<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
---------------
FORM 10-Q
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D)
-- OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTER ENDED SEPTEMBER 30, 1997
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D)
-- OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE PERIOD FROM TO
COMMISSION FILE NUMBER: 1934 ACT FILE NUMBER: 1-13174
CHARLES E. SMITH RESIDENTIAL REALTY, INC.
(Exact name of registrant as specified in its charter)
MARYLAND 54-1681655
(State of other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2345 CRYSTAL DRIVE
CRYSTAL CITY, VA 22202
(Address of principal (Zip Code)
executive offices)
Registrant's telephone number including area code: (703) 920-8500
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
SHARES OF COMMON STOCK
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No
--- ---
As of October 7, 1997, there were 14,895,693 shares of Common Stock of the
Registrant issued and outstanding.
<PAGE>
CHARLES E. SMITH RESIDENTIAL REALTY, INC.
FORM 10-Q
INDEX
<TABLE>
<CAPTION>
Pages
-----
<S> <C>
PART I - FINANCIAL INFORMATION
Item 1: Financial Statements
Charles E. Smith Residential Realty, Inc. Financial
Statements as of September 30, 1997 and December 31, 1996,
Filed as a Part of This Report
Consolidated Balance Sheets 3
Consolidated Statements of Operations 4
Consolidated Statements of Shareholders' Equity 5
Consolidated Statements of Cash Flows 6
Notes to Consolidated Financial Statements 7
Item 2: Management's Discussion and Analysis of
Financial Condition and Results of Operations 11
PART II - OTHER INFORMATION 22
SIGNATURES 24
</TABLE>
<PAGE>
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CHARLES E. SMITH RESIDENTIAL REALTY, INC.
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
September 30, 1997 December 31, 1996
------------------ -----------------
(Unaudited)
<S> <C> <C>
ASSETS
Rental property, at predecessor cost, net $ 262,808 $ 267,658
Rental property, acquired and developed, net 329,338 202,435
Rental property under development 14,708 -
Cash and cash equivalents 5,216 3,898
Tenants' security deposits 2,379 3,521
Escrow funds 8,297 6,087
Investment in and advances to Property Service Businesses
and other 16,603 10,756
Deferred charges, net 16,216 17,646
Other assets 23,903 10,210
---------- ----------
$ 679,468 $ 522,211
========== ==========
LIABILITIES AND EQUITY
Liabilities
Mortgage loans $ 486,942 $ 416,808
Notes payable 68,000 129,736
Accounts payable and accrued expenses 12,079 9,525
Tenants' security deposits 2,379 3,521
---------- ----------
Total liabilities 569,400 559,590
---------- ----------
Minority Interest 55,427 -
Commitments and contingencies
Shareholders' equity
Preferred stock - $.01 par value; 2,640,325 shares authorized;
Series A Cumulative Convertible Redeemable Preferred
Stock, liquidation preference of $27.08, 738,553 shares
issued and outstanding 19,772 -
Common stock - $.01 par value; 95,000,000 shares
authorized; 13,442,076 and 9,969,607 shares issued
and outstanding at September 30, 1997 and
December 31, 1996, respectively 135 100
Additional paid-in capital - including contributed
deficit of $244,208 41,840 (23,852)
Retained deficit (7,106) (13,627)
---------- ----------
Total shareholders' equity 54,641 (37,379)
---------- ----------
$ 679,468 $ 522,211
========== ==========
</TABLE>
The accompanying notes are an integral part of these statements.
3
<PAGE>
CHARLES E. SMITH RESIDENTIAL REALTY, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
(Unaudited) (Unaudited)
For the Three Months For the Nine Months
Ended September 30, Ended September 30,
---------------------------- -------------------------
1997 1996 1997 1996
----------- ----------- ---------- -----------
<S> <C> <C> <C> <C>
RENTAL PROPERTIES
Revenues $ 50,829 $ 42,157 $ 145,088 $ 121,109
Expenses
Operating costs 18,296 15,506 52,062 45,485
Real estate taxes 3,098 2,658 9,096 7,765
Depreciation and amortization 5,294 4,748 15,440 13,476
--------- ---------- ---------- ----------
Total expenses 26,688 22,912 76,598 66,726
PROPERTY SERVICE BUSINESSES
Equity in income of Property Service businesses 1,931 1,797 3,636 4,789
Corporate general and administrative expenses (1,544) (1,237) (4,583) (3,867)
Interest expense (10,981) (11,206) (33,664) (32,248)
Interest income 236 192 768 726
--------- ---------- ---------- ----------
Net income of the Operating Partnership 13,783 8,791 34,647 23,783
Minority Interest (6,724) (4,818) (17,435) (13,047)
Distributions in excess of earnings
allocated to Minority Interest -- (1,094) -- (4,726)
--------- ---------- ---------- ----------
Net income 7,059 2,879 17,212 6,010
Less income attributable to Series A
preferred shares 384 -- 384 --
--------- ---------- ---------- ----------
Net income attributable to common shares $ 6,675 $ 2,879 16,828 6,010
========= ========== ========== ==========
Net income per common share $ 0.49 $ 0.29 $ 1.32 $ 0.61
========= ========== ========== ==========
</TABLE>
The accompanying notes are an integral part of these statements.
4
<PAGE>
CHARLES E. SMITH RESIDENTIAL REALTY, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
<TABLE>
<CAPTION>
Common Series A Additional Retained
Stock Preferred Common Paid-in Earnings
Outstanding (Dollars in Thousands, Except Per Share Data) Stock Stock Capital (Deficit) Total
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
9,708,123 Balance, December 31, 1995 $ - $ 97 $(26,585) $ (5,135) $(31,623)
Operating Partnership equity
exchanged for acquisitions - - 2,403 - 2,403
Conversion of Operating Partnership
261,484 units to common stock - 3 (3) - -
Adjustment for Unit Grants - - 333 - 333
Net income - - - 10,977 10,977
Dividends ($1.975 per share) - - - (19,469) (19,469)
- ---------- ------- ---- -------- -------- --------
9,969,607 Balance, December 31, 1996 - 100 (23,852) (13,627) (37,379)
Operating Partnership equity
exchanged for acquisitions - - 47,129 - 47,129
Proceeds from issuance of Common Stock,
3,105,000 net of offering costs of $5,249 - 31 82,824 - 82,855
Proceeds from issuance of Series A Preferred
Stock, net of offering costs of $228 19,772 - - - 19,772
Conversion of Operating Partnership units
357,469 to common stock - 4 (4) - -
Adjustment for Unit Grants - - 417 - 417
Adjustment for Minority Interest - - (64,988) 7,813 (57,175)
10,000 Other - - 314 - 314
Net income - - - 17,212 17,212
Dividends ($1.515 per share) - - - (18,504) (18,504)
- ---------- ------- ---- -------- -------- --------
13,442,076 Balance, September 30, 1997 (unaudited) $19,772 $135 $ 41,840 $ (7,106) $ 54,641
========== ======= ==== ======== ======== ========
</TABLE>
The accompanying notes are an integral part of these statements.
5
<PAGE>
CHARLES E. SMITH RESIDENTIAL REALTY, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
(Unaudited)
For the Nine Months
Ended September 30,
--------------------
1997 1996
--------- ---------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 17,212 $ 6,010
Minority Interest 17,435 13,047
Adjustments to reconcile net income
to net cash provided by operating activities:
Depreciation and amortization 17,611 15,834
Distributions in excess of earnings allocated to Minority Interest - 4,726
Increase in escrow funds (2,210) (1,078)
(Increase) decrease in other assets (2,009) 8
Increase (decrease) in accounts payable and accrued expenses 2,554 (2,207)
--------- ---------
Net cash provided by operating activities 50,593 36,340
--------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisitions and development of rental property (16,518) (60,103)
Additions to rental property (8,177) (4,044)
Decrease in related party payables:
Property Service Businesses - (635)
Affiliates - (468)
Predecessor - (51)
Increase in investment in and advances to Property Service Businesses
and other (5,813) (3,016)
Other (11,248) (780)
--------- ---------
Net cash used by investing activities (41,756) (69,097)
--------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Increase in deferred charges (973) (939)
Mortgage repayments (10,030) (322)
Notes payable:
Proceeds from draws 30,350 73,632
Repayments (92,086) (13,100)
Net proceeds from Common Stock offering 82,855 -
Net proceeds from Preferred Stock offering 19,772 -
Dividends and distributions (37,687) (32,214)
Other 280 (192)
--------- ---------
Net cash (used by) provided by financing activities (7,519) 26,865
--------- ---------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 1,318 (5,892)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 3,898 9,478
--------- ---------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 5,216 $ 3,586
========= =========
SUPPLEMENTAL INFORMATION:
Purchase of properties in exchange for Operating Partnership units $ 47,129 $ 2,403
Assumed debt on acquisitions 80,164 3,260
Capitalized interest 436 -
</TABLE>
The accompanying notes are an integral part of these statements.
6
<PAGE>
CHARLES E. SMITH RESIDENTIAL REALTY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BASIS OF PRESENTATION
The accompanying interim financial statements include all of the accounts of
Charles E. Smith Residential Realty, Inc. (the Company) and Charles E. Smith
Residential Realty L.P. (the Operating Partnership) and its subsidiary financing
partnerships. The Company consolidates the Operating Partnership due to the
Company's control as sole general partner. All significant intercompany
balances and transactions have been eliminated. The financial information
furnished is unaudited, and in management's opinion, includes all adjustments
(consisting only of normal, recurring adjustments), that are necessary for a
fair presentation of financial position as of September 30, 1997 and the results
of operations for the interim periods ended September 30, 1997 and 1996. Such
interim results are not necessarily indicative of the operating results for a
full year. The accompanying financial statements should be read in conjunction
with the audited financial statements and related footnotes appearing in the
Company's Annual Report on Form 10-K.
The Company, through the Operating Partnership and its subsidiaries, is
engaged in the ownership, operation, management, leasing, acquisition, expansion
and development of real estate properties, primarily residential multifamily
properties. As of September 30, 1997, the Operating Partnership owned 44
multifamily properties containing 17,028 apartment units, and two retail
shopping centers aggregating 436,000 square feet. Additionally, the Operating
Partnership owns substantially all of the economic interest in entities which
provide multifamily and retail property management, leasing and development
services, property renovation, construction and construction management
services, building engineering and technical services, and financial advisory
services (collectively the "Property Service Businesses"). The Operating
Partnership uses the equity method of accounting for its investment in the
Property Service Businesses.
2. ACQUISITIONS AND DEVELOPMENT
The Company, through the Operating Partnership, acquired 1,452 apartment
units in February 1997 through the purchase of two high-rise properties in
Crystal City, Virginia. A 540-unit building (Crystal Plaza) was acquired for a
total cost of approximately $43.0 million consisting of 307,000 limited
partnership units of the Operating Partnership valued at $8.7 million, assumed
debt of $34.0 million (at fair market value) and acquisition related costs of
approximately $0.3 million. This property is subject to a 5.1% net profits
interest in favor of a third party. A 912-unit building (Crystal Towers) was
purchased for a total cost of approximately $69.8 million consisting of 842,500
limited partnership units of the Operating Partnership valued at $23.9 million,
assumed debt of $45.0 million (at fair market value) and cash of $0.9 million.
7
<PAGE>
In March 1997, the Company acquired a 376-unit property (the Kenmore) in
northwest Washington, D.C. for a total cost of approximately $16.3 million
consisting of 510,700 limited partnership units of the Operating Partnership
valued at $14.5 million, assumed debt of $1.2 million, and acquisition related
costs of approximately $0.6 million.
During the second quarter of 1997, the Company purchased for $9.1 million
approximately 17 acres of land and began construction of a 630-unit mid-rise and
garden multifamily property (Springfield Station) in Springfield, Virginia. The
total expected cost of the project is approximately $60 million with delivery
of apartment units beginning in spring 1998 and final delivery by spring 1999.
As a result of property acquisitions, the stock offerings (see Notes 3 and 4)
and the conversion of partnership units into common shares, the Company's
weighted average ownership percentage of the Operating Partnership increased
from 45.3% and 45.1% for the three and nine months ended September 30, 1996 to
51.5% and 49.7% for the three and nine months ended September 30, 1997.
3. COMMON STOCK OFFERING
During the first quarter of 1997, the Company completed a follow-on equity
offering and issued 3.1 million shares of common stock at $28.375 per share
totaling $82.9 million, net of underwriting discounts and other expenses
totaling $5.2 million. Net proceeds were used to repay $72.1 million of notes
payable and $9 million of mortgage debt and to fund property acquisitions.
4. PREFERRED STOCK OFFERING
On May 15, 1997, the Company entered into an agreement with Security Capital
Preferred Growth, Inc. (Security Capital) to sell 2.6 million shares of Series A
Cumulative Convertible Redeemable Preferred Stock (Series A Preferred Shares),
$0.01 par value (liquidation preference of $27.08 per share), at $27.08 per
share for a total of $71.5 million. On June 30, 1997, the Company sold 0.7
million Series A Preferred Shares for proceeds of $19.8 million, net of $0.2
million in offering costs. The remainder of the Series A Preferred Shares will
be issued and sold in amounts determined by the Company on or before May 14,
1998.
Dividends on the Series A Preferred Shares are cumulative from the date of
original issue and are payable quarterly at the greater of $2.02 per share or
the rate declared on the shares of common stock of the Company. The Series A
Preferred Shares are not redeemable prior to May 15, 2003. On or after May 15,
2003, the Company, at its option, may redeem the Series A Preferred Shares for
cash at a redemption price of $27.08 per share, plus accrued and unpaid
dividends. Under certain circumstances, the Company may elect to make such
redemption with common stock at the then market price of the common stock. On or
after January 31, 1999, Security Capital may convert the Series A Preferred
Shares into shares of common stock on a one-for-one basis subject to certain
limitations. Prior to January 31, 1999, the Series A Preferred Shares will not
be convertible unless the Company undergoes a change in control, as defined by
the agreement, or fails to qualify as a REIT for tax purposes.
8
<PAGE>
5. PER SHARE DATA
Earnings per common share of the Company for the three and nine months ended
September 30, 1997 is computed based on 13.5 million and 12.8 million shares,
respectively, which represents the weighted average number of common shares and
common stock equivalents outstanding during the periods. Each of the comparable
prior year periods is based on 9.9 million weighted average common shares.
Operating Partnership units not held by the Company (weighted average of 13.4
million and 13.2 million, respectively, for the three and nine months ended
September 30, 1997 and 12.0 million for each of the comparable prior year
periods) may be redeemed at the Unitholders' sole discretion. At the option of
the Company, such redemption may be made for cash at the then fair value of the
Company's common stock, or for shares of common stock of the Company on a one-
for-one basis which does not have a dilutive effect. During the nine months
ended September 30, 1997, 0.4 million units were redeemed for shares of common
stock.
6. NEW ACCOUNTING PRONOUNCEMENTS
During 1997, the Financial Accounting Standards Board (the FASB) issued
Statement of Financial Accounting Standard No. 128, "Earnings Per Share" (SFAS
128) which requires entities to exclude the effect of potentially dilutive
securities in the calculation of primary earnings per share. The standard will
be effective for interim and annual periods ending after December 15, 1997 and
will require restatement of comparative prior-period data. Had the standard
been implemented January 1, 1997, earnings per common share for the three and
nine months ended September 30, 1997 would have been $0.50 and $1.33 per share,
respectively. Prior period earnings per common share would have been
unchanged. Management does not expect this standard to have a material impact
upon implementation.
During 1997, the FASB also issued several additional standards including SFAS
129, "Disclosure of Information About Capital Structure", SFAS 130, "Reporting
Comprehensive Income" and SFAS 131, "Disclosures About Segments of an
Enterprise and Related Information". All of the standards are effective for
interim and annual reporting periods ending after December 15, 1997 and none are
expected to have any significant impact on current reporting or disclosure
since the Company either already complies with the requirements or the standard
is not applicable.
7. RECLASSIFICATIONS
The Company changed the classification of certain senior management payroll
costs from property operating expenses to corporate general and administrative
expense. Management believes this reclassification more accurately reflects
property operations and is consistent with industry practice. Amounts for the
period ended September 30, 1996 have been reclassified to conform to the current
year's presentation. Had this reclassification not been made, property
operating expenses would have been higher and corporate general and
administrative expenses would have been lower by $0.6 million and $1.7 million
for each of the three and nine month periods ended September 30, 1996.
9
<PAGE>
Certain other reclassifications have also been made to the prior year amounts
to conform to the current year's presentation.
8. SUBSEQUENT EVENTS
On October 3, 1997, the Company acquired a 714-unit, luxury high-rise
property located in Ballston, Virginia (Lincoln Towers) for a total cost of
approximately $88.7 million in cash. Lincoln Towers was built in 1992 and
consists of twin 22-story towers above a three level parking garage. The
acquisition was funded in part by the sale of 1.45 million shares of common
stock and 1.22 million shares of preferred stock to the Prudential Insurance
Company of America (Prudential) for approximately $76 million.
The Company amended the Articles of Incorporation to designate and establish
the rights and privileges of the Series B Cumulative Convertible Redeemable
Preferred Stock (Series B Preferred Shares). Rights of Series B Preferred
Shareholders include certain voting, dividend and liquidation preferences over
the common shareholders. The Series B Preferred Shares have a liquidation
preference of $28.50 per share. Dividends are cumulative and are payable
quarterly at the greater of $2.02 per share or the rate declared on the shares
of common stock of the Company. Prudential may convert the Series B Preferred
Shares into shares of common stock on a one-for-one basis, subject to certain
adjustments and limitations related to its ownership of common stock of the
Company. The Company may redeem Series B Preferred Shares at any time for common
shares, plus accrued and unpaid dividends.
On October 7, 1997, the Company acquired a 306-unit luxury high-rise property
in downtown Chicago, Illinois (One East Delaware) for approximately $42.5
million in cash. Built in 1989, the property consists of a 36-story tower over
an enclosed parking garage. The Company funded the acquisition with proceeds
from its line of credit.
On October 10, 1997, the Company acquired a 188-unit, luxury high-rise
property in Boston, Massachusetts (2000 Commonwealth) for approximately $27.6
million consisting of approximately 465,000 Operating Partnership units valued
at $14.1 million, assumed debt of $13.3 million, and acquisition related costs
of approximately $0.2 million. Built in 1986, the property is a 16-story, brick
structure over below grade parking.
On October 8, 1997, the Company acquired a 564-unit, luxury high-rise
property under construction in Arlington, Virginia (Courthouse Hill) for $17.5
million consisting of $3.6 million cash and approximately 450,000 Operating
Partnership units valued at $13.9 million. Total expected project cost is
approximately $65 million. The balance of construction costs is expected to be
funded through a construction loan. Management expects to begin delivery of
apartment units in October 1998, with completion in the fall of 1999.
In October 1997, the Company finalized a contract to purchase a 167-unit,
garden property in northwest Washington, D.C. (Tunlaw Gardens) for $6.9 million
consisting of $2.5 million cash and approximately 130,000 Operating Partnership
units valued at $4.4 million. The property is currently managed by the Company
and the acquisition is scheduled to close in December 1997.
10
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
The following discussion should be read in conjunction with the accompanying
financial statements and notes thereto. The results of operations for the three
and nine months ended September 30, 1997 and 1996 presented in the Consolidated
Statements of Operations and discussed below represent the operations of Charles
E. Smith Residential Realty, Inc. (the "Company"), Charles E. Smith Residential
Realty L.P. (the "Operating Partnership") and its subsidiary financing
partnerships. The Company consolidates the Operating Partnership due to its
control as sole general partner.
FORWARD-LOOKING STATEMENTS
When used throughout this report, the words "believes", "anticipates", and
"expects" and similar expressions are intended to identify forward-looking
statements. Such statements indicate that assumptions have been used that are
subject to a number of risks and uncertainties which could cause actual
financial results or management plans and objectives to differ materially from
those projected or expressed herein, including: the effect of national and
regional economic conditions, particularly with regard to the levels of
multifamily property occupancy and rental growth in the Washington, D.C.
metropolitan area; the registrant's ability to identify and secure additional
properties and sites that meet its criteria for acquisition or development; the
acceptance of the registrant's financing plans by the capital markets, and the
effect of prevailing market interest rates and the pricing of the Company's
stock; and other risks described from time to time in the registrant's filings
with the Securities and Exchange Commission. Given these uncertainties, readers
are cautioned not to place undue reliance on such statements. The registrant
undertakes no obligation to publicly release the result of any revisions to
these forward-looking statements that may be made to reflect any future events
or circumstances.
RENTAL PROPERTIES
Revenues, expenses and income from the multifamily and retail properties for
the three and nine months ended September 30, 1997 and 1996 were as follows (in
thousands):
11
<PAGE>
<TABLE>
<CAPTION>
Three Months Ended September 30, Nine Months Ended September 30,
---------------------------------- ---------------------------------
1997 1996/(1)/ 1997 1996/(1)/
--------------- ----------------- --------------- ----------------
<S> <C> <C> <C> <C>
Multifamily Properties - Core/(2)/
Revenues $ 39,232 $ 37,452 $114,770 $ 110,725
Expenses (16,832) (16,216) (49,004) (49,078)
-------- ---------- -------- ----------
Income before depreciation $ 22,400 $ 21,236 $ 65,766 $ 61,647
======== ========== ======== ==========
Multifamily Properties -
Acquisitions and Development
Revenues $ 8,785 $ 2,074 $ 22,369 $ 2,827
Expenses (3,693) (970) (9,528) (1,313)
-------- ---------- -------- ----------
Income before depreciation $ 5,092 $ 1,104 $ 12,841 $ 1,514
======== ========== ======== ==========
Retail Properties
Revenues $ 2,812 $ 2,631 $ 7,949 $ 7,557
Expenses (869) (978) (2,626) (2,859)
-------- ---------- -------- ----------
Income before depreciation $ 1,943 $ 1,653 $ 5,323 $ 4,698
======== ========== ======== ==========
Total Rental Properties
Revenues $ 50,829 $ 42,157 $145,088 $ 121,109
Expenses (21,394) (18,164) (61,158) (53,250)
Depreciation and amortization (5,294) (4,748) (15,440) (13,476)
-------- ---------- -------- ----------
Income from Rental Properties $ 24,141 $ 19,245 $ 68,490 $ 54,383
======== ========== ======== ==========
</TABLE>
/(1)/ Reclassified for comparison purposes. See Note 7 to the Financial
Statements.
/(2)/ Represents properties owned as of December 31, 1995.
12
<PAGE>
PROPERTY SERVICE BUSINESSES
Revenues, expenses and income from the various Property Service Businesses for
the three and nine months ended September 30, 1997 and 1996 were as follows (in
thousands):
<TABLE>
<CAPTION>
Three Months Ended September 30, Nine Months Ended September 30,
----------------------------------- -------------------------------
1997 1996 1997 1996
----------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Multifamily and Retail Property
Management Services
Revenues $ 2,489 $ 2,942 $ 7,763 $ 8,737
Expenses (2,227) (2,338) (7,159) (6,833)
-------- -------- -------- --------
Income before depreciation
and amortization $ 262 $ 604 $ 604 $ 1,904
======== ======== ======== ========
Interior Construction and Renovation
Services
Net fee revenues $ 2,000 $ 1,493 $ 4,626 $ 3,788
Expenses (1,433) (1,122) (4,049) (3,473)
-------- -------- -------- --------
Income before depreciation
and amortization $ 567 $ 371 $ 577 $ 315
======== ======== ======== ========
Engineering and Technical Services
(including reimbursed costs)
Revenues $ 12,982 $ 10,512 $ 36,913 $ 30,691
Expenses (12,060) (9,480) (34,007) (28,154)
-------- -------- -------- --------
Income before depreciation
and amortization $ 922 $ 1,032 $ 2,906 $ 2,537
======== ======== ======== ========
Financing Services
Revenues $ 704 $ 332 $ 996 $ 1,721
Expenses (206) (223) (577) (809)
-------- -------- -------- --------
Income before depreciation
and amortization $ 498 $ 109 $ 419 $ 912
======== ======== ======== ========
Total Property Service Businesses
Revenues $ 18,175 $ 15,279 $ 50,298 $ 44,937
Expenses (15,926) (13,163) (45,792) (39,269)
Depreciation and amortization (318) (319) (870) (879)
-------- -------- -------- --------
Income from Property
Service Businesses $ 1,931 $ 1,797 $ 3,636 $ 4,789
======== ======== ======== ========
</TABLE>
13
<PAGE>
RESULTS OF OPERATIONS
COMPARISON OF THREE MONTHS ENDED SEPTEMBER 30, 1997 TO THREE MONTHS ENDED
SEPTEMBER 30, 1996.
SUMMARY. Net income of the Operating Partnership increased $5.0 million, or
56.8%, from $8.8 million for the three months ended September 30, 1996 to $13.8
million for the three months ended September 30, 1997. Funds from Operations
("FFO") of the Operating Partnership increased $5.6 million, or 40.9%, from
$13.5 million to $19.1 million during the same period. Net income of the
Company increased from $2.9 million, or $0.29 per common share, for the three
months ended September 30, 1996 to $7.1 million, or $0.49 per common share, for
the three months ended September 30, 1997. FFO of the Company increased 60.0%,
from $6.1 million to $9.8 million during the same period. The increases in both
net income and FFO are primarily attributable to the acquisition of six
properties totaling 2,830 apartment units during 1996 and the first quarter of
1997. In addition, income from the core portfolio increased 5.5% over the prior
year period due primarily to increased rents and revenue initiatives.
RENTAL PROPERTIES. Revenue from all rental properties increased $8.6 million,
or 20.6%, from $42.2 million for the three months ended September 30, 1996 to
$50.8 million for the three months ended September 30, 1997. The six
acquisition and development properties (defined as properties acquired or
developed subsequent to December 31, 1995) contributed approximately 77%, or
$6.7 million, of the total rental revenue increase. Three of the acquisition
properties (comprising 1,002 apartment units) were acquired during 1996 and
three (comprising 1,828 units) were acquired in the first quarter of 1997. The
core portfolio revenue increased $1.8 million, or 4.8%, over the prior year
period. The retail portfolio revenue increased $0.2 million, or 6.9%, over the
prior year period.
Average monthly revenue per core apartment unit increased from $879 during the
third quarter of 1996 to $921 per unit during the third quarter of 1997
primarily due to rent increases. In addition, revenue-enhancing initiatives
such as the premium for month-to-month leases and the non-refundable move-in fee
generated approximately $0.4 million in revenue over the comparable prior year
period. Average economic occupancy for the core portfolio was 97.3% for the
three months ended September 30, 1997 compared to 97.2% for the comparable prior
year quarter.
Expenses (including depreciation) from all rental operations increased $3.8
million, or 16.5%, from $22.9 million during the third quarter of 1996 to $26.7
million during the current quarter. Approximately $3.4 million of the increase,
including depreciation expense of $0.7 million, resulted from the six properties
in the acquisition/development portfolio. Expenses for the core portfolio
increased $0.4 million, net of a $0.2 million decrease in depreciation expense,
due primarily to unusually low utility expenses in 1996 related to an
unseasonably cool summer.
PROPERTY SERVICE BUSINESSES. The Company uses the equity method of accounting
for investments in the Property Service Businesses.
14
<PAGE>
Income from the Property Service Businesses increased from $1.8 million in
the third quarter of 1996 to $1.9 million in the third quarter of 1997. This
was primarily due to 1) increased Financing Services revenue as a result of
debt refinancings during the quarter, 2) higher volume for Interior
Construction and Renovation Services partially offset by 3) lower management
fees related to the two properties acquired in February, 1997.
During the three months ended September 30, 1997, Interior Construction and
Renovation Services' net fee revenue increased $0.5 million while expenses
increased $0.3 million. The increase in fee revenue was due to the addition of
several higher margin tenant renovation projects during the quarter. The
increase in expenses was consistent with planned increases, primarily for
employee wages and benefits, to support revenue growth.
Revenues for Multifamily and Retail Property Management decreased $0.5 million
during the third quarter of 1997 as compared to the comparable prior year
quarter. Multifamily management fee revenue declined $0.3 million due primarily
to the February 1997 acquisition of two properties previously managed by the
Company as well as the Company's decision to terminate a third-party management
contract in January 1997. Retail services revenue decreased $0.2 million over
the prior year due to the high level of leasing fees earned in 1996 on a third-
party development project.
Engineering and Technical Services revenue increased $2.5 million, or 23.5%,
during the quarter while expenses increased $2.6 million, or 27.2%, primarily
due to new contracts for HVAC operations and maintenance. The decreased margin
in the current quarter is attributable to start-up costs associated with a large
new contract and higher marketing and promotion expenses during the quarter.
OTHER. Corporate general and administrative expenses increased 24.8% compared
to the prior year quarter due primarily to the addition in 1997 of acquisition
personnel dedicated to the expansion of the Company's acquisition and
development program outside of the Washington, D.C. metropolitan area to other
U.S. cities with strong urban multifamily markets. Interest expense decreased
$0.2 million during the quarter, or 2.0%, primarily due to capitalization of
interest associated with the Springfield Station development which is currently
funded with equity other than debt.
As a result of the follow-on equity offering completed during the first
quarter of 1997 (see LIQUIDITY AND CAPITAL RESOURCES), the original Minority
Interest deficit created at the initial public offering was eliminated.
Therefore, distributions to the Minority Interest which exceed allocated
earnings are no longer charged to the Company as General Partner of the
Operating Partnership but are charged directly against the Minority Interest.
Distributions in excess of earnings allocated to Minority Interest of $1.1
million for the three months ended September 30, 1996 have no effect on FFO.
COMPARISON OF NINE MONTHS ENDED SEPTEMBER 30, 1997 TO NINE MONTHS ENDED
SEPTEMBER 30, 1996.
15
<PAGE>
SUMMARY. Net income of the Operating Partnership increased $10.8 million, or
45.7%, from $23.8 million for the nine months ended September 30, 1996 to $34.6
million for the nine months ended September 30, 1997. Funds from Operations
("FFO") of the Operating Partnership increased $12.8 million, or 34.4%, from
$37.3 million to $50.1 million during the same period. Net income of the Company
increased from $6.0 million, or $.61 per common share, for the nine months ended
September 30, 1996 to $16.8 million, or $1.32 per common share, for the nine
months ended September 30, 1997. FFO of the Company increased 48.0%, from $16.8
million to $24.9 million during the same period. The increases in both net
income and FFO are primarily attributable to the acquisition of three apartment
properties during 1996 and three in the first quarter of 1997. In addition,
income from the core portfolio increased 6.7% over the prior year period due to
rent increases as well as expense savings. Higher interest expense and decreased
income from the Property Service Businesses partially offset these
increases.
RENTAL PROPERTIES. Revenue from all rental properties increased $24.0
million, or 19.8%, from $121.1 million for the nine months ended September 30,
1996 to $145.1 million for the nine months ended September 30, 1997. The six
acquisition and development properties (defined as properties acquired or
developed subsequent to December 31, 1995) contributed approximately 81%, or
$19.5 million, of the total rental revenue increase. The core portfolio
contributed $4.0 million of the increase in revenue, a 3.7% increase over the
prior year period.
Average monthly revenue per core apartment unit increased from $867 during the
first nine months of 1996 to $898 during the nine months ended September 30,
1997. Revenue-enhancing initiatives on core properties such as the premium for
month-to-month leases and the non-refundable move-in fee generated approximately
$1.0 million in revenue over the comparable prior year period. However, these
increases were partially offset by slightly lower occupancy during the first
quarter, particularly for furnished apartments at Gateway Place. Average
economic occupancy for the core portfolio was 96.8% for the nine months ended
September 30, 1997 compared to 97.0% for the comparable prior year period.
Expenses (including depreciation) from all rental operations increased $9.9
million, or 14.8%, from $66.7 million to $76.6 million during the nine months
ended September 30, 1996 and 1997, respectively. The six properties in the
acquisition/development portfolio contributed additional property operating
expenses of $8.2 million and depreciation expense of $2.3 million. Core expenses
were essentially unchanged due to a much milder winter in 1997 compared to 1996
which reduced repair and maintenance expenses.
PROPERTY SERVICE BUSINESSES. Income from the Property Service Businesses
decreased from $4.8 million during the nine months ended September 30, 1996 to
$3.6 million for the nine months ended September 30, 1997 due primarily to a
$0.7 million decrease in Financing Services revenue as well as a non-recurring
fee in 1996 of $0.6 million related to the termination of a management agreement
with a hotel owned by a related party. The decreases in 1997 were partially
offset by higher income for both Engineering and Technical Services and Interior
Construction and Renovation Services.
16
<PAGE>
Revenues for Multifamily and Retail Property Management decreased $1.0
million, or 11.1%, during the first nine months of 1997 compared to the prior
year period due primarily to the non-recurring fee of $0.6 million earned in
1996 in connection with the termination of a management agreement with a hotel
owned by a related party. In addition, revenue decreased due to the February
1997 acquisition of two properties previously managed by the Company.
During the nine months ended September 30, 1997, Interior Construction and
Renovation Services' net fee revenue increased $0.8 million, or 22% while
expenses increased 16.6% compared to the prior year period. The revenue
increase was due primarily to additional projects for affiliated partnerships as
well as several large general contracting projects for third party clients.
Expenses increased primarily due to planned increases in personnel and related
costs.
Engineering and Technical Services revenue increased $6.2 million, or 20.3%,
during the nine months ended September 30, 1997 with resulting increases over
the prior year period of 20.8% in expenses and 14.5% in income. New contracts
for HVAC operations and maintenance as well as significant additional work under
existing contracts contributed the majority of the increase.
OTHER. Corporate general and administrative expenses increased 18.5%, due
primarily to write-offs of capitalized costs for terminated acquisition projects
as well as the addition of acquisition personnel during the year. Interest
expense increased $1.4 million, or 4.4%, due to additional borrowings to fund
acquisitions and development.
Distributions in excess of earnings allocated to Minority Interest of $4.7
million for the nine months ended September 30, 1996 have no effect on FFO.
FUNDS FROM OPERATIONS. Funds from Operations is defined under the revised
definition adopted by the National Association of Real Estate Investment Trusts
(NAREIT) as net income (loss) (computed in accordance with generally accepted
accounting principles) excluding gains (or losses) from debt restructuring, and
distributions in excess of earnings allocated to Minority Interest, plus
depreciation/amortization of assets unique to the real estate industry.
Depreciation/amortization of assets not unique to the industry, such as
amortization of deferred financing costs and non-real estate assets, is not
added back. FFO does not represent cash flow from operating activities in
accordance with generally accepted accounting principles (which, unlike Funds
from Operations, generally reflects all cash effects of transactions and other
events in the determination of net income) and should not be considered an
alternative to net income as an indication of the Company's performance or to
cash flow as a measure of liquidity or ability to make distributions. The
Company considers FFO a meaningful, additional measure of operating performance
because it primarily excludes the assumption that the value of real estate
assets diminishes predictably over time, and because industry analysts have
accepted it as a performance measure. Comparison of the Company's presentation
of FFO, using the NAREIT definition, to similarly titled measures for other
REITs may not necessarily be meaningful due to possible differences in the
application of the NAREIT definition used by such REITs.
17
<PAGE>
Funds from Operations for the three and nine months ended September 30, 1997
and 1996 are computed as follows (in thousands):
<TABLE>
<CAPTION>
Three Months Ended September 30, Nine Months Ended September 30,
---------------------------------- ---------------------------------
1997 1996 1997 1996
--------------- ----------------- --------------- ----------------
<S> <C> <C> <C> <C>
Net Income of the
Operating Partnership $13,783 $ 8,791 $ 34,647 $23,783
Depreciation of Real Property 5,294 4,748 15,440 13,476
------- ------- -------- -------
Funds from Operations of the
Operating Partnership 19,077 13,539 50,087 37,259
Minority Interest (9,286) (7,418) (25,194) (20,440)
------- ------- ------- --------
Attributable to Shareholders $ 9,791 $ 6,121 $ 24,893 $16,819
======= ======= ======== =======
</TABLE>
LIQUIDITY AND CAPITAL RESOURCES
SUMMARY. Net cash flow provided by operating activities increased $14.3
million from $36.3 million for the nine months ended September 30, 1996 to $50.6
million for the nine months ended September 30, 1997. The increase is a result
of an additional $12.8 million of FFO of the Operating Partnership and an
increase of $2.6 million in accounts payable due primarily to property
acquisitions and accrued real estate taxes.
Despite an increase of approximately $80 million in acquisition and
development activity during the nine months ended September 30, 1997 versus the
prior year period, net cash flows used by investing activities decreased $27.3
million. A decrease of $39 million due to the funding of a substantial portion
of the 1997 property acquisitions through Operating Partnership unit exchanges
and debt assumption was partially offset by a $12 million increase related to
acquisition deposits and a short-term loan on a potential development project.
Net cash flows used by financing activities was $7.5 million for the nine
months ended September 30, 1997, comprised of $102.6 million of cash inflow from
common and preferred stock sales less $71.8 million of debt repayments and $37.7
million of dividends/distributions ($1.515 per share/unit). Net cash flows
provided by financing activities of $26.9 million in the comparable prior year
period primarily consisted of $60.2 million in borrowings less $32.2 million of
dividends/distributions ($1.47 per share/unit).
During the first quarter of 1997, the Company issued 3.1 million shares of
common stock in an equity offering at $28.375 per share resulting in proceeds of
$82.9 million, net of underwriting discounts and other expenses totaling $5.2
million. The Company repaid $72.1 million on the line of credit and $9.0 million
of mortgage debt. In May 1997, the Company entered into an agreement with
18
<PAGE>
a private investor to sell 2.6 million shares of Series A preferred stock for
$71.5 million. On June 30, 1997, the Company issued 0.7 million shares of Series
A preferred stock at $27.08 per share resulting in proceeds of $19.8 million,
net of underwriting discounts and other expenses totaling $0.2 million. The
Company repaid $20 million on the line of credit. The remainder of the Series A
preferred stock will be issued and sold in amounts determined by the Company on
or before May 1998.
In October 1997, the Company issued 1.45 million shares of common stock and
1.22 million shares of Series B preferred stock to a private investor for $76
million. The Company also acquired four multi-family properties in October 1997
- - three existing properties (1,208 apartment units) and one property under
construction (564 apartment units). The cost of the three existing properties
totaled $158.8 million and was comprised of Operating Partnership units ($14.1
million), assumed debt ($13.3 million) and cash ($131.4 million). The $17.5
million cost of the property under development was comprised of Operating
Partnership units ($13.9 million) and cash ($3.6 million). Management expects
to secure a construction loan to fund the estimated $47.5 million balance of
construction costs on this property.
DEBT
During the first quarter, the Company completed the acquisition of three
multifamily properties totaling 1,828 apartment units for a total cost of $129.1
million comprised of Operating Partnership Units ($47.1 million), assumed debt
($80.2 million) and cash ($1.8 million). One of the properties is subject to a
5.1% net profits interest in favor of an unaffiliated third party.
During the second quarter of 1997, the Company purchased for $9.1 million
approximately 17 acres of land and began development of a 630-unit mid-rise and
garden property in Springfield, Virginia. The total expected cost of the project
is approximately $60 million. Total capitalized cost as of September 30, 1997,
was approximately $14.7 million. Management expects to fund the remaining
development costs from either the line of credit or the preferred stock
agreement. Initial deliveries are scheduled for spring 1998 with final
completion expected by spring 1999.
In April 1997, the Company renegotiated the terms of its existing $100 million
line of credit. The revised line reduces by 38 to 65 basis points the current
spread over the London Interbank Offering Rate (LIBOR), based on the outstanding
balance and the value of the collateral. In addition, the maturity has been
extended until June 30, 2000 and several covenants in the agreement were
modified to provide the Company greater flexibility.
19
<PAGE>
As of September 30, 1997, the Company had mortgage indebtedness and other
borrowings, which carried a weighted average interest rate of 8%, as follows:
<TABLE>
<CAPTION>
Dollars in % of
Thousands Total
---------- ------
<S> <C> <C>
Mortgage debt:
Fixed rate $478,839 86.3%
Variable rate 8,103 1.5%
$100M Line of Credit (variable) 38,000 6.8%
$83M Line of Credit (fixed) 30,000 5.4%
-------- -----
$554,942 100.0%
======== =====
</TABLE>
As of September 30, 1997, the Company had $115 million of unused borrowing
capacity available on lines of credit and $51.5 million available under its
preferred stock agreement. Amounts outstanding under lines of credit averaged
$69.0 million for the nine months ended September 30, 1997 compared to $78.1
million for the nine months ended September 30, 1996.
As of September 30, 1997, the Company's Debt to Total Market Capitalization
Ratio was 37.2% (based on 13.4 million common shares, 0.7 million preferred
shares and 13.4 million partnership units outstanding at a stock price of $34)
versus 45.9% as of December 31, 1996 and 50.7% as of September 30, 1996. The
decreases are attributable to the 1997 equity offering, acquisitions funded via
Operating Partnership unit exchanges, and an increasing stock price. The
Company's Debt Coverage Ratio for the nine months ended September 30, 1997 was
2.66 to 1 compared to 2.33 for the comparable prior year period.
20
<PAGE>
CAPITAL EXPENDITURES
For the nine months ended September 30, 1997, total capital improvements were
$8.2 million, of which $6.9 million were for the core portfolio ($483 per unit).
Core portfolio capital expenditures per unit of $247 for the prior year period
were unusually low due to timing of projects many of which were completed in the
fourth quarter of 1996. Approximately 30.0% of the capital expenditures on the
core portfolio in 1997 are considered by management to be revenue generating or
economic improvements, as shown below, which the Company believes directly
affect its ability to increase rents. The remaining capital expenditures on the
core portfolio indirectly influence the Company's ability to increase rents and
are considered non-revenue generating. A summary of core capital expenditures
follows:
<TABLE>
<CAPTION>
Total $ Actual # of Average $ Per Average $ Per
Expenditure Type Spent Units Improved Unit Improved Core Unit
- ---------------- ------------- -------------- ------------- -------------
(in thousands)
<S> <C> <C> <C> <C>
Installations/Replacements:
Appliances $ 593 1,085 $ 547 $ 42
Carpet 90 73 1,233 6
Security gating 321 711 451 23
Other 100 122 820 7
Renovations:
Kitchen 636 154 4,130 44
Bath 321 270 1,189 23
------ ----
Total revenue generating
improvements 2,061 145
Non-revenue generating
improvements 4,794 338
------ ----
Total capital expenditures
- core portfolio $6,855 $483
====== ====
</TABLE>
21
<PAGE>
PART II
ITEM 1. LEGAL PROCEEDINGS
None
ITEM 2. CHANGES IN SECURITIES.
The Company amended the Articles of Incorporation (see Exhibit 4.1 in the
Report on Form 8-K dated October 3, 1997 and filed October 20, 1997) to
designate and establish the rights and privileges of the Series B Cumulative
Convertible Redeemable Preferred Stock ("Preferred Shares") and Series B
Cumulative Convertible Redeemable Preferred Units ("Preferred Units"),
respectively. Rights of Preferred Shareholders include voting, dividend and
liquidation preferences over the common shareholders.
On October 3, 1997, the Company issued 1,450,000 common shares and 1,216,666
shares of Series B Cumulative Convertible Redeemable Preferred Stock
(Preferred Shares), $0.01 par value (liquidation preference of $28.50 per
share) for a total of $76 million.
Dividends on the Preferred Shares are cumulative and are payable quarterly at
the greater of $2.02 per share or the rate declared on the shares of common
stock of the Company. No dividends will be declared or paid on any class of
common or other junior stock to the extent that dividends on Preferred Shares
have not been declared and/or paid. The Company, at its option, may redeem the
Preferred Shares for Common Stock. The investor may convert the Preferred
Shares into shares of Common Stock on a one-for-one basis subject to certain
adjustments and limitations related to its ownership of Common Stock.
The Company believes that such offering and sale was exempt from registration
under the Securities Act of 1933, as amended (the "Securities Act") by virtue
of Section 4(2) of the Securities Act and the provisions of Rule 506 of
Regulation D.
ITEM 3. DEFAULTS ON SENIOR SECURITIES.
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
22
<PAGE>
ITEM 5. OTHER INFORMATION.
None
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
None
(b) Reports on Form 8-K:
A Report on Form 8-K dated October 3, 1997 was filed on October 20, 1997 to
report the Company's acquisition of four apartment properties and the issuance
of $76 million of common and preferred stock. Historical and pro forma
financial statements for one of the acquired properties were included in the
filing.
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.
CHARLES E. SMITH RESIDENTIAL REALTY, INC.
November 10, 1997 By: /s/ W. D. Minami
-------------------------------------------------
W. D. Minami
Senior Vice President and Chief Financial Officer
of Charles E. Smith Residential Realty, Inc.
(on behalf of the Registrant and as Principal
Financial Officer)
/s/ Steven E. Gulley
-------------------------------------------------
Steven E. Gulley
Vice President and Chief Accounting Officer
of Charles E. Smith Residential Realty, Inc.
24
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-31-1997
<PERIOD-END> SEP-30-1997
<CASH> 5,216
<SECURITIES> 0
<RECEIVABLES> 0
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 15,892
<PP&E> 606,854
<DEPRECIATION> 0
<TOTAL-ASSETS> 679,468
<CURRENT-LIABILITIES> 14,458
<BONDS> 554,942
0
19,772
<COMMON> 135
<OTHER-SE> 34,734
<TOTAL-LIABILITY-AND-EQUITY> 679,468
<SALES> 0
<TOTAL-REVENUES> 145,088
<CGS> 0
<TOTAL-COSTS> 76,598
<OTHER-EXPENSES> 4,583
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 32,896
<INCOME-PRETAX> 34,647
<INCOME-TAX> 0
<INCOME-CONTINUING> 34,647
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 16,828
<EPS-PRIMARY> 1.32
<EPS-DILUTED> 1.32
</TABLE>
