Armada Hoffler Properties, Inc. - Quarter Report: 2016 March (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

 

☒QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended March 31, 2016

 

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: 001-35908

 

 

ARMADA HOFFLER PROPERTIES, INC.

(Exact Name of Registrant as Specified in its Charter)

 

 

 

(757) 366-4000

(Registrant’s Telephone Number, Including Area Code)

 

 

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     ◻  No

 

Indicate by check mark whether the Registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the Registrant was required to submit and post such files).    ☒  Yes     ◻  No

 

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

 

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    ◻  Yes     ☒  No

 

As of April 30, 2016, the Registrant had 31,310,075 shares of common stock outstanding.

 

 

 

ARMADA HOFFLER PROPERTIES, INC.

 

QUARTERLY REPORT ON FORM 10-Q

FOR THE QUARTER ENDED MARCH 31, 2016

 

Table of Contents

 

 

 

 

PART I. Financial Information

 

Item 1.Financial Statements

 

ARMADA HOFFLER PROPERTIES, INC.

Condensed Consolidated Balance Sheets

 

(In thousands, except par value and share data)

 

 

See Notes to Condensed Consolidated Financial Statements.

 

 

ARMADA HOFFLER PROPERTIES, INC.

Condensed Consolidated Statements of Comprehensive Income

 

(In thousands, except per share data)

(Unaudited)

 

 

See Notes to Condensed Consolidated Financial Statements.

 

 

ARMADA HOFFLER PROPERTIES, INC.

Condensed Consolidated Statement of Equity

 

(In thousands, except share data)

(Unaudited)

 

 

See Notes to Condensed Consolidated Financial Statements.

 

 

ARMADA HOFFLER PROPERTIES, INC.

Condensed Consolidated Statements of Cash Flows

 

(In thousands)

(Unaudited)

 

 

See Notes to Condensed Consolidated Financial Statements.

ARMADA HOFFLER PROPERTIES, INC.

Notes to Condensed Consolidated Financial Statements

 

(Unaudited)

 

1.Business and Organization

 

Armada Hoffler Properties, Inc. (the “Company”) is a full service real estate company with extensive experience developing, building, owning and managing high-quality, institutional-grade office, retail and multifamily properties in attractive markets throughout the Mid-Atlantic United States. The Company is the sole general partner of Armada Hoffler, L.P. (the “Operating Partnership”). The operations of the Company are carried on primarily through the Operating Partnership and the wholly owned subsidiaries of the Operating Partnership. Both the Company and the Operating Partnership were formed on October 12, 2012 and commenced operations upon completion of the underwritten initial public offering of shares of the Company’s common stock and certain related formation transactions on May 13, 2013.

 

As of March 31, 2016, the Company owned 100% of the interests in, and consolidated for financial reporting purposes, each of the following properties in its operating property portfolio:

 

 

 

*Located in the Town Center of Virginia Beach

** Acquired as part of eleven asset portfolio on January 14, 2016

 

 

 

As of March 31, 2016, the following properties that the Company consolidates for financial statement purposes were under development or construction:

 

 

The Company owns a 60% controlling financial interest in Lightfoot Marketplace. Subject to the occurrence of certain events, the Company’s ownership interest in Lightfoot Marketplace may increase to 70%. The Company owns an 80% controlling financial interest in Johns Hopkins Village. The noncontrolling interest holder of Johns Hopkins Village has the right to exchange its 20% ownership interest for Class A units of limited partnership interest in the Operating Partnership (“Class A Units”) upon and for a period of one year after the project’s completion.  The Company owns a 65% controlling interest in Brooks Crossing.

 

Please see Note 4 for the Company’s investment in Durham City Center II, LLC, which is an unconsolidated subsidiary that the Company accounts for using the equity method of accounting.

 

2.Summary of Significant Accounting Policies

 

Basis of Presentation

 

The accompanying condensed consolidated financial statements were prepared in accordance with accounting principles generally accepted in the United States (“GAAP”).

 

The condensed consolidated financial statements include the financial position and results of operations of the Company, the Operating Partnership and its wholly owned subsidiaries. Although the Company has interests in variable interest entities, it is not the primary beneficiary, with the exception of the Operating Partnership (see Note 7), as the Company does not have any elements of power in the decision making process of these entities, and therefore does not consolidate the entities. All significant intercompany transactions and balances have been eliminated in consolidation.

 

In the opinion of management, the condensed consolidated financial statements reflect all adjustments, consisting of normal recurring accruals, which are necessary for the fair presentation of the financial condition and results of operations for the interim periods presented.

 

The accompanying condensed consolidated financial statements were prepared in accordance with the requirements for interim financial information. Accordingly, these interim financial statements have not been audited and exclude certain disclosures required for annual financial statements. Also, the operating results presented for interim periods are not necessarily indicative of the results that may be expected for any other interim period or for the entire year. These interim financial statements should be read in conjunction with the audited consolidated financial statements of the Company included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2015.

 

Use of Estimates

 

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported and disclosed. Such estimates are based on management’s historical experience and best judgment after considering past, current and expected events and economic conditions. Actual results could differ from management’s estimates.

 

Significant Accounting Policies

 

The accompanying condensed consolidated financial statements were prepared on the basis of the accounting principles described in the Company’s Annual Report on Form 10-K for the year ended December 31, 2015, among others.

 

Recent Accounting Pronouncements

 

On May 28, 2014, the Financial Accounting Standards Board (“FASB”) issued a new standard that provides a single, comprehensive model for recognizing revenue from contracts with customers. The new standard could change the way the Company recognizes revenue from construction and development contracts with third party customers. The new standard will be effective for the Company on January 1, 2018. Management is currently evaluating the potential impact of the new revenue recognition standard on the Company’s consolidated financial statements. On March 17, 2016, the FASB issued guidance to clarify the principal versus agent guidance in its new revenue recognition standard.  The new guidance clarifies how an entity should identify the unit of accounting for the principal versus agent evaluation and how it should apply the control principle to certain types of arrangement, such as service transactions.  The new guidance also reframes the indicators to focus on evidence that an entity is acting as a principal rather than as an agent, revises examples in the new standard and adds new ones. The new guidance is effective for the Company on January 1, 2017.  Management is currently evaluating the potential impact of the new guidance on the Company’s consolidated financial statements.

 

On February 18, 2015, the FASB issued new consolidation guidance that changes: (i) the identification of variable interests, (ii) the variable interest entity (“VIE”) characteristics for a limited partnership or similar entity and (iii) primary beneficiary determination. The amended guidance also eliminates the presumption that a general partner controls a limited partnership. The Company adopted the guidance on January 1, 2016 with no material impact on the Company’s consolidated financial statements.

 

 

 

On February 25, 2016, the FASB issued a new lease standard that requires lessees to recognize most leases in their balance sheets as lease liabilities with corresponding right-of-use assets. The new standard also makes targeted changes to lessor accounting. The new standard will be effective for the Company on January 1, 2019 and requires a modified retrospective transition approach for all lease existing at, or entered into after, the date of initial application with an option to use certain transition relief. Management is currently evaluating the potential impact of the new lease standard on the Company’s consolidated financial statements.

 

On March 10, 2016, the FASB issued new guidance clarifying that the novation of a derivative contract in a hedge accounting relationship does not, in and of itself, require dedesignation of that hedge accounting relationship.  Hedge accounting relationships could continue as long as all of the other hedge accounting criteria are met, including the expectation that the hedge will be highly effective when the creditworthiness of the new counterparty

to the derivative contract is considered. The new guidance will be effective for the Company on January 1, 2017, and may be applied prospectively, or the Company may use a modified retrospective approach. Management does not expect the adoption of the new guidance to have a material effect on the Company’s financial position or results of operations.

 

On March 17, 2016, the FASB issued new guidance eliminating the requirement that an investor retrospectively apply equity method accounting when an investment that it had accounted for by another method initially qualifies for the equity method. The new guidance is effective for the Company on January 1, 2017.  Management is currently evaluating the potential impact of the new guidance on the Company’s consolidated financial statements.

 

On March 30, 2016, the FASB issued new guidance that will change the accounting for certain aspects of share-based payments to employees.  Entities will be required to recognize the income tax effects of awards in the income statement when the awards vest or are settled.  The new guidance is effective for the Company on January 1, 2017.  Management is currently evaluating the potential impact of the new guidance on the Company’s consolidated financial statements.

 

 

3.Segments

 

Net operating income (segment revenues minus segment expenses) is the measure used by the Company’s chief operating decision-maker to assess segment performance. Net operating income is not a measure of operating income or cash flows from operating activities as measured by GAAP and is not indicative of cash available to fund cash needs. As a result, net operating income should not be considered an alternative to cash flows as a measure of liquidity. Not all companies calculate net operating income in the same manner. The Company considers net operating income to be an appropriate supplemental measure to net income because it assists both investors and management in understanding the core operations of the Company’s real estate and construction businesses.

 

Net operating income of the Company’s reportable segments for the three months ended March 31, 2016 and 2015 was as follows (in thousands):

 

 

General contracting and real estate services revenues for the three months ended March 31, 2016 exclude revenue related to intercompany construction contracts of $15.0 million. General contracting and real estate services expenses for the three months ended March 31, 2016 exclude expenses related to intercompany construction contracts of $14.8 million. General contracting and real estate services expenses for the three months ended March 31, 2016 include noncash stock compensation expense of less than $0.2 million.

 

General contracting and real estate services revenues for the three months ended March 31, 2015 exclude revenue from intercompany construction contracts of $8.5 million. General contracting and real estate services expenses for the three months ended March 31, 2015 exclude expenses for intercompany construction contracts of $8.4 million. General contracting and real estate services expenses for the three months ended March 31, 2015 include noncash stock compensation expense of less than $0.1 million.

 

The following table reconciles net operating income to net income for the three months ended March 31, 2016 and 2015 (in thousands):

 

 

General and administrative expenses for the three months ended March 31, 2016 include noncash stock compensation expense of $0.3 million. General and administrative expenses for the three months ended March 31, 2015 include noncash stock compensation expense of $0.3 million.

 

4.Real Estate Investments

 

Operating Property Acquisitions

 

In connection with operating property acquisitions, the Company identifies and recognizes all assets acquired and liabilities assumed at their estimated fair values as of the acquisition date. The purchase price allocations to tangible assets, such as land, site improvements, and buildings and improvements, are presented within income producing property in the condensed consolidated balance sheet and depreciated over their estimated useful lives. Acquired lease intangibles are presented within other assets and liabilities in the condensed consolidated balance sheet and amortized over their respective lease terms. The Company expenses all costs incurred related to operating property acquisitions. The Company values land based on a market approach, looking to recent sales of similar properties, adjusting for differences due to location and the state of entitlement as well as the shape and size of the parcel. Improvements to land are valued using a replacement cost approach, which applies industry standard replacement costs adjusted for geographic specific considerations and reduced by estimated depreciation. The value of buildings acquired is estimated using the replacement cost approach, assuming the buildings were vacant at acquisition. The replacement cost approach considers the composition of the structures acquired, adjusted for an estimate of depreciation. The estimate of depreciation is made considering industry standard information and depreciation curves for the identified asset classes. The value of acquired lease intangibles considers the estimated cost of leasing the properties as if the acquired buildings were vacant, as well as the value of the current leases relative to market-rate leases. The in-place lease value is determined using an estimated total lease-up time and lost rental revenues during such time. The value of current leases relative to market-rate leases is based on market rents obtained for comparable assets in the applicable markets. Given the significance of unobservable inputs used in the valuation of acquired real estate assets, the Company classifies them as Level 3 inputs in the fair value hierarchy.

 

On January 14, 2016, the Company completed the acquisition of an eleven asset retail portfolio totaling 1.1 million square feet for a gross purchase price of $170.5 million, less normal closing adjustments.

 

The following table summarizes the acquisition date preliminary fair values of the assets acquired and liabilities assumed during the three months ended March 31, 2016 (in thousands):

 

 

The following table summarizes the consolidated results of operations of the Company on a pro forma basis, as if the retail portfolio acquisition had occurred on January 1, 2015 (in thousands):

 

 

The pro forma financial information is presented for informational purposes only and is not indicative of the results of operations that would have been achieved if the acquisition had taken place on January 1, 2015. The pro forma financial information includes adjustments to rental revenues for above and below-market leases and adjustments to depreciation and amortization expense for acquired property and in-place lease assets.

 

Rental revenues and net income from the acquired properties for the period from the respective acquisition date to March 31, 2016 included in the consolidated statement of comprehensive income was $3.6 million and $0.4 million, respectively.

 

Subsequent to March 31, 2016

 

On April 29, 2016, the Company completed the acquisition of Southgate Square, located in Colonial Heights, Virginia, for aggregate consideration of $38.6 million, comprised the assumption of $21.1 million in debt and 1,575,185 Class A Units. The Company has not yet completed its purchase price allocation of Southgate Square.

 

Investment in Unconsolidated Entities

 

On Feburary 25, 2016, the Company acquired a 37% interest in Durham City Center II, LLC (“City Center”) for purposes of developing a 22-story mixed use tower in Durham, North Carolina.  As of March 31, 2016, the Company has invested $6.9 million in City Center. The Company has agreed to guarantee 37% of the construction loan for City Center, however the loan is collateralized by 100% of the assets of City Center.  As of March 31, 2016, the construction loan has not been drawn against. In the event that the Company’s joint venture partner does not contribute its required equity, the Company has committed to providing $4.0 million to eliminate any shortfall.

 

As of March 31, 2016, the difference between the carrying value of the Company’s initial investment in City Center and the amount of underlying equity was immaterial. For the three months ended March 31, 2016, City Center did not have any operating activity, and therefore we did not receive any dividends or allocated income. 

 

Based on the terms of City Center’s operating agreement, the Company does not have the power to direct the activities of the project that most significantly impact its performance.  Therefore, the Company is not the project’s primary beneficiary.

 

The Company holds a note receivable for the Point Street Apartments project, which was entered into in October 2015.  The Company has agreed to fund up to $23.0 million for this project. The balance of the note receivable was $10.4 and $7.8 million as of March 31, 2016 and December 31, 2015, respectively. During the three months ended March 31, 2016, the Company recognized $0.2 million of interest income on the note.  No portion of the note receivable balance is past due and the Company has not recorded an impairment balance on the note. 

 

Real Estate Dispositions

 

On November 2, 2015, the Company entered into an agreement to sell the Richmond Tower office building for $78.0 million. The Company completed the disposition on January 8, 2016.  Net proceeds after transaction costs were $77.0 million. The gain on the disposition of Richmond Tower was $26.2 million.

 

On January 7, 2016, the Company completed the sale of a building constructed for the Economic Development Authority of Newport News, Virginia.  Net proceeds after transaction costs were $6.6 million.  The gain on the disposition was $0.4 million.

 

During the three months ended March 31, 2016, the Company placed the Oyster Point office property in real estate investments held for sale. 

 

 

 

Subsequent to March 31, 2016

 

On April 19, 2016, the Company agreed to the future sale of the Willowbrook Commons property located in Nashville, Tennessee for $9.3 million.  The closing of the sale is subject to customary closing conditions, including completion of the buyer’s due diligence.

 

On April 29, 2016, the Company agreed to the future sale of the Oakland Marketplace property located in Oakland, Tennessee for $5.4 million.  The closing of the sale is subject to customary closing conditions, including completion of the buyer’s due diligence.

 

On April 29, 2016, the Company agreed to the future sale of the Broadmoor Plaza property located in Nashville, Tennessee for $13.6 million.  The closing of the sale is subject to customary closing conditions, including completion of the buyer’s due diligence.

 

Annapolis Junction Town Center

 

On April 21, 2016, the Company invested $42.0 million in the Annapolis Junction Town Center project in Annapolis Junction, Maryland (“Annapolis Junction”). Annapolis Junction is an estimated $102.0 million mixed-use development project with plans for 416 residential units, 17,000 square feet of retail space and a 150-room hotel. Annapolis Junction Apartments Owner, LLC (“AJAO”) is the developer of the project and has engaged the Company to serve as construction general contractor. Annapolis Junction is scheduled to open in 2018; however, management can provide no assurances that Annapolis Junction will open on the anticipated timeline.

 

AJAO is responsible for securing a senior construction loan of up to $60.0 million to fund the development and construction of Annapolis Junction. The Company has agreed to guarantee up to $25.0 million of the senior construction loan in exchange for the option to purchase up to an 88% controlling interest in Annapolis Junction upon completion of the project as follows: (i) an option to purchase a 80% indirect interest in Annapolis Junction for the lesser of the seller’s budgeted or actual cost, exercisable within one year from the project’s completion (the “First Option”) and (ii) provided that the Company has exercised the First Option, an option to purchase an additional 8% indirect interest in Annapolis Junction for the lesser of the seller’s actual or budgeted cost, exercisable within 27 months from the project’s completion (the “Second Option”).

 

The Company’s investment in the Annapolis Junction project is in the form of a loan under which AJAO may borrow up to $42.0 million (the “AJAO loan”). Interest on the AJAO loan accrues at 10.0% per annum and matures on the earlier of: (i) December 21, 2020, which may be extended by AJAO under two one-year extension options, (ii) the

maturity date or earlier termination of the senior construction loan or (iii) the date the Company exercises the Second Option as described further below.

In the event that the Company exercises the First Option, AJAO is required to simultaneously pay down the senior construction loan and the AJAO loan by 80%, at which time the interest rate on the AJAO loan will automatically be reduced to the interest rate on the senior construction loan. In the event the Company exercises the Second Option, AJAO is required to simultaneously repay any remaining amounts outstanding under the AJAO loan, with any excess proceeds received from the exercise of the Second Option applied against the remaining balance of the senior construction loan. In the event that the Company does not exercise either the First Option or the Second Option, the interest rate on the AJAO loan will automatically be reduced to the interest rate on the senior construction loan for the remaining term of the AJAO loan.

 

 

 

 

5.Indebtedness

 

Credit Facility

 

On February 20, 2015, the Operating Partnership, as borrower, and the Company, as parent guarantor, entered into a new $200.0 million senior unsecured credit facility that includes a $150.0 million senior unsecured revolving credit facility and a $50.0 million senior unsecured term loan facility. The new credit facility replaced the prior $155.0 million senior secured revolving credit facility that was scheduled to mature on May 13, 2016. On February 20, 2015, the Operating Partnership borrowed $54.0 million under the revolving credit facility and $50.0 million under the term loan facility to repay in full all outstanding amounts due under the prior credit facility and to repay approximately $39.0 million of other indebtedness secured by the following properties in the Company’s portfolio: (i) Broad Creek Shopping Center, (ii) Commerce Street Retail, (iii) Dick’s at Town Center, (iv) Hanbury Village, (v) Studio 56 Retail and (vi) Tyre Neck Harris Teeter. The Company recognized a $0.2 million loss on extinguishment of debt representing the unamortized debt issuance costs associated with the $39.0 million of other indebtedness repaid on February 20, 2015. During the first quarter of 2016, the total capacity was increased to $250.0 million, pursuant to the accordion feature of the credit facility.

 

Depending on the Operating Partnership’s total leverage, the revolving credit facility bears interest at LIBOR plus 1.40% to 2.00% and the term loan facility bears interest at LIBOR plus 1.35% to 1.95%. As of March 31, 2016, the interest rates on the revolving credit facility and the term loan facility were 1.99% and 1.94%, respectively. The revolving credit facility has a scheduled maturity date of February 20, 2019, with a one-year extension option, subject to certain conditions, and the term loan facility has a scheduled maturity date of February 20, 2020. The Operating Partnership may, at any time, voluntarily prepay any loan under the new credit facility in whole or in part without premium or penalty.

 

On February 25, 2016, the Company amended the credit facility to, among other things, allow the maximum leverage ratio of the Company to be increased to 65% for the two consecutive quarters following any acquisition that is equal to or greater than 10% of the Company’s total asset value (as defined in the credit agreement), but only up to two times during the term of the credit facility.

 

During the first quarter of 2016, the Company increased the borrowings under the senior unsecured term loan facility to $100.0 million.

 

As of March 31, 2016, the outstanding balances on the revolving credit facility and the term loan facility were $101.0 million and $100.0 million, respectively.

 

Other Financing Activity

 

During the three months ended March 31, 2016, the Company borrowed $13.7 million under its construction loans to fund new development and construction.

  Subsequent to March 31, 2016

On April 20, 2016, the Company increased its borrowings on the revolving credit facility by $26.0 million.

 

 

 

 

6. Derivative Financial Instruments

 

The Company may enter into interest rate derivative contracts to manage exposure to interest rate risks. The Company does not use derivative financial instruments for trading or speculative purposes. Derivative financial instruments are recognized at fair value and presented within other assets and liabilities in the condensed consolidated balance sheets. Gains and losses resulting from changes in the fair value of derivatives that are neither designated nor qualify as hedging instruments are recognized within the change in fair value of interest rate derivatives in the condensed consolidated statements of comprehensive income. For derivatives that qualify as cash flow hedges, the effective portion of the gain or loss is reported as a component of other comprehensive loss and reclassified into earnings in the periods during which the hedged forecasted transaction affects earnings.

 

On February 25, 2016, the Operating Partnership entered into a LIBOR interest rate cap agreement on a notional amount of $75.0 million at a strike rate of 1.50% for a premium of less than $0.1 million.  The interest rate cap agreement expires on March 1, 2018.

 

The Company’s derivatives were comprised of the following as of March 31, 2016 and December 31, 2015 (in thousands):

 

 

The changes in the fair value of the Company’s derivatives during the three months ended March 31, 2016 and 2015 were comprised of the following (in thousands):

 

 

Effective March 31, 2016, the Company determined that the short-cut method of hedge accounting was not appropriate for two of its interest-rate swaps and, for accounting purposes, the hedge relationship was terminated. The swaps were entered into in February and July 2015. Accordingly, changes in fair value of the swap should have been recorded in income rather than other comprehensive income. The Company determined that the errors were immaterial

to all previously issued financial statements. The Company recognized $0.7 million of accumulated other comprehensive income and $0.4 million, which was previously allocated to noncontrolling interest as of December 31, 2015, in earnings during the first quarter of 2016. Subsequent changes in the value of the interest rate swap for the period January 1, 2016 to March 31, 2016 were also recognized in earnings during the first quarter of 2016. Net income for the three months ended March 31, 2015 was overstated by $0.8 million. In reaching its conclusions, management considered the nature of the error, the effect of the error on operating results for 2015, and the effects of the error on important financial statement measures, including related trends.   

 

7.Equity

 

Stockholders’ Equity

 

 

 

On May 5, 2015, the Company commenced an at-the-market continuous equity offering program (the “ATM Program”) through which the Company may, from time to time, issue and sell shares of its common stock having an aggregate offering price of up to $50.0 million. During the three months ended March 31, 2016, the Company issued and sold an aggregate of 937,404 shares of common stock at a weighted average price of $10.76 per share. Net proceeds to the Company after offering costs and commissions were $9.8 million.

 

As of March 31, 2016 and December 31, 2015, the Company’s authorized capital was 500 million shares of common stock and 100 million shares of preferred stock. The Company had 31.1 million and 30.1 million shares of common stock issued and outstanding as of March 31, 2016 and December 31, 2015, respectively. No shares of preferred stock were issued and outstanding as of March 31, 2016 or December 31, 2015.

 

Noncontrolling Interests

 

As of March 31, 2016 and December 31, 2015, the Company held a 66.4% and 65.6% interest in the Operating Partnership, respectively. The Company is the primary beneficiary of the Operating Partnership as it has the power to direct the activities of the Operating Partnership and the rights to absorb 66.4% of the net income of the Operating Partnership. As the primary beneficiary, the Company consolidates the financial position and results of operations of the Operating Partnership. Noncontrolling interests in the Company represent units of limited partnership interest not held by the Company.

 

As of March 31, 2016, there were 14,751,986 Class A Units not held by the Company.

 

As partial consideration for Columbus Village, the Operating Partnership issued 1,000,000 Class B Units on July 10, 2015 and agreed to issue 275,000 Class C Units on January 10, 2017. Subject to the occurrence of certain events, the Class B Units and Class C Units will not earn or accrue distributions until July 10, 2017 and January 10, 2018, respectively, at which time each automatically will convert to Class A Units.

 

Common Stock Dividends and Class A Unit Distributions

 

On January 7, 2016, the Company paid cash dividends of $5.1 million to common stockholders and the Operating Partnership paid cash distributions of $2.5 million to holders of Class A Units.

 

On January 31, 2016, the Board of Directors declared a cash dividend of $0.18 per share payable on April 7, 2016 to stockholders of record on March 30, 2016.

 

Subsequent to March 31, 2016

On April 7, 2016, the Company paid cash dividends of $5.6 million to common stockholders and the Operating Partnership paid cash distributions of $2.7 million to holders of Class A Units.

From April 1, 2016 to April 14, 2016, the Company issued and sold an aggregate of 215,515 shares of common stock under the ATM Program at a weighted average price of $11.35 per share. Net proceeds to the Company after offering costs and commissions were $2.4 million.

On May 2, 2016, the Board of Directors declared a cash dividend of $0.18 per share payable on July 7, 2016 to stockholders of record on June 29, 2016.

 

8.Stock-Based Compensation

 

During the three months ended March 31, 2016, the Company granted an aggregate of 100,710 shares of restricted stock to employees and non-employee directors with a weighted average grant date fair value of $10.84 per share. Employee restricted stock awards generally vest over a period of two years: one-third immediately on the grant date and the remaining two-thirds in equal amounts on the first two anniversaries following the grant date, subject to continued service to the Company. Non-employee director restricted stock awards vest either immediately upon grant or over a period of one year, subject to continued service to the Company.

 

On January 1, 2016, the Company established its Long Term Incentive Plan (“LTIP”) and entered into agreements with certain of its employees to issue performance-based awards in the form of restricted stock units.  The performance period for these agreements is three years, with a required two-year service period immediately following the performance period. The compensation expense and the effect on the Company’s weighted average diluted shares calculation were immaterial.

During the three months ended March 31, 2016, the Company recognized $0.6 million of stock-based compensation expense. During the three months ended March 31, 2015, the Company recognized $0.6 million of stock-based compensation expense. As of March 31, 2016, there were 111,673 nonvested restricted shares outstanding; the total unrecognized compensation expense related to nonvested restricted shares was $0.8 million, which the Company expects to recognize over the next 24 months.

 

 

 

9. Fair Value of Financial Instruments

 

Fair value measurements are based on assumptions that market participants would use in pricing an asset or a liability. The hierarchy for inputs used in measuring fair value is as follows:

 

Level 1—quoted prices in active markets for identical assets or liabilities

 

Level 2—observable inputs other than quoted prices in active markets for identical assets and liabilities

 

Level 3—unobservable inputs

 

Except as disclosed below, the carrying amounts of the Company’s financial instruments approximate their fair value. Financial assets and liabilities whose fair values are measured on a recurring basis using Level 2 inputs consist of interest rate swaps and caps. The Company measures the fair values of these assets and liabilities based on prices provided by independent market participants that are based on observable inputs using market-based valuation techniques.

 

In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. For disclosure purposes, the level within which the fair value measurement is categorized is based on the lowest level input that is significant to the fair value measurement.

 

The fair value of the Company’s long term debt is sensitive to fluctuations in interest rates. Discounted cash flow analysis based on Level 2 inputs is generally used to estimate the fair value of the Company’s long term debt.

 

Considerable judgment is used to estimate the fair value of financial instruments. The estimates of fair value presented herein are not necessarily indicative of the amounts that could be realized upon disposition of the financial instruments.

 

The carrying amounts and fair values of the Company’s financial instruments, all of which are based on Level 2 inputs, as of March 31, 2016 and December 31, 2015, were as follows (in thousands):

 

 

 

 

10.Related Party Transactions

 

The Company provides general contracting and real estate services to certain related party entities that are not included in these condensed consolidated financial statements. Revenue from construction contracts with related party entities of the Company was $6.5 million for the three months ended March 31, 2016. Gross profit from such contracts was less than $0.3 million for the three months ended March 31, 2016. Revenue from construction contracts with related party entities of the Company was $1.5 million for the three months ended March 31, 2015. Gross profit from such contracts was less than $0.1 million for the three months ended March 31, 2015. Real estate services fees from affiliated entities of the Company were not significant for either the three months ended March 31, 2016 or 2015. In addition, affiliated entities also reimburse the Company for monthly maintenance and facilities management services provided to the properties. Cost reimbursements earned by the Company from affiliated entities were not significant for either the three months ended March 31, 2016 or 2015. 

 

The Operating Partnership entered into tax protection agreements that indemnify certain directors and executive officers of the Company from their tax liabilities resulting from the potential future sale of certain of the Company’s properties within seven (or, in a limited number of cases, ten) years of the completion of the Company’s initial public offering and formation transactions completed on May 13, 2013. In addition, the tax protection agreements provide that the Operating Partnership will offer certain of the original contributors, including certain of the Company’s directors and executive officers, the opportunity to guarantee debt, or, alternatively, to enter into a deficit restoration obligation, for ten years from the closing of the Company’s initial public offering in a manner intended to provide an allocation of Operating Partnership liabilities to the partner for federal income tax purposes. Pursuant to these tax protection agreements, certain of the Company’s executive officers have guaranteed $0.3 million of the Operating Partnership’s outstanding debt as of March 31, 2016.

In addition, the loan for the City Center joint venture is underwritten by a syndicate which includes Park Sterling Bank.  The Chief Executive Officer of Park Sterling Bank is the Chairman of the Company’s Audit Committee.

 

 

 

11. Commitments and Contingencies

 

Legal Proceedings

 

The Company is from time to time involved in various disputes, lawsuits, warranty claims, environmental and other matters arising in the ordinary course of business. Management makes assumptions and estimates concerning the likelihood and amount of any potential loss relating to these matters.

 

The Company currently is a party to various legal proceedings, none of which management expects will have a material adverse effect on the Company’s financial position, results of operations or liquidity. Management

accrues a liability for litigation if an unfavorable outcome is determined to be probable and the amount of loss can be reasonably estimated. If an unfavorable outcome is determined to be probable and a range of loss can be reasonably estimated, management accrues the best estimate within the range; however, if no amount within the range is a better estimate than any other, the minimum amount within the range is accrued. Legal fees related to litigation are expensed as incurred. Management does not believe that the ultimate outcome of these matters, either individually or in the aggregate, could have a material adverse effect on the Company’s financial position or results of operations; however, litigation is subject to inherent uncertainties.

 

Under the Company’s leases, tenants are typically obligated to indemnify the Company from and against all liabilities, costs and expenses imposed upon or asserted against it as owner of the properties due to certain matters relating to the operation of the properties by the tenant.

 

Commitments

 

The Company has a bonding line of credit for its general contracting construction business and is contingently liable under performance and payment bonds, bonds for cancellation of mechanics liens and defect bonds. Such bonds collectively totaled $183.1 million and $183.0 million as of March 31, 2016 and December 31, 2015, respectively.

 

The Operating Partnership has entered into standby letters of credit using the available capacity under the credit facility. The letters of credit relate to the guarantee of future performance on certain of the Company’s construction contracts. Letters of credit generally are available for draw down in the event the Company does not perform. As of March 31, 2016 and December 31, 2015, the Operating Partnership had total outstanding letters of credit of $8.0 million and $8.0 million, respectively.

 

Subsequent to March 31, 2016

 

In April 2016, the total outstanding letters of credit were reduced to $2.0 million.

 

 

Review Report of Independent Registered Public Accounting Firm

 

Board of Directors and Stockholders of

 

Armada Hoffler Properties, Inc.

 

We have reviewed the condensed consolidated balance sheet of Armada Hoffler Properties, Inc. as of March 31, 2016, and the related condensed consolidated statements of comprehensive income and cash flows for the three-month periods ended March 31, 2016 and 2015, and the condensed consolidated statement of equity for the three-month period ended March 31, 2016. These financial statements are the responsibility of the Company’s management.

 

We conducted our review in accordance with the standards of the Public Company Accounting Oversight Board (United States). A review of interim financial information consists principally of applying analytical procedures and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with the standards of the Public Company Accounting Oversight Board (United States), 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 condensed consolidated financial statements referred to above for them to be in conformity with U.S. generally accepted accounting principles.

 

We have previously audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheet of Armada Hoffler Properties, Inc. as of December 31, 2015, and the related consolidated statements of comprehensive income, equity, and cash flows for the year then ended (not presented herein) and we expressed an unqualified audit opinion on those consolidated financial statements in our report dated March 2, 2016. In our opinion, the accompanying condensed consolidated balance sheet as of December 31, 2015, is fairly stated, in all material respects, in relation to the consolidated balance sheet from which it has been derived.

 

/s/ Ernst & Young LLP

 

Richmond, Virginia

 

May 4, 2016

 

 

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

References to “we,” “our,” “us,” and “our company” refer to Armada Hoffler Properties, Inc., a Maryland corporation, together with our consolidated subsidiaries, including Armada Hoffler, L.P., a Virginia limited partnership (the “Operating Partnership”), of which we are the sole general partner. The following discussion should be read in conjunction with the financial statements and notes thereto appearing elsewhere in this report.

 

Forward-Looking Statements

 

This report contains forward-looking statements within the meaning of the federal securities laws. We caution investors that any forward-looking statements presented in this report, or which management may make orally or in writing from time to time, are based on beliefs and assumptions made by, and information currently available to, management. When used, the words “anticipate,” “believe,” “expect,” “intend,” “may,” “might,” “plan,” “estimate,” “project,” “should,” “will,” “result” and similar expressions, which do not relate solely to historical matters, are intended to identify forward-looking statements. Such statements are subject to risks, uncertainties and assumptions and are not guarantees of future performance, which may be affected by known and unknown risks, trends, uncertainties and factors that are beyond our control. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results may vary materially from those anticipated, estimated or projected. We caution you that while forward-looking statements reflect our good faith beliefs when we make them, they are not guarantees of future performance and are impacted by actual events when they occur after we make such statements. We expressly disclaim any responsibility to update forward-looking statements, whether as a result of new information, future events or otherwise, except as required by law. Accordingly, investors should use caution in relying on past forward-looking statements, which are based on results and trends at the time they are made, to anticipate future results or trends.

 

Forward-looking statements involve numerous risks and uncertainties and you should not rely on them as predictions of future events. Forward-looking statements depend on assumptions, data or methods which may be incorrect or imprecise and we may not be able to realize them. We do not guarantee that the transactions and events described will happen as described (or that they will happen at all). The following factors, among others, could cause actual results and future events to differ materially from those set forth or contemplated in the forward-looking statements:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

While forward-looking statements reflect our good faith beliefs, they are not guarantees of future performance. We disclaim any obligation to publicly update or revise any forward-looking statement to reflect changes in underlying assumptions or factors, of new information, data or methods, future events or other changes after the date of this Quarterly Report on Form 10-Q, except as required by applicable law. We caution investors not to place undue reliance on these forward-looking statements and urge investors to carefully review the disclosures we make concerning risks and uncertainties in the sections entitled “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our most recent Annual Report on Form 10-K, as well as risks, uncertainties and other factors discussed in this Quarterly Report on Form 10-Q and identified in other documents that we file from time to time with the U.S. Securities and Exchange Commission (the “SEC”).

 

Business Description

 

We are a full-service real estate company with extensive experience developing, building, owning and managing high-quality, institutional-grade office, retail and multifamily properties in attractive markets throughout the Mid-

Atlantic United States. As of March 31, 2016, we owned 100% of the interests in, and consolidate for financial reporting purposes, each of the following properties in our operating property portfolio:

 

 

*Located in the Town Center of Virginia Beach

** Acquired as part of eleven asset portfolio on January 14, 2016