1 and July 1 of each year. The principal will
mature on July 1, 2017. The average effective interest cost is 7.73%,
including all costs associated with the offering plus $235,759 combined
proceeds from the termination of a forward treasury lock agreement and a swap
agreement entered into in November 1996 in anticipation of the July debt
offering. The forward treasury lock agreement was on a notional amount of $26
million of U.S. Treasury bonds maturing August 15, 2026 with a base price of
103.453% and effectively fixed the 30-year Treasury bond used to price the
July 1997 Notes at a rate of 6.56%. The termination of the forward treasury
lock resulted in a gain of $174,319. The swap agreement had a notional amount
of $33.0 million and required SCI to pay a fixed rate of 6.61% on the notional
amount in exchange for a floating rate equal to the three-month LIBOR rate.
The termination of the swap on July 8, 1997 resulted in a gain of $61,440.
On February 7, 1997, SCI completed a public offering of 4,025,000 common
shares. Net proceeds to SCI after underwriting discounts and offering costs
were $80.4 million.
On February 4, 1997, SCI issued $100.0 million of Series A 2015 Notes under
its Medium-Term Note program established in November 1996. The Series A 2015
Notes bear interest at 7.81%, payable semi-annually on February 1 and August
1, commencing August 1, 1997. Installments of principal will be paid annually
on each February 1, commencing February 1, 2010, in the following amounts: $20
million in 2010, $15 million in 2011, $15 million in 2012, $20 million in
2013, $20 million in 2014 and $10 million in 2015. The Series A 2015 Notes
have a weighted average life to maturity of 15.35 years and a final maturity
extending to 2015. The average effective interest cost is 7.73%, including all
costs associated with the offering plus $1.7 million in proceeds received on
January 31, 1997 in connection with the termination of two interest rate
protection agreements entered into in August and November 1996 in anticipation
of the debt offering. The August forward treasury lock agreement had a
notional principal amount of $30.0 million and a reference price of 99.653 on
the 30 year Treasury bond. The November forward treasury lock agreement had a
notional principal amount of $50.0 million and a reference price of 101 29/32
on the ten year Treasury Note. The settlement date on both contracts was
January 31, 1997.
As of September 30, 1997, SCI had $725 million of long-term unsecured notes
outstanding subject to the Indenture between SCI and State Street Bank and
Trust Company, as trustee. Under the terms of the Indenture, SCI can incur
additional debt only if, after giving effect to the debt being incurred and
application of proceeds therefrom, (i) the ratio of debt to total assets, as
defined in the Indenture, does not exceed 60%, (ii) the ratio of secured debt
to total assets, as defined in the Indenture, does not exceed 40%, and (iii)
SCI's pro forma interest coverage ratio, as defined in the Indenture, for the
four preceding fiscal quarters is not less than 1.5:1. In addition, SCI may
not at any time own Total Unencumbered Assets, as defined in the Indenture,
equal to less than 150% of the aggregate outstanding principal amount of SCI's
unsecured debt. As of September 30, 1997, SCI was in compliance with all debt
covenants contained in the Indenture.
SCI has a $350.0 million unsecured revolving line of credit agreement with
NationsBank of Texas, N.A. (as agent for a bank group). Borrowings bear
interest at an annual rate equal to the lesser of either (a) the greater of
the federal funds rate plus 0.5% and the prime rate, or (b) LIBOR plus .95%,
based upon SCI's current senior debt ratings. Additionally, there is a
commitment fee ranging from .125% to .20% per annum of the unused line of
credit balance. The line is scheduled to mature in May 1999 and may be
extended annually for an additional year with the approval of NationsBank and
the other participating lenders; if not extended, at SCI's election, the
facility will either (a) convert to a three year term note, or (b) continue on
a revolving basis with the remaining one year maturity. All debt incurrences
are subject to a covenant that SCI maintain a debt to tangible net worth
19
<PAGE>
ratio of not greater than 1 to 1. Additionally, SCI is required to maintain an
adjusted net worth (as defined) of at least $1.25 billion, to maintain interest
payment coverage of not less than 2 to 1, and to maintain a fixed charge
coverage ratio (as defined) of not less than 1.75 to 1. As of September 30,
1997, SCI was in compliance with all covenants contained in the line of credit.
As of November 12, 1997, $6.0 million of borrowings were outstanding on this
line of credit and $15.0 million of borrowings were outstanding on a $15.0
million discretionary line of credit with NationsBank.
On October 28, 1997, SCI entered into two interest rate protection agreements
in anticipation of debt offerings in March 1998 and May 1998. A forward
treasury lock agreement was executed with a notional amount of $75.0 million on
the 6 3/8% Treasury bond due August 2027 and a swap agreement was entered into
with a notional amount of $75.0 million on the 6 5/8% Treasury bond due
February 2027. The forward treasury lock has a termination date of March 31,
1998 and effectively locks in the 30 year treasury rate used to price SCI's
debt, at 6.316%. The swap agreement has a termination date of May 31, 1998, and
carries a fixed rate of 6.721% which is a combination of the treasury rate plus
the swap spread and the forward premium.
As of September 30, 1997, SCI has invested $2.5 billion for the acquisition
and development of 982 operating distribution properties. These acquisitions
and developments were financed with cash on hand, the issuance of limited
partnership units, the assumption of existing mortgage debt and borrowings
under SCI's line of credit which were repaid with the proceeds from SCI's
equity and debt offerings.
On September 30, 1997, SCI had $349.2 million of budgeted development cost
for developments in process, of which $208.9 million was unfunded. SCI expects
to finance construction, development and acquisitions primarily with cash on
hand, borrowings under its line of credit and cash from future securities
offerings. When issuing debt, SCI intends primarily to either arrange fully
amortizing, fixed rate, 10-year to 20-year debt, or to arrange for fixed rate
debt with different maturities to create a debt maturity schedule that is
similar to an amortizing schedule.
SCI considers its liquidity and ability to generate cash from operations and
financing to be adequate and expects it to continue to be adequate to meet
SCI's acquisition, development, operating, debt service and shareholder
distribution requirements.
SCI's current distribution policy is to pay quarterly distributions to
shareholders based upon what it considers to be a reasonable percentage of cash
flow. Because depreciation is a non-cash expense, cash flow typically will be
greater than earnings from operations and net earnings. Therefore, quarterly
distributions will consistently be higher than quarterly earnings.
Pursuant to the terms of the Series A Preferred Series, the Series B
Preferred Shares and the Series C Preferred Shares (the "Preferred Shares"),
SCI is restricted from declaring or paying any distribution with respect to the
common shares unless all cumulative distributions with respect to the Preferred
Shares have been paid and sufficient funds have been set aside for
distributions that have been declared for the then current distribution period
with respect to the Preferred Shares.
Funds from Operations
Funds from operations attributable to common shares increased $33.2 million
or 40.3% from $82.3 million for the first nine months of 1996 to $115.5 million
for the same period in 1997. Funds from operations represent SCI's net earnings
(computed in accordance with GAAP) before minority interest and before
gains/losses on disposition of depreciated property, plus real estate
depreciation and amortization and significant non-recurring items. SCI believes
that funds from operations is helpful to a reader as a measure of the
performance of an equity REIT because along with cash flows from operating
activities, financing activities, and investing activities, it provides a
reader with an indication of the ability of SCI to incur and service debt, to
make capital expenditures and to fund other cash needs. Funds from operations
should not be considered as an alternative to net earnings or any other GAAP
measurement of performance as an indicator of SCI's operating performance or as
an alternative to cash flows from operating, investing or financing activities
as a measure of liquidity. The funds from operations measure presented by SCI
will not be comparable to similarly titled measures of other REITs which do not
compute funds from operations in a manner consistent with SCI.
20
<PAGE>
STATEMENT OF FUNDS FROM OPERATIONS
(IN THOUSANDS)
<TABLE>
<CAPTION>
NINE MONTHS
ENDED
SEPTEMBER 30,
-----------------
1997 1996
-------- -------
<S> <C> <C>
Net earnings/(loss) attributable to common shares............ $(15,578) $36,555
Add (deduct):
Depreciation and amortization, including share of
unconsolidated subsidiaries............................. 59,447 43,187
Minority interest........................................ 2,763 2,499
(Gain)/loss on disposition of depreciated real estate.... (6,529) 29
Costs incurred in acquiring management companies from a
related party........................................... 75,376 --
-------- -------
Funds from operations attributable to common shares.......... $115,479 $82,270
======== =======
</TABLE>
21
<PAGE>
PART II--OTHER INFORMATION
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITIES HOLDERS
At a special meeting of SCI's common shareholders held on September 8, 1997,
shareholders approved the Merger and Issuance Agreement which among other
things provided for the acquisition of the businesses and operations of the
Management Companies from Security Capital in exchange for 3,692,023 common
shares. Of the shares present at the meeting, a total of 89,325,344 (98.5%) of
the common shares voted in favor, 205,043 of the common shares voted against
the transaction, 257,904 common shares abstained, and there were 874,289 non-
votes.
Additionally, shareholders approved an amendment to SCI's Restated
Declaration of Trust exempting the Merger transactions from certain provisions
which restricts transactions with affiliates. The common shares voted in favor
of the proposal were 90,184,613 with 217,828 voted against the proposal, and
260,139 shares abstained.
The final proposal approved by the shareholders at the special meeting was
the 1997 Long-Term Incentive Plan. The shareholders approved the proposal with
83,994,045 common shares voted in favor, 5,505,341 common shares voted against
the proposal, 288,905 common shares abstained, and there were 874,289 non-
votes.
ITEM 5. OTHER INFORMATION
On October 18, 1996, SCI's shelf registration statement was declared
effective by the Securities and Exchange Commission ("SEC") regarding the
offering from time to time of $678 million in one or more series of its debt
securities, preferred shares of beneficial interest and common shares of
beneficial interest. As of September 30, 1997, approximately $167.7 million in
securities were available to be issued under SCI's shelf registration
statement.
On November 7, 1997, SCI filed an additional $600 million shelf registration
statement with the SEC, which has yet to be declared effective by the SEC.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS
<TABLE>
<CAPTION>
EXHIBITS DOCUMENT DESCRIPTION
-------- --------------------
<C> <S>
12.1 Statement regarding Computation of Ratio of Earnings to Fixed Charges
12.2 Statement regarding Computation of Ratio of Earnings to Combined
Fixed Charges and Preferred Share Dividends
15 Letter from Arthur Andersen LLP regarding unaudited financial
information
27 Financial Data Schedule
</TABLE>
(b) REPORTS ON FORM 8-K
<TABLE>
<CAPTION>
DATE ITEM REPORTED FINANCIAL STATEMENTS
---- -------------- --------------------
<S> <C> <C>
July 11, 1997........................ Item 5, Item 7 No
September 9, 1997.................... Item 7 Yes
</TABLE>
22
<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.
Security Capital Industrial Trust
/s/ M. Gordon Keiser
-------------------------------------
M. Gordon Keiser,
Senior Vice President
(Principal Financial Officer)
/s/ Edward F. Long
-------------------------------------
Edward F. Long,
Vice President and Controller
(Principal Accounting Officer)
Date: November 13, 1997
23
<PAGE>
EXHIBIT 12.1
SECURITY CAPITAL INDUSTRIAL TRUST
COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES
(DOLLAR AMOUNTS IN THOUSANDS)
<TABLE>
<CAPTION>
NINE MONTHS
ENDED
SEPTEMBER 30, YEAR ENDED DECEMBER 31,
---------------- -------------------------------------
1997 1996 1996 1995 1994 1993 1992
------- ------- -------- ------- ------- ------ -----
<S> <C> <C> <C> <C> <C> <C> <C>
Net Earnings (Loss) from
Operations............. $ 4,381 $54,646 $ 79,384 $47,660 $25,066 $4,412 $(187)
Add:
Interest Expense....... 39,188 28,723 38,819 32,005 7,568 321 504
------- ------- -------- ------- ------- ------ -----
Earnings as Adjusted.... $43,569 $83,369 $118,203 $79,665 $32,634 $4,733 $ 317
======= ======= ======== ======= ======= ====== =====
Fixed Charges:
Interest Expense....... $39,188 $28,723 $ 38,819 $32,005 $ 7,568 $ 321 $ 504
Capitalized Interest... 12,863 11,512 16,138 8,599 2,208 98 124
------- ------- -------- ------- ------- ------ -----
Total Fixed Charges.. $52,051 $40,235 $ 54,957 $40,604 $ 9,776 $ 419 $ 628
======= ======= ======== ======= ======= ====== =====
Ratio of Earnings (Loss)
to Fixed Charges....... (a) 2.1 2.2 2.0 3.3 11.3 (b)
======= ======= ======== ======= ======= ====== =====
</TABLE>
- --------
(a) Due to a one-time expense of $75.4 million incurred upon acquiring the
management companies from a related party, earnings were insufficient to
cover fixed charges for the nine months ended September 30, 1997 by $8.5
million.
(b) While SCI was researching markets and assembling its initial assets,
earnings were insufficient to cover fixed charges for the year ended
December 31, 1992 by $311,000.
<PAGE>
EXHIBIT 12.2
SECURITY CAPITAL INDUSTRIAL TRUST
COMPUTATION OF RATIO OF EARNINGS TO COMBINED FIXED
CHARGES AND PREFERRED SHARE DIVIDENDS
(DOLLAR AMOUNTS IN THOUSANDS)
<TABLE>
<CAPTION>
NINE MONTHS
ENDED
SEPTEMBER 30, YEAR ENDED DECEMBER 31,
---------------- -------------------------------------
1997 1996 1996 1995 1994 1993 1992
------- ------- -------- ------- ------- ------ -----
<S> <C> <C> <C> <C> <C> <C> <C>
Net Earnings (Loss) from
Operations............. $ 4,381 $54,646 $ 79,384 $47,660 $25,066 $4,412 $(187)
Add:
Interest Expense....... 39,188 28,723 38,819 32,005 7,568 321 504
------- ------- -------- ------- ------- ------ -----
Earnings as Adjusted.... $43,569 $83,369 $118,203 $79,665 $32,634 $4,733 $ 317
======= ======= ======== ======= ======= ====== =====
Combined Fixed Charges
and Preferred Share
Dividends:
Interest Expense..... $39,188 $28,723 $ 38,819 $32,005 $ 7,568 $ 321 $ 504
Capitalized Interest. 12,863 11,512 16,138 8,599 2,208 98 124
------- ------- -------- ------- ------- ------ -----
Total Fixed
Charges........... 52,051 40,235 54,957 40,604 9,776 419 628
Preferred Share
Dividends (a)......... 26,488 18,062 25,895 6,698 -- -- --
------- ------- -------- ------- ------- ------ -----
Combined Fixed Charges
and Preferred Share
Dividends.............. $78,539 $58,297 $ 80,852 $47,302 $ 9,776 $ 419 $ 628
======= ======= ======== ======= ======= ====== =====
Ratio of Earnings (Loss)
to Combined Fixed
Charges and Preferred
Share Dividends........ (b) 1.4 1.5 1.7 3.3 11.3 (c)
======= ======= ======== ======= ======= ====== =====
</TABLE>
- --------
(a) SCI had no preferred shares prior to 1995.
(b) Due to a one-time expense of $75.4 million incurred upon acquiring the
management companies from a related party, earnings were insufficient to
cover combined fixed charges and preferred share dividends for the nine
months ended September 30, 1997 by $35.0 million.
(c) While SCI was researching markets and assembling its initial assets,
earnings were insufficient to cover combined fixed charges and preferred
share dividends for the year ended December 31, 1992 by $311,000.
<PAGE>
EXHIBIT 15
November 12, 1997
Board of Trustees and Shareholders
Security Capital Industrial Trust
We are aware that Security Capital Industrial Trust has incorporated by
reference in its Registration Statement Nos. 33-91366, 33-92490, 333-4961,
333-13909, 333-26597, 333-31421, 333-38875 and 333-39797 its Form 10-Q for the
quarter ended September 30, 1997, which includes our report dated November 12,
1997 covering the unaudited interim financial information contained therein.
Pursuant to Regulation C of the Securities Act of 1933 (the "Act"), that
report is not considered a part of the registration statements prepared or
certified by our firm or a report prepared or certified by our firm within the
meaning of Sections 7 and 11 of the Act.
Very truly yours,
Arthur Andersen LLP
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND> This schedule contains summary financial information extracted from the
Form 10-Q for the nine months ended September 30, 1997, and is qualified in its
entirety by reference to such financial statements.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1997
<PERIOD-END> SEP-30-1997
<CASH> 46,983
<SECURITIES> 0
<RECEIVABLES> 52,661
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 0
<PP&E> 2,818,142
<DEPRECIATION> 156,860
<TOTAL-ASSETS> 2,828,374
<CURRENT-LIABILITIES> 0
<BONDS> 858,317
0
436,250
<COMMON> 1,088
<OTHER-SE> 1,381,059
<TOTAL-LIABILITY-AND-EQUITY> 2,828,374
<SALES> 208,919
<TOTAL-REVENUES> 222,042
<CGS> 0
<TOTAL-COSTS> 19,530
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 39,188
<INCOME-PRETAX> (15,578)
<INCOME-TAX> 0
<INCOME-CONTINUING> (15,578)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (15,578)
<EPS-PRIMARY> (0.16)
<EPS-DILUTED> 0
</TABLE>
