AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON NOVEMBER 21, 2003
REGISTRATION NO. 333-109565
--------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------------------
AMENDMENT NO. 1
TO
FORM S-11
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
----------------------
GOVERNMENT PROPERTIES TRUST, INC.
(Exact name of registrant as specified in governing instruments)
120 Regency Parkway, Suite 116
Omaha, Nebraska 68114
(402) 548-4070
(Address, including zip code, and telephone number,
including area code, of registrant's principal executive offices)
Thomas D. Peschio
President and Chief Executive Officer
Government Properties Trust, Inc.
120 Regency Parkway
Omaha, Nebraska 68114
(402) 548-4070
----------------------
(Name, address, including zip, and telephone number, including area code, of
agent for service)
Copies to:
David E. Gardels John D. Ellsworth Wayne D. Boberg
James C. Creigh Michael C. Pallesen Brendan P. Head
Blackwell Sanders Peper Martin LLP Lieben, Whitted, Houghton, Slowiaczek & Winston & Strawn LLP
1620 Dodge Street, Suite 2100 Cavanagh, P.C., L.L.O. 35 West Wacker Drive
Omaha, Nebraska 68102 2027 Dodge Street, Suite 100 Chicago, Illinois 60601
(402) 964-5000 Omaha, Nebraska 68102 (312) 558-5600
(402) 344-4000
----------------------
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: AS SOON AS
PRACTICABLE AFTER THE EFFECTIVE DATE OF THIS REGISTRATION STATEMENT.
If this Form is filed to register additional securities for an offering pursuant
to Rule 462(b) under the Securities Act, check the following box and list the
Securities Act registration statement number of the earlier effective
registration statement for the same offering. [ ]
If this Form is a post-effective amendment filed pursuant to Rule 462(c) under
the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ]
If this Form is a post effective amendment filed pursuant to Rule 462(d) under
the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ]
If delivery of the prospectus is expected to be made pursuant to Rule 434, check
the following box. [ ]
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR DATES
AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL FILE
A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION STATEMENT
SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF THE
SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATES AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(a),
MAY DETERMINE.
--------------------------------------------------------------------------------
THE INFORMATION IN THIS PROSPECTUS IS NOT COMPLETE AND MAY BE CHANGED. WE MAY
NOT SELL THESE SECURITIES UNTIL THE REGISTRATION STATEMENT FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION IS EFFECTIVE. THIS PROSPECTUS IS NOT AN OFFER
TO SELL THESE SECURITIES AND IT IS NOT SOLICITING AN OFFER TO BUY THESE
SECURITIES IN ANY STATE WHERE THE OFFER OR SALE IS NOT PERMITTED.
SUBJECT TO COMPLETION, DATED NOVEMBER 21, 2003
PROSPECTUS
10,000,000 SHARES
(GPT LOGO)
GOVERNMENT PROPERTIES TRUST, INC.
COMMON STOCK
We invest in single tenant properties under long-term leases to the U.S.
government, state governments, local governments, and government-sponsored
enterprises. We are a self-managed, self-administered company that will elect to
be taxed as a real estate investment trust, or REIT, under the federal tax laws.
No public market currently exists for our common stock. We expect the
initial public offering price will be between $9.00 and $11.00 per share. We
have applied to have our shares listed on the New York Stock Exchange under the
symbol "GPP."
INVESTING IN OUR COMMON STOCK INVOLVES RISKS. SEE "RISK FACTORS" BEGINNING
ON PAGE 10 OF THIS PROSPECTUS TO READ ABOUT RISKS YOU SHOULD CONSIDER BEFORE
BUYING OUR COMMON STOCK. THESE RISKS INCLUDE:
- Our management only joined us beginning in June 2003, and does not have any
history operating a REIT or a public company. Accordingly, we do not have a
track record upon which you can base your investment decision.
- Upon completion of this offering, we will experience a capital infusion from
the net offering proceeds, which we intend to use to acquire properties under
long-term lease to governmental tenants. If we are unable to complete our
acquisitions under contract or acquire other properties, we may not be able to
invest this capital on acceptable terms or timeframes, which may harm our cash
flow and ability to pay dividends.
- An affiliate of our underwriter, Friedman, Billings, Ramsey & Co., Inc., or
FBR, has provided us with a $1,000,000 line of credit, of which approximately
$250,000 is outstanding. Outstanding amounts under this line of credit will be
repaid from the proceeds of this offering. This creates a conflict of interest
because FBR has an interest in the successful completion of this offering in
addition to receiving customary underwriting compensation.
- We depend on the U.S. government, our largest tenant, for a significant
portion of our revenues. Any failure by the U.S. government to perform its
obligations or renew its leases will harm our cash flow and may harm our
ability to pay dividends. In addition, our leases with the U.S. government
provide that the U.S. government may assign the lease and be relieved from all
obligations under the lease, other than unpaid rent and other liabilities
outstanding on the date of the assignment, subject to our prior written
consent, which we may not unreasonably withhold.
- Because our largest tenant is the U.S. government, our properties may have a
higher risk of terrorist attack than similar properties that are leased to
non-governmental tenants. This could harm the value of our properties through
damage, increased insurance costs or increased security costs.
- We have no charter limitations regarding the amount of indebtedness we may
incur. Our policy is to use debt to finance, on average, approximately 75% of
the acquisition cost of the properties we buy, which may harm our cash flow
and our ability to pay dividends.
- Some of our leases may not provide for a full pass-through to our tenants of
increases in property operating costs. Increases in property operating costs
that we must bear would harm our cash flow and may harm our ability to pay
dividends.
- We may make distributions that include a return of capital. Additionally,
because of differences in timing between the receipt of income and the payment
of expenses in arriving at taxable REIT income and the effect of required debt
amortization payments, we may need to borrow funds on a short-term basis to
meet the distribution requirements that are necessary to maintain REIT status.
- If we fail to remain qualified as a REIT, our dividends will not be deductible
by us and we will be subject to a corporate level tax on our taxable income.
This would substantially reduce our cash available to pay dividends and the
yield on your investment.
NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE SECURITIES
COMMISSION HAS APPROVED OR DISAPPROVED OF THESE SECURITIES OR DETERMINED IF THIS
PROSPECTUS IS TRUTHFUL OR COMPLETE. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
PER SHARE TOTAL
--------- --------
Public offering price....................................... $ $
Underwriting discount(1).................................... $ $
Proceeds, before expenses, to us............................ $ $
(1) The underwriter will receive compensation in addition to the underwriter
discount. See "Underwriting" on page .
We have granted our underwriter an option for a period of thirty days to
purchase up to an additional 1,500,000 shares of our common stock at the public
offering price, less the underwriting discount and commissions, solely to cover
over-allotments, if any.
We expect the common stock to be available for delivery on or about
, 2003.
FRIEDMAN BILLINGS RAMSEY
BB&T CAPITAL MARKETS
FLAGSTONE SECURITIES
, 2003.
TABLE OF CONTENTS
SUMMARY..................................................... 1
RISK FACTORS................................................ 10
FORWARD-LOOKING STATEMENTS.................................. 21
USE OF PROCEEDS............................................. 22
CAPITALIZATION.............................................. 24
DILUTION.................................................... 25
DIVIDEND POLICY AND DISTRIBUTIONS........................... 26
SELECTED FINANCIAL INFORMATION.............................. 27
UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL INFORMATION...... 29
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS................................. 38
OUR BUSINESS AND PROPERTIES................................. 46
MANAGEMENT.................................................. 61
RELATED PARTY TRANSACTIONS.................................. 70
PRINCIPAL STOCKHOLDERS...................................... 72
DESCRIPTION OF COMMON STOCK................................. 73
MATERIAL PROVISIONS OF MARYLAND LAW AND OF OUR CHARTER AND
BYLAWS.................................................... 77
SHARES AVAILABLE FOR FUTURE SALE............................ 81
MATERIAL UNITED STATES FEDERAL INCOME TAX CONSEQUENCES...... 81
UNDERWRITING................................................ 93
EXPERTS..................................................... 95
LEGAL MATTERS............................................... 95
WHERE YOU CAN FIND MORE INFORMATION......................... 96
INDEX TO FINANCIAL STATEMENTS............................... F-1
SUMMARY
The following summary highlights information contained elsewhere in this
prospectus. You should read the entire prospectus, including "Risk Factors,"
before deciding whether to invest in our common stock. In this prospectus,
references to "the company," "we," "us," and "our" mean Government Properties
Trust, Inc., and its predecessor company. Unless indicated otherwise, the
information included in this prospectus assumes the consummation of our Maryland
reincorporation, our common stock is sold at $10.00 per share and no exercise by
the underwriter of its over-allotment option.
OVERVIEW
We invest in single tenant properties under long-term leases to the U.S.
government, state governments, local governments, and government-sponsored
enterprises. We are a self-managed, self-administered company that will elect to
be taxed as a real estate investment trust, or REIT, under the federal tax laws.
We believe that we will be the only public company focused solely on investing
in government-leased properties. We believe our singular focus and status as a
public company will make us an attractive buyer for owners and developers of
government-leased properties, and creates an opportunity for us to become a
national consolidator of such properties.
We commenced operations in December 2002 to take advantage of what we
believe is a unique market opportunity in the government sector of the
commercial real estate market. Total government spending in the United States
during 2002 amounted to $3.1 trillion, according to the federal Office of
Management and Budget. The federal government occupies approximately 835 million
square feet of office space in the U.S., approximately 191 million square feet
of which, or approximately 23%, is leased according to the 2002 Federal Real
Property Profile published by the General Services Administration, or GSA, the
federal government's property management arm. The U.S. government spends
approximately $3.6 billion annually on rent, according to the August 2003 issue
of Real Estate Forum. State and local government spending accounted for 34% of
total government spending, or $1.0 trillion, in 2002, according to the federal
Office of Management and Budget. Given this fact, we believe that there is also
a substantial investment opportunity with state and local governmental tenants.
In addition, as government has continued to grow and as existing facilities have
become outdated, construction of new properties for governmental tenants has
been significant. In particular, we expect government demand for new office
space to grow substantially, particularly in areas such as law enforcement and
the judiciary, homeland security, healthcare, human services and regulatory
agencies.
At the same time, however, because governments are facing significant
budgetary constraints, we expect governmental entities will increasingly lease
properties instead of building and owning properties. The federal government
currently owns approximately 77% of the office space it occupies in the U.S.,
but the federal government's new properties are increasingly being leased.
Between 2000 and 2002, total commercial square footage owned by the U.S.
government grew by only 0.2%, while total commercial square footage leased by
the U.S. government grew by 7.8% based on the GSA's 2000 Summary Report of Real
Property Owned and Leased and the 2002 Federal Real Property Profile.
OUR COMPANY
Our business consists of buying and managing recently built or renovated
office properties primarily leased to the federal government, acting through the
GSA, under long-term leases. Our portfolio consisted of five properties totaling
248,848 square feet as of September 30, 2003. These properties are 100% occupied
and have a weighted-average remaining lease term of approximately 13 years based
on the square footage of the properties as of September 30, 2002. Our tenants
include the Department of Justice, the Drug Enforcement Administration, the
Federal Bureau of Investigation and the Social Security Administration.
Based on the credit worthiness of our governmental tenants, our policy is
to use debt to finance, on average, approximately 75% of the acquisition cost of
the properties that we buy. We intend to finance our future acquisitions with a
combination of equity, long-term fixed-rate debt and short-term credit lines. We
intend to use our credit lines to finance acquisitions and deposits on a
short-term basis. We are currently in discussions with a number of lenders to
provide us with a line of credit. Our objective is to finance each
1
property with long-term fixed-rate debt whose maturity matches or exceeds, to
the extent possible, the remaining term of the lease. This strategy minimizes
interest rate risk and should result in more consistent and reliable cash flow.
With the proceeds of this offering, we intend to expand our portfolio by
acquiring additional government-leased properties. We are actively negotiating
the acquisition of six GSA-leased properties totaling approximately 362,780
square feet for an aggregate price of approximately $93.845 million that have a
remaining average lease term of approximately 14 years based on square footage
as of September 30, 2003. However, we cannot assure you that we will be able to
complete the acquisition of these properties.
Our management team has significant experience in the real estate business.
Thomas Peschio, our President and Chief Executive Officer, has more than 35
years of experience in the real estate business and has particular expertise in
acquiring, leasing, managing, financing and selling commercial properties. Our
other senior managers and outside directors also have extensive experience in
various aspects of the real estate industry. One of our directors is the former
head of the GSA's Public Building Service.
OUR BUSINESS AND GROWTH STRATEGY
We intend to acquire properties leased to a variety of governmental
entities on a nationwide basis. We expect most of our properties initially will
be leased to the U.S. government under long-term leases. We will market both to
owners and developers of government-leased properties and directly to
governmental entities. We intend to expand our existing relationships with
GSA-approved real estate developers, the GSA and various other governmental
tenants, owners and developers around the country. We plan to continue to enter
into pre-completion purchase agreements with developers to acquire newly
developed properties upon completion and occupancy by governmental tenants. As a
public company, we believe that developers and owners will view us as a more
attractive and credible buyer than other potential buyers.
Our acquisition criteria includes analyzing not only the in-place lease,
but also analyzing the real estate characteristics of the property including
location, parking, floor plans and construction quality. We focus on newer, well
located properties that have remaining lease terms of ten years or more. By
"newer, well located properties," we mean properties that have been constructed
or significantly renovated within the last five years and that are located in
established downtown or suburban office markets or locations that are crucial to
the government entity. We also consider, on a case-by-case basis, newer, well
located properties that are more special use in nature due to specific
government requirements. These special use or "build-to-suit" properties,
however, generally must have remaining lease terms of fifteen years or more
before we will consider them for acquisition. We believe our focus on newer
properties reduces the risk of tenants failing to renew their lease at maturity
and increases our ability to re-lease the property if the tenant does not renew.
We intend to establish fully funded reserves, based on independent third-party
reports, for future capital expenditures to ensure that our properties are
properly maintained.
Leases for governmental tenants vary widely and include net leases, gross
leases and "modified" gross leases. Net leases require the tenant to pay all
operating expenses, gross leases require the landlord to pay all operating
expenses, and modified gross leases require the landlord and the tenant each to
pay a portion of the operating expenses. We intend to acquire properties with
all three types of leases, as well as variations of these leases, because we
believe that gross leases and modified gross leases may provide higher returns
for us than net leases. In our experience, GSA leases are generally modified
gross leases. We plan to mitigate the higher risk of gross leases and modified
gross leases through strict underwriting, due diligence and intensive property
management. With respect to services provided to governmental tenants, we will
only provide those services that are customarily provided to governmental
tenants of other similar properties.
2
SUMMARY RISK FACTORS
You should carefully consider the matters discussed in "Risk Factors"
beginning on page 10 prior to deciding whether to invest in our common stock.
Please refer to Risk Factors for a more complete discussion of the risks
summarized below.
- Our management only joined us beginning in June 2003, and does not have
any history operating a REIT or a public company. Accordingly, we do not
have a track record upon which you can base your investment decision.
- Upon completion of this offering, we will experience a capital infusion
from the net offering proceeds, which we intend to use to acquire
properties under long-term lease to governmental tenants. If we are
unable to complete our acquisitions under contract or acquire other
properties, we may not be able to invest this capital on acceptable terms
or timeframes, which may harm our cash flow and ability to pay dividends.
- An affiliate of our underwriter, FBR, has provided us with a $1,000,000
line of credit, of which approximately $250,000 is outstanding.
Outstanding amounts under this line of credit will be repaid from the
proceeds of this offering. In addition, we have issued to such affiliate
of FBR a warrant to purchase shares of our common stock. This creates a
conflict of interest because FBR has an interest in the successful
completion of this offering in addition to receiving customary
underwriting compensation.
- The closings of our property acquisitions are subject to conditions that
may prevent us from acquiring such properties. Our ability to complete
these acquisitions depends upon many factors, such as satisfaction of due
diligence and customary closing conditions and our ability to obtain
sufficient financing. Any inability to complete these acquisitions within
our anticipated time frames may harm our financial results and our
ability to pay dividends.
- We depend on the U.S. government, our largest tenant, for a significant
portion of our revenues. Any failure by the U.S. government to perform
its obligations or renew its leases will harm our cash flow and may harm
our ability to pay dividends. In addition, our leases with the U.S.
government provide that the U.S. government may assign the lease and be
relieved from all obligations under the lease, other than unpaid rent and
other liabilities outstanding on the date of the assignment, subject to
our prior written consent, which we may not unreasonably withhold.
- Because our largest tenant is the U.S. government, our properties may
have a higher risk of terrorist attack than similar properties that are
leased to non-governmental tenants. This could harm the value of our
properties through damage, increased insurance costs or increased
security costs.
- Our use of debt financing could decrease our cash flow and expose us to
risk of default under our debt documents. Our policy is to use debt to
finance, on average, approximately 75% of the acquisition cost of the
properties we buy, which may harm our cash flow and our ability to pay
dividends.
- We may make distributions that include a return of capital. Additionally,
because of differences in timing between the receipt of income and the
payment of expenses in arriving at taxable REIT income and the effect of
required debt amortization payments, we may find it advisable to borrow
funds on a short-term basis to meet the distribution requirements that
are necessary to achieve maintain our REIT status.
- Some of our leases may not provide for a full pass-through to our tenants
of increases in property operating costs. Increases in property operating
costs that we must bear would harm our cash flow and may harm our ability
to pay dividends.
- Financial covenants in our loan documents may restrict our operating or
acquisition activities, which may harm our financial condition and
operating results.
- Purchasers of our common stock will experience immediate dilution.
3
- We depend on key personnel with long-standing business relationships, the
loss of whom could threaten our ability to operate our business
successfully.
- Our board of directors may authorize the issuance of additional shares
that may cause dilution.
- If we fail to remain qualified as a REIT, our dividends will not be
deductible by us and we will be subject to a corporate level tax on our
taxable income. This would substantially reduce our cash available to pay
dividends and the yield on your investment.
INITIAL PORTFOLIO
Our portfolio consisted of five properties totaling 248,848 square feet as
of September 30, 2003. These properties are 100% occupied and have a
weighted-average remaining lease term of approximately 13 years based on the
square footage of the properties as of September 30, 2003. Four of the
properties are occupied by U.S. government agencies and one property is occupied
by Federal Express Corporation, which is rated investment grade by both Moody's
Investors Service and Standard & Poor's Corporation. We do not intend to
purchase any additional properties that are primarily occupied by
non-governmental tenants. Our portfolio as of September 30, 2003 consisted of
the following:
LEASE
GROSS MATURITY/
YEAR BUILT/ SQ. FT. RENT/ ANNUALIZED EARLY LEASE
LOCATION TENANT/ OCCUPANT RENOVATED LEASED SQ. FOOT RENT TERMINATION TYPE
-------- ---------------- ----------- ------- -------- ---------- ----------- -----
Bakersfield, United States of America/Drug 2000 9,800 $31.87 $ 312,338 Nov. 2010/ Modified
California Enforcement Administration Nov. 2008 Gross
Lease
Kingsport, United States of 1999 22,848 $17.58 $ 395,291 Oct. 2014/ Modified
Tennessee America/Social Security Oct. 2009 Gross
Administration Lease
Charleston, United States of 1959/1999 90,050 $22.08 $1,998,170 Dec. 2019/ Modified
West Virginia America/Social Security None Gross
Administration Lease
Clarksburg, United States of America/ 1998 55,443 $23.20 $1,286,017 Jan. 2019/ Modified
West Virginia Department of Justice, Drug Jan. 2016 Gross
Enforcement Administration, Lease
Federal Bureau of
Investigation, Social Security
Administration
Harahan, Federal Express Corporation 1996 70,707 $ 5.14 $ 363,440 Feb. 2016/ Net
Louisiana None Lease
As used in the table above and throughout this prospectus, "Gross Annualized
Rent" is determined by multiplying August 2003 rents by 12 and "Rent Per Square
Foot" is determined by dividing the Gross Annualized Rent by the leased square
footage of the property. See "Our Business and Properties -- Our Properties" for
more information.
4
PROPOSED ACQUISITIONS
As of November 20, 2003, we were actively negotiating the following
acquisitions:
LEASE
GROSS MATURITY/
PURCHASE TENANT/ YEAR BUILT/ SQ. FT. RENT/ ANNUALIZED EARLY
LOCATION PRICE OCCUPANT RENOVATED LEASED SQ. FOOT RENT TERMINATION
-------- ------------ -------- ------------ ------- -------- ---------- -----------
Harlingen, Texas...... $ 19,125,000 United States of 2000 53,075 $32.33 $1,715,770 Aug. 2015/
America/Border Patrol* Oct. 2014(1)
Harlingen, Texas...... $ 26,750,000 United States of 1998 17,423 $15.36 $ 267,612 Jan. 2018/
America/Immigration & Jan. 2013(1)
Naturalization Service
I*
United States of 2002 107,836 $22.53 $2,429,334 Oct. 2022/
America/Immigration & Nov. 2020
Naturalization Service
II*
Baton Rouge,
Louisiana............ $ 6,600,000 United States of Under 36,287 $19.94 $ 723,600 Nov. 2018/
America/Veterans construction None
Administration**
Parkersburg, West
Virginia............. $ 20,270,000 United States of Under 80,657 $26.63 $2,147,636 Nov. 2019(2)/
America/Bureau of construction None
Public Debt **
College Park,
Maryland............. $ 21,100,000(3) United States of Under 67,503(3) $35.23 $2,378,311 Jan. 2014(2)/
America/Food and Drug construction None
Administration**
------------ -------
Total................. $ 93,845,000 362,781
============ =======
LEASE
LOCATION TYPE
-------- -----
Harlingen, Texas...... Modified
Gross
Lease
Harlingen, Texas...... Modified
Gross
Lease
Modified
Gross
Lease
Baton Rouge,
Louisiana............ Modified
Gross
Lease
Parkersburg, West
Virginia............. Modified
Gross
Lease
College Park,
Maryland............. Modified
Gross
Lease
Total.................
---------------
* Under contract
** Under letter of intent
(1) The current owner is negotiating with the GSA to extend the term of this
lease and to remove the early termination provision. We will not acquire the
property unless and until this lease extension is finalized.
(2) The lease is for a fixed term commencing on the property completion date.
The Lease Maturity Date is estimated based on an assumed property completion
date. See "Business and Properties -- Proposed Acquisitions."
(3) Does not include approximately 15,000 square feet of vacant office space
that may be leased in the future. If this vacant space is leased prior to
building completion, we must pay an additional $2.4 million.
While we believe that these acquisitions will close, we cannot guarantee that
they will close because they remain subject to our completion of due diligence
and customary closing conditions.
DIVIDEND POLICY
We intend to distribute to our stockholders all or substantially all of our
taxable REIT income each year in order to comply with the distribution
requirements of the federal tax laws and to avoid federal income tax and the
nondeductible excise tax. The actual amount and timing of distributions,
however, will be at the discretion of our board of directors and will depend
upon our actual results of operations and a number of other factors discussed in
"Dividend Policy and Distributions." In addition, our board of directors has the
power to issue preferred stock or other securities that have distribution rights
senior to that of the common stock.
We declared our initial dividend of $0.075 per share of common stock, which
we paid on January 31, 2003. We paid subsequent dividends of $0.15 per share on
April 15, 2003 and July 15, 2003. The foregoing
5
dividends were paid to our stockholders on a pro-rata basis based upon the date
on which the shares of our common stock were obtained by such stockholders. On
September 26, 2003, we declared a dividend of $0.15 per share, which was paid on
October 15, 2003 to stockholders of record on September 30, 2003. In accordance
with our recently adopted policy, this dividend and future dividends will not be
paid on a pro rata basis. Initially, we intend to maintain a dividend of at
least $0.15 per share per quarter. There is, of course, no assurance that we
will be able to maintain our dividend at this level, or at all. See "Risk
Factors."
THE OFFERING
Common stock offered 10,000,000 shares
Common stock to be outstanding
after this offering 11,125,552 shares
The share figures set forth above exclude:
- up to 1,500,000 additional shares that may be issued upon exercise of the
underwriter's over-allotment option;
- up to 22,500 additional shares that may be issued to an affiliate of FBR
upon exercise of the underwriter's over-allotment option; and
- 1,000,000 shares of common stock available for grant under our 2003
Equity Incentive Plan. We intend to limit the number of shares granted
under the 2003 Equity Incentive Plan to no more than 2.5% of our
outstanding common stock.
Use of Proceeds We will receive approximately $91.5 million
from this offering after deducting the
underwriting discount and estimated offering
expenses payable by us. We plan to use the
proceeds as follows:
- approximately $250,000 to repay outstanding
indebtedness owed to an affiliate of our
underwriter, FBR;
- approximately $1.6 million to repay
outstanding indebtedness owed to Genesis
Financial Group, Inc.;
- approximately $2.4 million to repay
outstanding indebtedness under a line of
credit used to finance the acquisition of our
Charleston property;
- approximately $73.6 million to fund the
purchase price (including closing costs and
excluding indebtedness owed to FBR) of the
Harlingen, Baton Rouge and Parkersburg
properties described under "Proposed
Acquisitions;"
- approximately $4.9 million to fund the equity
portion of the purchase price (including
closing costs) of the College Park property
described under "Proposed Acquisitions;"
- approximately $7.2 million to fund the
purchase price (including closing costs) of
the additional properties to be purchased in
2004; and
- the remainder for general corporate and
working capital purposes.
6
Pending these uses, we intend to invest the net
offering proceeds in marketable,
investment-grade securities that are consistent
with our intention to qualify as a REIT.
Proposed New York Stock
Exchange symbol "GPP"
CONFLICT OF INTEREST
In connection with this offering, our underwriter, FBR, will receive
benefits in addition to customary underwriting compensation. These benefits
consist of the repayment of loans made by an affiliate of FBR in the amount of
approximately $250,000 and the issuance to such affiliate of FBR a warrant to
purchase our common stock. These transactions create a conflict of interest
because FBR has an interest in the successful completion of this offering in
addition to receiving customary underwriter compensation.
TAX STATUS
We intend to qualify as a REIT, commencing with our taxable year ending
December 31, 2003. We believe that our current investments, proposed investments
and proposed method of operation will enable us to meet the requirements for
qualification as a REIT for federal income tax purposes. To maintain REIT
status, we must meet a number of organizational and operational requirements,
including a requirement that we annually distribute at least 90% of our taxable
REIT income to our stockholders. As a REIT, we generally will not be subject to
federal income tax on taxable REIT income we currently distribute to our
stockholders. If we fail to qualify as a REIT in any taxable year, we will be
subject to federal income tax at regular corporate rates. Even if we qualify as
a REIT, we may be subject to some federal, state and local taxes on our income
or property. See "Material United States Federal Income Tax Consequences."
CORPORATE INFORMATION
We were incorporated in Michigan under the name Genesis Net Lease Realty,
Inc. in September 1998. We sold 955,207 shares of our common stock between
October 2002 and August 2003 in an SEC-registered public offering for $10.00 per
share. As of September 30, 2003, we had approximately 265 stockholders and
975,552 shares of common stock outstanding. Until this offering, we have elected
not to list our common stock on any securities market. We intend to
reincorporate in Maryland and change our name to Government Properties Trust,
Inc. immediately prior to the completion of this offering. See "Related Party
Transactions." Our principal executive offices are located at 120 Regency
Parkway, Suite 116, Omaha, Nebraska 68114. Our telephone number is (402)
548-4070.
7
SUMMARY FINANCIAL DATA
The following summary historical consolidated financial information as of
December 31, 2002 and 2001 and for the years then ended were derived from our
audited financial statements contained elsewhere in this prospectus. The
following summary historical consolidated financial information as of September
30, 2003 and for the nine months ended September 30, 2003 and 2002, were derived
from our unaudited financial statements contained elsewhere in this prospectus.
The unaudited historical consolidated financial statements include all
adjustments, consisting of normal recurring adjustments, which we considered
necessary for a fair presentation of our financial condition and the results of
operations as of such date and for such periods under generally accepted
accounting principles.
You should read the information below in conjunction with the other
financial information and analysis presented in this prospectus, including the
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and our consolidated financial statements and related notes.
NINE MONTHS ENDED YEAR ENDED
SEPTEMBER 30, DECEMBER 31,
------------------- ----------------
2003 2002 2002 2001
---------- ------ ------- ------
OPERATING INFORMATION(1):
Revenue:
Rental income......................................... $2,112,377 $ -- $ 4,885 $ --
Amortization of lease intangible costs................ (148,997) -- -- --
---------- ------ ------- ------
Total net revenue..................................... 1,963,380 -- 4,885 --
Expenses:
Operating expenses.................................... (565,479) -- -- --
Depreciation and amortization......................... (477,925) -- (4,220) --
General and administrative............................ (398,824) (51) (8,836) --
Interest income (expense), net........................ (860,677) (44) 2,361 1,340
Income tax (expense) benefit.......................... -- 725 (725)
---------- ------ ------- ------
Total expenses, net................................... (2,302,905) (95) (9,970) 615
---------- ------ ------- ------
Net income (loss)..................................... $ (339,525) $ (95) $(5,085) $ 615
========== ====== ======= ======
Earnings per share (basic and diluted)................ $ (0.43) $(0.01) $ (0.24) $ 0.06
========== ====== ======= ======
DECEMBER 31
SEPTEMBER 30 ---------------------
2003 2002 2001
------------ ---------- --------
BALANCE SHEET INFORMATION(1):
Investment in real estate, net........................... $38,645,992 $4,384,090 $ --
Cash and cash equivalents(2)............................. 1,062,060 2,314,319 956
Total assets............................................. 40,186,261 6,879,595 181,101
Lines of credit.......................................... 2,397,655 337,867 --
Mortgage notes payable................................... 27,892,521 3,202,333 --
Mortgage note payable -- affiliate....................... 1,639,219 -- --
Total liabilities........................................ 32,528,012 3,917,057 80,486
Total liabilities and shareholders' equity............... 40,186,261 6,879,595 181,101
8
NINE MONTHS ENDED YEAR ENDED
SEPTEMBER 30, DECEMBER 31,
----------------------- ---------------------
2003 2002 2002 2001
------------ -------- ----------- -------
OTHER INFORMATION:
Cash flow:
Provided by (used in) operating activity.... $ (325,997) $ 14,662 $ 153,208 $ 5,989
Used in investing activity.................. $(32,256,934) $ -- $(4,523,548) $ --
Provided by (used in) financing activity.... $ 30,839,752 $(15,606) $ 6,683,703 $(5,033)
Property rentable square footage(1)........... 248,848 -- 70,707 --
EBITDA-historical(3).......................... $ 1,187,430 $ 82 $ (1,590) $ 1,340
EBITDA-pro forma(3)........................... $ 3,914,485 $ 4,328,995
---------------
(1) We acquired our first operating property on December 26, 2002.
(2) Includes restricted cash of $490,920 at September 30, 2003.
(3) EBITDA is defined as earnings before interest, income taxes, depreciation
and amortization. We believe EBITDA is useful to investors as an indicator
of our ability to service debt and pay cash distributions. EBITDA, as
calculated by us, may not be comparable to EBITDA reported by other
companies that do not define EBITDA exactly as we define the term. EBITDA
does not represent cash generated from operating activities determined in
accordance with generally accepted accounting principles (GAAP), and should
not be considered as an alternative to operating income or net income
determined in accordance with GAAP as an indicator of performance or as an
alternative to cash flows from operating activities as an indicator of
liquidity.
GAAP Reconciliation
HISTORICAL PRO FORMA
------------------------------------ --------------------------------
NINE MONTHS ENDED YEAR ENDED
SEPTEMBER 30, DECEMBER 31, NINE MONTHS ENDED YEAR ENDED
----------------- ---------------- SEPTEMBER 30, DECEMBER 31,
2003 2002 2002 2001 2003 2002
---------- ---- ------- ------ ----------------- ------------
Net income (loss)............ $ (339,525) $(95) $(5,085) $ 615 $ 683,051 $ 590,677
Add back (deduct):
Depreciation and
amortization(a)............ 626,922 -- 4,220 -- 1,966,912 2,069,887
Interest expense............. 900,033 177 -- -- 1,264,522 1,668,431
Income taxes................. -- -- (725) 725 -- --
---------- ---- ------- ------ ---------- ----------
EBITDA....................... $1,187,430 $ 82 $(1,590) $1,340 $3,914,485 $4,328,995
========== ==== ======= ====== ========== ==========
(a) Includes amortization of lease intangibles of $148,977, $447,003 and
$502,533 for the historical nine months ended September 30, 2003, the
pro forma nine months ended September 30, 2003 and the pro forma year
ended December 31, 2002, respectively, which is included as a reduction
of rental revenue.
9
RISK FACTORS
An investment in our common stock involves risks. You should carefully
consider the following risks before making an investment decision. If any of
these risks occurs, our business, financial condition, liquidity and results of
operations could be seriously harmed, in which case the price of our common
stock could decline and you could lose all or a part of your investment.
RISKS RELATED TO OUR BUSINESS AND PROPERTIES
WE COMMENCED OPERATIONS IN DECEMBER 2002. OUR MANAGEMENT ONLY RECENTLY JOINED US
AND DOES NOT HAVE ANY EXPERIENCE OPERATING A REIT OR A PUBLIC COMPANY.
ACCORDINGLY, WE DO NOT HAVE A TRACK RECORD UPON WHICH YOU CAN BASE YOUR
INVESTMENT DECISION.
We commenced operations in December 2002. We are, therefore, subject to the
risks associated with the operation of any new business. Further, our management
only joined us beginning in June 2003, and does not have any experience
operating a REIT or a publicly-owned company. Consequently, you will be unable
to fully evaluate our management's public company operational abilities. Given
our recent organization and management experience, you should be especially
cautious in drawing conclusions about our ability to execute our business plan.
WE EXPECT TO EXPERIENCE RAPID GROWTH IN THE NUMBER OF PROPERTIES ACQUIRED AND
UNDER OUR MANAGEMENT.
We expect to experience a period of rapid growth upon the completion of
this offering. Since December 2002, we have acquired five properties, containing
248,848 square feet for an aggregate purchase price of approximately $39.1
million. As of November 20, 2003, we were actively negotiating the acquisition
of six GSA-leased properties containing approximately 362,780 square feet, for
an aggregate purchase price of $93.8 million. Due to the anticipated rapid
growth of our portfolio, we cannot assure you that we will be able to expand our
management and staff with qualified and experienced personnel and implement
administrative, accounting and operational systems sufficient to integrate these
properties into our portfolio and manage any future acquisitions of additional
properties without disruptions or unanticipated costs. Any failure to
successfully integrate any future acquisitions into our portfolio could
seriously harm our results of operations and financial condition and our ability
to pay dividends.
THE CLOSINGS OF OUR PROPERTY ACQUISITIONS ARE SUBJECT TO CONDITIONS THAT MAY
PREVENT US FROM ACQUIRING SUCH PROPERTIES.
As of November 20, 2003, we were actively negotiating the acquisition of
six GSA-leased properties containing approximately 362,780 square feet for an
aggregate purchase price of $93.8 million. Our ability to complete these
acquisitions depends upon many factors, such as satisfaction of due diligence,
completion of construction, satisfaction of customary closing conditions and our
ability to obtain sufficient financing. Any inability to complete these
acquisitions within our anticipated time frames may harm our financial results
and our ability to pay dividends.
OUR USE OF DEBT FINANCING COULD DECREASE OUR CASH FLOW AND EXPOSE US TO RISK OF
DEFAULT UNDER OUR DEBT DOCUMENTS.
Our policy is to use debt to finance, on average, approximately 75% of the
acquisition cost of the properties that we buy. As of September 30, 2003, we had
approximately $32 million of outstanding indebtedness. We have a line of credit
with an affiliate of FBR for up to $1 million, the outstanding balance of which
will be repaid with a portion of the net proceeds of this offering.
Since we anticipate that our cash from operations will be insufficient to
repay all of our indebtedness prior to maturity, we expect that we will have to
repay debt through refinancings, sale of properties or sale of additional
equity. If we are unable to refinance our indebtedness on acceptable terms, or
at all, we might be forced to dispose of one or more of our properties on
unfavorable terms, which might result in losses to us and which might adversely
affect our cash available for distribution to our stockholders. If prevailing
interest rates
10
or other factors at the time of a refinancing result in higher interest rates on
such refinancing, our interest expense would increase, which could seriously
harm our operating results and financial condition and our ability to pay
dividends.
Our debt and any increases in our debt may be detrimental to our business
and financial results by:
- requiring us to use a substantial portion of our cash flow from
operations to pay interest, which reduces the amount available for the
operation of our properties or the payment of dividends;
- violating restrictive covenants in our loan documents, which would
entitle the lenders to accelerate our debt obligations and foreclose on
our properties;
- placing us at a competitive disadvantage compared to our competitors that
have less debt;
- making us more vulnerable to economic and industry downturns and reducing
our flexibility in responding to changing business and economic
conditions;
- requiring us to sell one or more properties, possibly on unfavorable
terms; and
- limiting our ability to borrow funds for operations or to finance
acquisitions in the future or to refinance our indebtedness at maturity
on terms as or more favorable than the terms of our original
indebtedness.
BECAUSE OUR PRINCIPAL TENANT IS THE U.S. GOVERNMENT, OUR PROPERTIES MAY HAVE A
HIGHER RISK OF TERRORIST ATTACK THAN SIMILAR PROPERTIES THAT ARE LEASED TO
NON-GOVERNMENTAL TENANTS.
Because our principal tenant is the U.S. government, our properties may
have a higher risk of terrorist attack than similar properties that are leased
to non-governmental tenants. Terrorist attacks may negatively affect our
operations and your investment in our common stock. We cannot assure you that
there will not be further terrorist attacks against the United States or the
United States government. Some of our properties could be considered "high
profile" government buildings, which may make these properties more likely to be
viewed as terrorist targets. These attacks or armed conflicts may directly
impact the value of our properties through damage, destruction, loss or
increased security costs. Certain losses resulting from these types of events
are uninsurable and others would not be covered by our current terrorism
insurance. Additional terrorism insurance may not be available at a reasonable
price or at all.
WE MAY BE UNABLE TO INVEST THE PROCEEDS OF THIS OFFERING ON ACCEPTABLE TERMS
WHICH MAY HARM OUR FINANCIAL CONDITION AND OPERATING RESULTS.
Until we are able to acquire the government-leased properties we have under
contract and are able to identify and purchase other government-leased
properties, we intend to invest temporarily the portion of the proceeds of this
offering not used to fund property acquisitions, in marketable, investment-grade
securities. We cannot assure you that we will be able to acquire the properties
we have under contract or identify and purchase other government-leased
properties that meet our investment criteria in sufficient time or on acceptable
terms to produce an acceptable return on our investment. Because we will not
have under contract a sufficient number of government-leased properties to fully
use the net proceeds of this offering at the time of this offering, we will have
broad authority to invest the remaining proceeds of this offering in other
government-leased properties that we may identify in the future.
WE DEPEND ON THE U.S. GOVERNMENT FOR A SIGNIFICANT PORTION OF OUR REVENUES. ANY
FAILURE BY THE U.S. GOVERNMENT TO PERFORM ITS OBLIGATIONS OR RENEW ITS LEASES
UPON EXPIRATION MAY HARM OUR CASH FLOW AND ABILITY TO PAY DIVIDENDS.
Rent from the U.S. government represented approximately 87% of our revenues
for the nine months ended September 30, 2003. In addition, the U.S. government
leased approximately 72% of our total leased square feet as of September 30,
2003. Any default by the U.S. government, or its failure to renew its leases
with us upon their expiration, could cause interruptions in the receipt of lease
revenue or result in vacancies, or both, which would reduce our revenue until
the affected property is leased, and could decrease the ultimate
11
value of the affected property upon sale. Further, failure on the part of a
tenant to comply with the terms of a lease may give us the right to terminate
the lease, repossess the applicable property and enforce the payment obligations
under the lease; however, we would be required to find another tenant. We cannot
assure you that we would be able to find another tenant without incurring
substantial costs, or at all, or that, if another tenant were found, we would be
able to enter into a new lease on favorable terms. Our leases with the U.S.
government provide that the U.S. government may assign the lease and be relieved
from all obligations under the lease, other than unpaid rent and other
liabilities outstanding on the date of the assignment, subject to our prior
written consent, which we may not unreasonably withhold. If this were to occur,
it is unlikely that a successor tenant would have the same credit strength as
the U.S. government.
AN INCREASE IN THE OPERATING COSTS OF OUR GOVERNMENT-LEASED PROPERTIES WOULD
HARM OUR CASH FLOW AND ABILITY TO PAY DIVIDENDS.
Our objective is to acquire government-leased properties in which the
tenant is wholly responsible for any increases in operating costs that apply to
the property. However, this type of triple-net lease is not typical of the
leases entered into through the GSA. Under present practice, GSA leases cover
increases in real estate taxes above a base amount. GSA leases also increase
that portion of the rent applicable to other operating expenses by an agreed
upon percentage based upon the Consumer Price Index. To the extent operating
costs other than real estate taxes increase at a rate greater than the specified
percentage, our cash flow would be harmed and our ability to pay dividends may
be harmed.
IF WE ARE UNABLE TO LEASE PROPERTIES THAT ARE PARTIALLY OR COMPLETELY VACANT, WE
MAY BE REQUIRED TO RECOGNIZE AN IMPAIRMENT LOSS WITH RESPECT TO THE CARRYING
VALUES OF THESE PROPERTIES, WHICH MAY SERIOUSLY HARM OUR OPERATING RESULTS AND
FINANCIAL CONDITION.
We intend to acquire properties that are fully leased to government
entities. However, any of our properties may become partially or completely
vacant in the future. If we are unable to lease these properties and generate
sufficient cash flow to recover the carrying value of these properties, we may
be required to recognize an impairment loss, which could seriously harm our
operating results and financial condition.
FINANCIAL COVENANTS IN OUR LOAN DOCUMENTS MAY RESTRICT OUR OPERATING OR
ACQUISITION ACTIVITIES, WHICH MAY HARM OUR FINANCIAL CONDITION AND OPERATING
RESULTS.
The mortgages on our properties contain customary restrictive covenants,
including provisions that may limit the borrowing subsidiary's ability, without
the prior consent of the lender, to incur additional indebtedness, further
mortgage or transfer the applicable property, discontinue insurance coverage or
make loans or advances to, enter into any transaction of merger or consolidation
with, or acquire the business, assets or equity of, any third party. These
limitations could restrict our ability to acquire additional properties. In
addition, any of our future lines of credit or loans may contain additional
financial covenants and other obligations. If we breach covenants or obligations
in our debt agreements, the lender can generally declare a default and require
us to repay the debt immediately and, if the debt is secured, can foreclose on
the property securing the loan. In order to meet our debt service obligations,
we may have to sell properties either potentially at a loss or at times that
prohibit us from achieving attractive returns. Any failure to pay our
indebtedness when due or failure to cure events of default could result in
higher interest rates during the period of the loan default and could ultimately
result in the loss of properties through foreclosure.
INCREASING COMPETITION FOR THE ACQUISITION OF GOVERNMENT-LEASED PROPERTIES MAY
IMPEDE OUR ABILITY TO MAKE FUTURE ACQUISITIONS OR MAY INCREASE THE COST OF THESE
ACQUISITIONS, WHICH COULD HARM OUR OPERATING RESULTS AND FINANCIAL CONDITION.
We compete with many other entities for the acquisition of
government-leased properties. Our competitors include financial institutions,
institutional pension funds, other REITs, other public and private real estate
companies and private real estate investors. These competitors may prevent us
from acquiring desirable properties or increase the price we must pay for our
real estate investments. Our competitors may have greater resources than we do,
and may be willing to pay more for similar property. In particular, larger
12
REITs may enjoy significant competitive advantages that result from, among other
things, a lower cost of capital and enhanced operating efficiencies. In
addition, the number of entities and the amount of funds competing for
government-leased properties may increase, resulting in increased demand and
increased prices paid for these properties. If we are forced to pay higher
prices for properties, our profitability may decrease, and you may experience a
lower return on your investment. Increased competition for properties may also
preclude us from acquiring those that would generate attractive returns to us.
OUR ACQUISITIONS OF GOVERNMENT-LEASED PROPERTIES MAY RESULT IN DISRUPTIONS TO
OUR BUSINESS AS A RESULT OF THE BURDEN PLACED ON MANAGEMENT.
Our growth strategy involves the acquisition of government-leased
properties. These acquisitions may cause disruptions in our operations and
divert management's attention away from our day-to-day operations, which could
impair our relationships with our current tenants and employees. In addition, if
we were to acquire properties indirectly by acquiring another entity, we may be
unable to integrate effectively the operations and personnel of the acquired
business or to train, retain and motivate any key personnel from the acquired
business. Any inability of our management to implement effectively our
acquisitions may cause disruptions to our business and may harm our operating
results and financial condition, as well as our ability to pay dividends.
WE HAVE LIMITED TIME TO PERFORM DUE DILIGENCE ON MANY OF OUR ACQUIRED
PROPERTIES, WHICH COULD SUBJECT US TO SIGNIFICANT UNEXPECTED LIABILITIES AND
UNDER-PERFORMANCE OF THE ACQUIRED PROPERTIES.
When we enter into an agreement to acquire a property, we often have
limited time to complete our due diligence prior to acquiring the property.
Because our internal resources are limited, we may rely on third parties to
conduct a portion of our due diligence. For example, we have in the past engaged
environmental consultants, appraisers, professional engineers and lawyers to
help perform due diligence. To the extent we or these third parties
underestimate or fail to identify risks and liabilities associated with the
properties we acquire, we may incur unexpected liabilities or the property may
fail to perform in accordance with our projections. If we do not accurately
assess during the due diligence phase the value of, and liabilities associated
with, properties prior to their acquisition, we may pay a purchase price that
exceeds the current fair value of the assets. As a result, material goodwill and
other intangible assets would be required to be recorded, which could result in
significant charges in future periods. These charges, in addition to the
financial impact of significant liabilities that we may assume, could seriously
harm our financial and operating results, as well as our ability to pay
dividends.
OUR CASH FLOW IS NOT ASSURED. IF OUR CASH FLOW IS REDUCED, WE MAY NOT BE ABLE TO
PAY DIVIDENDS.
We intend to distribute to our stockholders all or substantially all of our
taxable REIT income each year in order to comply with the distribution
requirements of the federal tax laws and to avoid federal income tax and the
nondeductible excise tax. We have not established a minimum dividend payment
level. Our ability to pay dividends may be adversely affected by the risks
described in this prospectus. All distributions will be made at the discretion
of our board of directors and will depend on our earnings, our financial
condition, maintenance of our REIT status and other factors that our board of
directors may deem relevant from time to time. We cannot assure you that we will
be able to pay dividends in the future.
Our ability to pay dividends is based on many factors, including:
- our ability to make additional acquisitions;
- our success in negotiating favorable lease terms;
- our tenants' ability to perform under their leases; and
- efficient management of our properties.
We also cannot assure you that the level of our dividends will increase
over time or the receipt of rental revenue in connection with future
acquisitions of properties will increase our cash available for distribution to
13
stockholders. In the event of defaults or lease terminations by our tenants,
rental payments could decrease or cease, which would result in a reduction in
cash available for distribution to our stockholders. If our cash available for
distributions generated by our assets is less than our expected dividend
distributions, or if such cash available for distribution decreases in future
periods from expected levels, our ability to make the expected distributions
would be adversely affected. Any such failure to make expected distributions may
result in a decrease in the market price of our stock. See "Dividend Policy and
Distributions."
OUR BOARD OF DIRECTORS MAY ALTER OUR INVESTMENT POLICIES AT ANY TIME WITHOUT
STOCKHOLDER APPROVAL.
Our board of directors may alter our investment policies at any time
without stockholder approval. Changes to these policies may adversely affect our
financial performance and your investment.
WE HAVE INCURRED HISTORICAL LOSSES AND MAY INCUR FUTURE LOSSES.
We have had historical accounting losses of $339,525 and $5,085 for the
nine months ended September 30, 2003 and the year ended December 31, 2002,
respectively, and had an accumulated deficit of $713,739 as of September 30,
2003. We cannot assure you that we will not have similar losses in the future.
RISKS RELATED TO THIS OFFERING
WE HAVE BORROWED MONEY FROM AN AFFILIATE OF OUR UNDERWRITER, WHICH CAUSES A
CONFLICT OF INTEREST.
In connection with this offering, our underwriter, FBR, will receive
benefits in addition to customary underwriting compensation. These benefits
consist of the repayment of the loan made by an affiliate of FBR of
approximately $250,000 and the issuance to such affiliate of FBR of a warrant to
purchase shares of our common stock. These transactions create a conflict of
interest because FBR has an interest in the successful outcome of this offering
in addition to receiving customary underwriter compensation.
THERE IS CURRENTLY NO PUBLIC MARKET FOR OUR COMMON STOCK. AN ACTIVE TRADING
MARKET FOR OUR COMMON STOCK MAY NOT DEVELOP FOLLOWING THIS OFFERING.
There has not been any public market for our common stock prior to this
offering. We have applied to have our common stock listed on the NYSE following
the completion of this offering. We cannot assure you, however, that an active
trading market for our common stock will develop after the offering or, if one
does develop, that it will be sustained.
THE MARKET PRICE AND TRADING VOLUME OF OUR COMMON STOCK MAY BE VOLATILE
FOLLOWING THIS OFFERING.
Even if an active trading market develops for our common stock, the market
price of our common stock may be volatile. In addition, the trading volume in
our common stock may fluctuate and cause significant price variations to occur.
If the market price of our common stock declines significantly, you may be
unable to resell your shares at or above the public offering price. We cannot
assure you that the market price of our common stock will not fluctuate or
decline significantly in the future. Some of the factors that could negatively
affect our share price or result in fluctuations in the price or trading volume
of our common stock include:
- actual or anticipated variations in our quarterly operating results or
dividends;
- changes in our funds from operations or earnings estimates;
- publication of research reports about us or the real estate industry;
- increases in market interest rates that lead purchasers of our shares to
demand a higher yield;
- changes in market valuations of similar companies;
- adverse market reaction to any increased indebtedness we incur in the
future;
- additions or departures of key management personnel;
- actions by institutional stockholders;
14
- speculation in the press or investment community; and
- general market and economic conditions.
BROAD MARKET FLUCTUATIONS COULD NEGATIVELY IMPACT THE MARKET PRICE OF OUR COMMON
STOCK.
The stock market has experienced extreme price and volume fluctuations that
have affected the market price of many companies in industries similar or
related to ours and that have been unrelated to these companies' operating
performances. These broad market fluctuations could reduce the market price of
our common stock. Furthermore, our operating results and prospects may be below
the expectations of public market analysts and investors or may be lower than
those of companies with comparable market capitalizations, which could seriously
harm the market price of our common stock.
AN INCREASE IN MARKET INTEREST RATES MAY HARM THE MARKET PRICE OF OUR STOCK.
One of the factors that investors may consider in deciding whether to buy
or sell our common stock is our dividend rate as a percentage of our share
price, relative to market interest rates. If market interest rates increase,
prospective investors may desire higher dividends on our stock or seek other
securities paying higher dividends or rates of interest. The market price of our
common stock likely will be based primarily on the earnings that we derive from
rental income with respect to our properties and our related distributions to
stockholders, and not from the underlying appraised value of the properties
themselves. As a result, interest rate fluctuations and capital market
conditions can affect the market price of our common stock. For instance, if
interest rates rise without an increase in our dividend rate, the market price
of our common stock could decrease because potential investors may require a
higher dividend yield on our common stock as market rates on interest-bearing
securities, such as bonds, rise. In addition, rising interest rates would result
in increased interest expense on our variable rate debt, thereby adversely
affecting cash flow and our ability to service our indebtedness and pay
dividends.
PURCHASERS OF OUR COMMON STOCK WILL EXPERIENCE IMMEDIATE DILUTION.
The assumed public offering price of our common stock in this offering is
higher than the book value per share of our outstanding common stock. If you
purchase common stock in this offering, you will experience immediate dilution
in book value per share.
FUTURE SALES OF OUR COMMON STOCK MAY HARM OUR SHARE PRICE.
We cannot predict the effect, if any, of future sales of common stock, or
the availability of stock for future sales, on the market price of our common
stock. Sales of substantial amounts of common stock or the perception that these
sales could occur, may harm prevailing market prices for our common stock.
RISKS RELATED TO OUR ORGANIZATION AND STRUCTURE
WE DEPEND ON KEY PERSONNEL WITH LONG-STANDING BUSINESS RELATIONSHIPS, THE LOSS
OF WHOM COULD THREATEN OUR ABILITY TO OPERATE OUR BUSINESS SUCCESSFULLY.
Our future success depends, to a significant extent, upon the continued
services of Thomas D. Peschio, our president and chief executive officer, and of
the other members of our management team. In particular, the relationships that
Mr. Peschio and the other members of our management team have developed with
existing and prospective developers of government-leased properties is
critically important to the success of our business. Although we have an
employment agreement with Mr. Peschio and other key executives, we cannot assure
you that Mr. Peschio or the other executives will remain employed with us. We do
not maintain key person life insurance on any of our officers. The loss of
services of Mr. Peschio or other senior managers would harm our business and our
prospects.
15
OUR BOARD OF DIRECTORS MAY AUTHORIZE THE ISSUANCE OF ADDITIONAL SHARES THAT MAY
CAUSE DILUTION.
In connection with future equity offerings, the board of directors may
authorize the issuance of additional shares of common stock. The issuance of
additional shares could substantially dilute our existing stockholders.
OUR BOARD OF DIRECTORS MAY AUTHORIZE THE ISSUANCE OF SHARES WITH DIFFERING
DIVIDEND RIGHTS THAT COULD HARM YOUR RIGHT TO RECEIVE DIVIDENDS
Our board of directors has the power to issue preferred stock or other
securities that have distribution rights senior to that of the common stock. Any
superior dividend rights could prevent us from paying dividends to the holders
of our common stock.
OUR RIGHTS AND THE RIGHTS OF OUR STOCKHOLDERS TO TAKE ACTION AGAINST DIRECTORS
AND OFFICERS ARE LIMITED, WHICH COULD LIMIT YOUR RECOURSE IN THE EVENT OF
ACTIONS THEY TAKE OR FAIL TO TAKE WHICH ARE NOT IN YOUR BEST INTERESTS.
Maryland law provides that a director has no liability in that capacity if
he or she performs his or her duties in good faith, in a manner he or she
reasonably believes to be in our best interests and with the care that an
ordinarily prudent person in a like position would use under similar
circumstances. Our governing documents obligate us to indemnify our directors
and officers for actions taken by them in those capacities to the extent
permitted by Maryland law. Generally, Maryland law permits indemnification
except in instances where the person seeking indemnification acted in bad faith
or with active and deliberate dishonesty, or in instances where the person
actually received an improper personal benefit in money, property or services
or, in the case of a criminal proceeding, the person had reasonable cause to
believe that his or her actions were unlawful. Additionally, we may be obligated
to fund the defense costs incurred by our directors and officers. In addition,
our governing documents limit the liability of our directors and officers for
money damages, except for liability resulting from:
- actual receipt of an improper benefit or profit in money, property or
services; or
- a final judgment based upon a finding of active and deliberate dishonesty
by the director, trustee or officer that was material to the cause of
action adjudicated.
As a result, we and our stockholders may have more limited rights against
our directors and officers than might otherwise exist. See "Certain Provisions
of Maryland Law and our charter and Bylaws -- Limitation of Liability and
Indemnification."
OUR OWNERSHIP LIMITATIONS MAY RESTRICT BUSINESS COMBINATION OPPORTUNITIES.
To qualify as a REIT under the federal tax laws, no more than 50% of our
outstanding shares may be owned, directly or indirectly by five or fewer
individuals (as defined in the federal tax laws to include certain entities)
during the last half of each taxable year (other than our first REIT taxable
year). To preserve our REIT status, our charter generally prohibits direct or
indirect ownership by any person of more than 9.8% of the number or value of
outstanding shares of any class of our securities, including our common stock.
Generally, common stock owned by affiliated owners will be aggregated for
purposes of the ownership limitation. Any transfer of our common stock that
would disqualify our REIT status will be null and void, and the intended
transferee will acquire no rights in such stock. The ownership limitation could
have the effect of delaying, deterring or preventing a change in control or
other transaction in which holders of common stock might receive a premium for
their common stock over the then current market price or which such holders
might believe to be otherwise in their best interest. Further, shares that are
transferred in excess of the 9.8% ownership limit will be designated as "excess
shares" subject to redemption. The ownership limitation provisions also may make
our common stock an unsuitable investment vehicle for any person seeking to
obtain, either alone or with others as a group, ownership of more than 9.8% of
the number or value of outstanding shares of any class of our securities.
16
PROVISIONS OF OUR CHARTER DOCUMENTS COULD DETER A TAKEOVER, WHICH COULD INHIBIT
YOUR ABILITY TO RECEIVE AN ACQUISITION PREMIUM FOR YOUR SHARES.
Provisions of our charter and bylaws could make it more difficult for a
third party to acquire us, even if doing so would be beneficial to our
stockholders. See "Material Provisions of Maryland Law and of our Charter and
Bylaws."
MARYLAND LAW MAY DISCOURAGE A THIRD PARTY FROM ACQUIRING US, WHICH COULD INHIBIT
YOUR ABILITY TO RECEIVE AN ACQUISITION PREMIUM FOR YOUR SHARES.
Maryland law provides broad discretion to our board of directors with
respect to its duties in considering a change in control of our company,
including that our board is subject to no greater level of scrutiny in
considering a change in control transaction than with respect to any other act
by our board.
Maryland law restricts mergers and other business combinations between our
company and an interested stockholder. An "interested stockholder" is defined as
any person who is the beneficial owner of 10% or more of the voting power of our
common stock and also includes any of our affiliates or associates that, at any
time within the two year period prior to the date of a proposed merger or other
business combination, was the beneficial owner of 10% or more of our voting
power. A person is not an interested stockholder if, prior to the most recent
time at which the person would otherwise have become an interested stockholder,
our board of directors approved the transaction which otherwise would have
resulted in the person becoming an interested stockholder. For a period of five
years after the most recent acquisition of shares by an interested stockholder,
we may not engage in any merger or other business combination with that
interested stockholder or any affiliate of that interested stockholder. After
the five year period, any merger or other business combination must be approved
by our board of directors and by at least 80% of all the votes entitled to be
cast by holders of outstanding voting stock and two-thirds of all the votes
entitled to be cast by holders of outstanding voting stock other than the
interested stockholder or any affiliate or associate of the interested
stockholder unless, among other things, the stockholders (other than the
interested stockholder) receive a minimum price for their common stock and the
consideration received by those stockholders is in cash or in the same form as
previously paid by the interested stockholder for its common stock. These
provisions of the business combination statute do not apply to business
combinations that are approved or exempted by our board of directors prior to
the time that the interested stockholder becomes an interested stockholder.
However, the business combination statute could have the effect of discouraging
offers from third parties to acquire us and increasing the difficulty of
successfully completing this type of offer. See "Material Provisions of Maryland
Law and of our Charter and Bylaws -- Maryland Takeover Statutes."
OUR PRESIDENT AND CEO HAS AN EMPLOYMENT AGREEMENT THAT PROVIDES HIM WITH
BENEFITS IN THE EVENT HIS EMPLOYMENT IS TERMINATED, WHICH COULD PREVENT OR DETER
A POTENTIAL ACQUIRER FROM PURSUING A CHANGE OF CONTROL OF OUR COMPANY.
We have entered into an employment agreement with Thomas D. Peschio, our
president and chief executive officer, that provides him with severance benefits
if his employment ends due to a termination by us without cause. In the case of
such termination, the vesting of his restricted stock will accelerate. Mr.
Peschio also has the right to terminate his employment agreement for good
reason, which includes a change of control. Mr. Peschio's ability to terminate
his employment with us could prevent or deter a change of control of our company
that might involve a premium price for our common stock or otherwise be in the
best interests of our stockholders. See "Management -- Employment Agreements."
RISKS RELATED TO THE REAL ESTATE INDUSTRY
MORTGAGE DEBT OBLIGATIONS EXPOSE US TO INCREASED RISK OF PROPERTY LOSSES, WHICH
COULD HARM OUR FINANCIAL CONDITION, CASH FLOW AND ABILITY TO SATISFY OUR OTHER
DEBT OBLIGATIONS AND PAY DIVIDENDS.
Our policy is to use debt to finance, on average, approximately 75% of the
acquisition cost of the properties that we buy. Incurring mortgage debt
increases our risk of property losses because defaults on indebtedness secured
by properties may result in foreclosure actions initiated by lenders and
ultimately our
17
loss of the property securing any loans for which we are in default. For tax
purposes, a foreclosure of any of our properties would be treated as a sale of
the property for a purchase price equal to the outstanding balance of the debt
secured by the mortgage. The outstanding balance of the debt secured by the
mortgage could exceed our tax basis in the property. If this occurs, we would
recognize taxable income on foreclosure, but would not receive any cash
proceeds. As a result, we may be required to identify and utilize other sources
of cash to pay our taxes, which may result in a decrease in cash available for
distribution to our stockholders.
In addition, our default under any one of our mortgage debt obligations may
increase the risk of our default on our other indebtedness. If this occurs, our
financial condition, cash flow and ability to satisfy our other debt obligations
or ability to pay dividends may be harmed.
ILLIQUIDITY OF REAL ESTATE INVESTMENTS COULD SIGNIFICANTLY IMPEDE OUR ABILITY TO
RESPOND TO ADVERSE CHANGES IN THE PERFORMANCE OF OUR PROPERTIES AND HARM OUR
FINANCIAL CONDITION.
Because real estate investments are relatively illiquid, our ability to
promptly sell one or more properties in our portfolio in response to changing
economic, financial and investment conditions is limited. The real estate market
is affected by many factors that are beyond our control, including:
- adverse changes in national and local economic and market conditions;
- changes in interest rates and in the availability, cost and terms of debt
financing;
- changes in governmental laws and regulations, fiscal policies and zoning
ordinances and costs of compliance with laws and regulations, fiscal
policies and ordinances;
- the ongoing need for capital improvements, particularly in older
structures;
- changes in operating expenses; and
- civil unrest, acts of war and natural disasters, including earthquakes
and floods, which may result in uninsured and underinsured losses.
We cannot predict whether we will be able to sell any property for the
price or on the terms set by us, or whether any price or other terms offered by
a prospective purchaser would be acceptable to us. We also cannot predict the
length of time needed to find a willing purchaser and to close the sale of a
property. These factors and any others that would impede our ability to respond
to adverse changes in the performance of our properties could harm our operating
results and financial condition, as well as our ability to pay dividends to
stockholders.
COMPLIANCE WITH ENVIRONMENTAL LAWS COULD MATERIALLY INCREASE OUR OPERATING
EXPENSES.
Our properties may be subject to environmental liabilities. An owner of
real property can face liability for environmental contamination created by the
presence or discharge of hazardous substances on the property. We may face
liability regardless of:
- our knowledge of the contamination;
- the timing of the contamination;
- the cause of the contamination; or
- the party responsible for the contamination of the property.
There may be environmental problems associated with our properties of which
we are unaware. Some of our properties use, or may have used in the past,
underground tanks for the storage of petroleum-based or waste products that
could create a potential for release of hazardous substances. If environmental
contamination exists on our properties, we could become subject to strict, joint
and several liability for the contamination by virtue of our ownership interest.
The presence of hazardous substances on a property may adversely affect our
ability to sell the property and we may incur substantial remediation costs. In
addition, although we may require in our leases that
18
tenants operate in compliance with all applicable laws and to indemnify us
against any environmental liabilities arising from a tenant's activities on the
property, we could nonetheless be subject to strict liability by virtue of our
ownership interest, and we cannot be sure that our tenants would satisfy their
indemnification obligations under the applicable sales agreement or lease. The
discovery of environmental liabilities attached to our properties could harm our
results of operations and financial condition and our ability to pay dividends
to stockholders.
OUR PROPERTIES MAY CONTAIN OR DEVELOP HARMFUL MOLD, WHICH COULD LEAD TO
LIABILITY FOR ADVERSE HEALTH EFFECTS AND COSTS OF REMEDIATING THE PROBLEM.
When excessive moisture accumulates in buildings or on building materials,
mold growth may occur, particularly if the moisture problem remains undiscovered
or is not addressed over a period of time. Some molds may produce airborne
toxins or irritants. Concern about indoor exposure to mold has been increasing
as exposure to mold may cause a variety of adverse health effects and symptoms,
including allergic or other reactions. As a result, the presence of significant
mold at any of our properties could require us to undertake a costly remediation
program to contain or remove the mold from the affected property. In addition,
the presence of significant mold could expose us to liability from our tenants,
employees of our tenants and others if property damage for health concerns
arise.
COMPLIANCE WITH THE AMERICANS WITH DISABILITIES ACT AND FIRE, SAFETY AND OTHER
REGULATIONS MAY REQUIRE US TO MAKE UNEXPECTED EXPENDITURES THAT ADVERSELY IMPACT
OUR ABILITY TO PAY DIVIDENDS.
Some or all of our properties may be required to comply with the Americans
with Disabilities Act, or the ADA. The ADA has separate compliance requirements
for "public accommodations" and "commercial facilities," but generally requires
that buildings be made accessible to people with disabilities. Compliance with
the ADA requirements could require removal of access barriers and non-compliance
could result in imposition of fines by the U.S. government or an award of
damages to private litigants, or both. We will attempt to shift the cost of
compliance with the ADA to our tenants whenever possible. However, if we are
unable to negotiate lease terms to this effect, if required changes involve
greater expenditures than anticipated, or if the changes must be made on a more
accelerated basis than anticipated, we could be required to expend our own funds
to comply with the provisions of the ADA, which could adversely affect our
results of operations and financial condition and our ability to make
distributions to stockholders. In addition, we are required to operate our
properties in compliance with fire and safety regulations, building codes and
other land use regulations, as they may be adopted by governmental agencies and
bodies and become applicable to our properties. We may be required to make
substantial capital expenditures to comply with those requirements and these
expenditures could harm our ability to pay dividends to our stockholders.
AN UNINSURED LOSS OR A LOSS THAT EXCEEDS THE INSURANCE POLICY LIMITS ON OUR
PROPERTIES COULD SUBJECT US TO LOST CAPITAL OR REVENUE ON THOSE PROPERTIES.
Some of our properties may be covered by flood and earthquake insurance
policies obtained by and paid for by the tenants as part of their risk
management programs. Additionally, we have obtained blanket liability, flood and
property damage insurance policies to protect us and our properties against loss
should the indemnities and insurance policies provided by the tenants fail to
restore the properties to their condition prior to a loss. All of these policies
may involve substantial deductibles and certain exclusions. In certain areas, we
may have to obtain earthquake insurance on specific properties as required by
our lenders or by law. We have also obtained terrorism insurance on all of our
GSA-leased properties, but this insurance is subject to exclusions for loss or
damage caused by nuclear substances, pollutants, contaminants and biological and
chemical weapons. Should a loss occur that is uninsured or in an amount
exceeding the combined aggregate limits for the policies noted above, or in the
event of a loss that is subject to a substantial deductible under an insurance
policy, we could lose all or part of our capital invested in, and anticipated
revenue from, one or more of the properties, which could harm our operations
results and financial condition, as well as our ability to pay dividends to
stockholders at historical levels or at all.
19
TAX RISKS OF OUR BUSINESS AND STRUCTURE
AN INVESTMENT IN OUR COMMON STOCK HAS VARIOUS TAX RISKS THAT COULD AFFECT THE
VALUE OF YOUR INVESTMENT.
Although the provisions of the federal tax laws relevant to your investment
in our common stock are generally described in "Material United States Federal
Income Tax Consequences," we urge you to consult your own tax advisor concerning
the effects of federal, state and local income tax law on an investment in our
common stock, because of the complex nature of the tax rules applicable to REITs
and their stockholders. Future distributions may also include a significant
portion as a return of capital. See "Dividend Policy and Distributions."
DISTRIBUTION REQUIREMENTS IMPOSED BY LAW LIMIT OUR FLEXIBILITY IN EXECUTING OUR
BUSINESS PLAN.
After our election to become a REIT, we generally will be required to
distribute to our stockholders at least 90% of our taxable REIT income each year
in order to maintain our status as a REIT for federal income tax purposes.
Taxable REIT income is determined without regard to the deduction for dividends
paid and by excluding net capital gains. We are also required to pay tax at
regular corporate rates to the extent that we distribute less than 100% of our
taxable income (including net capital gains) each year. In addition, we are
required to pay 4% nondeductible excise tax on the amount, if any, by which
certain distributions we pay with respect to any calendar year are less than the
sum of 85% of our ordinary income for that calendar year, 95% of our capital
gain net income for the calendar year and any amount of our income that was not
distributed in prior years.
We intend to distribute to our stockholders all or substantially all of our
taxable REIT income each year in order to comply with the distribution
requirements of the federal tax laws and to avoid federal income tax and the
nondeductible excise tax. Differences in timing between the receipt of income
and the payment of expenses in arriving at taxable REIT income and the effect of
required debt amortization payments could require us to borrow funds on a
short-term basis to meet the distribution requirements that are necessary to
achieve the tax benefits associated with qualifying as a REIT.
WE MAY INCUR ADDITIONAL INDEBTEDNESS IN ORDER TO MEET OUR DISTRIBUTION
REQUIREMENTS.
After our election to become a REIT, we will be required to distribute at
least 90% of our taxable REIT income, which limits the amount of cash we will
have available for other business purposes, including amounts to fund our
growth. It is possible that because of the differences between the time we
actually receive revenue or pay expenses and the period we report those items
for distribution purposes, we may have to borrow funds on a short-term basis to
meet the 90% distribution requirement.
OUR DISPOSAL OF PROPERTIES MAY HAVE NEGATIVE IMPLICATIONS, INCLUDING UNFAVORABLE
TAX CONSEQUENCES.
If we make a sale of a property directly, and it is deemed to be a sale of
dealer property or inventory, the sale may be deemed to be a "prohibited
transaction" under the provisions of the federal tax laws applicable to REITs,
in which case our gain from the sale would be subject to a 100% penalty tax. If
we believe that a sale of a property might be treated as a prohibited
transaction, we will attempt to structure a sale through a taxable REIT
subsidiary, in which case the gain from the sale would be subject to corporate
income tax but not the 100% prohibited transaction tax. We cannot assure you,
however, that the IRS would not assert successfully that sales of properties
that we make directly, rather than through a taxable REIT subsidiary, were sales
of dealer property or inventory, in which case the 100% penalty tax would apply.
IF WE FAIL TO REMAIN QUALIFIED AS A REIT, OUR DIVIDENDS WILL NOT BE DEDUCTIBLE
BY US, AND OUR INCOME WILL BE SUBJECT TO TAXATION.
If we fail to remain qualified as a REIT, our dividends will not be
deductible by us and we will be subject to a corporate level tax on our taxable
income. This would substantially reduce our cash available to pay dividends and
the yield on your investment. Incurring corporate income tax liability might
cause us to borrow funds, liquidate some of our investments or take other steps
which could negatively affect our operating
20
results. If our REIT status is terminated because of our failure to meet a REIT
qualification requirement or if we voluntarily revoke our election, we would be
disqualified from electing treatment as a REIT for the four taxable years
following the year in which REIT status is lost.
WE MAY BE SUBJECT TO FEDERAL AND STATE INCOME TAXES THAT WOULD HARM OUR
FINANCIAL CONDITION.
Even if we qualify and maintain our status as a REIT, we may become subject
to federal income taxes and related state taxes. For example, if we have net
income from a sale of dealer property or inventory, that income will be subject
to a 100% penalty tax. In addition, we may not be able to pay sufficient
distributions to avoid corporate income tax and the 4% excise tax on
undistributed income. We may also be subject to state and local taxes on our
income or property, either directly or at the level of our operating partnership
or at a level of the other entities through which we indirectly own our
properties that would aversely affect our operating results. We cannot assure
you that we will be able to maintain REIT status, or that it will be in our best
interests to continue to do so.
WE MAY BE SUBJECT TO ADVERSE LEGISLATIVE OR REGULATORY TAX CHANGES THAT COULD
REDUCE THE MARKET PRICE OF OUR COMMON STOCK.
The federal tax laws governing REITs and the administrative interpretations
of those laws may be amended at any time. Any of those new laws or
interpretations may take effect retroactively. On May 28, 2003, President Bush
signed into law a tax bill that reduces the tax rate on both dividends and
long-term capital gains for most non-corporate taxpayers to 15% until 2008. This
reduced tax rate generally does not apply to ordinary REIT dividends, which will
continue to be taxed at the higher tax rates applicable to ordinary income. This
legislation could cause shares in non-REIT corporations to be a more attractive
investment to individual investors than they had been, and could harm the market
price of our common stock.
FORWARD-LOOKING STATEMENTS
We make forward-looking statements in this prospectus that are subject to
risks and uncertainties. These forward-looking statements are based on our
beliefs, assumptions and expectations of our future performance, taking into
account all information currently available to us. These beliefs, assumptions
and expectations can change as a result of many possible events or factors, not
all of which are known to us. Our actual results could vary materially from
those expressed in our forward-looking statements.
When we use the words "expect," "anticipate," "estimate," "may," "will,"
"should," "intend," "plan" or similar expressions, we intend to identify
forward-looking statements. Forward-looking statements also include the
assumptions that underlie such statements. The pro forma financial information
in this prospectus also includes forward-looking statements. We assume no
obligation to update any of our forward-looking statements.
You should not place undue reliance on these forward-looking statements
because they depend on assumptions, data or methodology that may be incorrect or
imprecise and we may not be able to realize them. You should carefully consider
the risks described in "Risk Factors" and elsewhere in this prospectus, which
could cause our actual results to differ materially from those contemplated in
our forward-looking statements.
21
USE OF PROCEEDS
Our net proceeds from this offering will be approximately $91.5 million,
after deducting the underwriting discount and estimated offering expenses
payable by us. If the underwriter's over-allotment option is exercised in full,
our net proceeds will be approximately $105.5 million.
We plan to use these proceeds as follows:
- approximately $250,000 to repay outstanding indebtedness owed to an
affiliate of our underwriter, FBR;
- approximately $1.6 million to repay outstanding indebtedness owed to
Genesis Financial Group, Inc.;
- approximately $2.4 million to repay outstanding indebtedness under a line
of credit used to finance the acquisition of our Charleston property;
- approximately $73.6 million to fund the purchase price (including closing
costs and excluding indebtedness owed to FBR) of the Harlingen, Baton
Rouge and Parkersburg properties described under "Proposed Acquisitions;"
- approximately $4.9 million to fund the equity portion of the purchase
price (including closing costs) of the College Park property described
under "Proposed Acquisitions;"
- approximately $7.2 million to fund the purchase price (including closing
costs) of the additional properties to be purchased in 2004; and
- the remainder for general corporate and working capital purposes.
Pending these uses, we intend to invest the net offering proceeds in
marketable, investment-grade securities that are consistent with our intention
to qualify as a REIT.
22
As of November 20, 2003, we were actively negotiating the following
acquisitions:
GROSS LEASE MATURITY/
PURCHASE TENANT/ YEAR BUILT/ SQ. FT. RENT/SQ. ANNUALIZED EARLY
LOCATION PRICE OCCUPANT RENOVATED LEASED FOOT RENT TERMINATION
-------- ----------- -------- ------------ ------- -------- ---------- ---------------
Harlingen, Texas..... $19,125,000 United States of 2000 53,075 $32.33 $1,715,770 Aug. 2015/ Oct.
America/Border 2014(1)
Patrol*
Harlingen, Texas..... $26,750,000 United States of 1998 17,423 $15.36 $ 267,612 Jan. 2018/Jan.
America/Immigration 2013(1)
&
Naturalization
Service I*
United States of 2002 107,836 $22.53 $2,429,334 Oct. 2022/ Nov.
America/ 2020
Immigration &
Naturalization
Service II*
Baton Rouge,
Louisiana.......... $ 6,600,000 United States of Under 36,287 $19.94 $ 723,600 Nov. 2018/ None
America/Veterans construction
Administration**
Parkersburg, West
Virginia........... $20,270,000 United States of Under 80,657 $26.63 $2,147,636 Nov. 2019(2)/
America/Bureau of construction None
Public Debt **
College Park,
Maryland........... $21,100,000(3) United States of Under 67,503(3) $35.23 $2,378,311 Jan. 2014(2)/
America/Food and construction None
Drug
Administration**
----------- -------
Total................ $93,845,000 362,781
=========== =======
LEASE
LOCATION TYPE
-------- -----
Harlingen, Texas..... Modified
Gross
Lease
Harlingen, Texas..... Modified
Gross
Lease
Modified
Gross
Lease
Baton Rouge,
Louisiana.......... Modified
Gross
Lease
Parkersburg, West
Virginia........... Modified
Gross
Lease
College Park,
Maryland........... Modified
Gross
Lease
Total................
---------------
* Under contract
** Under letter of intent
(1) The current owner is negotiating with the GSA to extend the term of this
lease and to remove the early termination provision. We will not acquire the
property unless and until this lease extension is finalized.
(2) The lease is for a fixed term commencing on the property completion date.
The Lease Maturity Date is estimated based on an assumed property completion
date. See "Business and Properties -- Proposed Acquisitions."
(3) Does not include approximately 15,000 square feet of vacant office space
that may be leased in the future. If this vacant space is leased prior to
building completion, we must pay an additional $2.4 million.
As used in the table above and throughout this prospectus, "Gross Annualized
Rent" is determined by multiplying August 2003 rents by 12 and "Rent Per Square
Foot" is determined by dividing the Gross Annualized Rent by the leased square
footage of the property.
23
CAPITALIZATION
The following table sets forth:
- our actual capitalization as of September 30, 2003; and
- our pro forma capitalization, as adjusted to give effect to the sale of
common stock in this offering at an assumed offering price of $10.00 per
share, not including shares subject to the underwriter's over-allotment
option, net of the underwriting discount and estimated expenses payable
by us in connection with this offering and additional mortgage notes
payable associated with the purchase of the six properties identified in
"Proposed Acquisitions."
This table should be read in conjunction with "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and our historical
and unaudited pro forma financial information and related notes included
elsewhere in this prospectus. This table does not reflect the effects of any of
our acquisitions under contract.
HISTORICAL PRO FORMA PRO FORMA
SEPTEMBER 30, 2003 ADJUSTMENTS SEPTEMBER 30, 2003
------------------ ------------ ------------------
DEBT:
Line of credit........................ $ 2,397,655 $ (2,397,655) $ --
Mortgage notes payable................ 27,892,521 16,500,000 44,392,521
Mortgage note payable-affiliate....... 1,639,219 (1,639,219) --
----------- ------------ ------------
Total debt............................ 31,929,395 12,463,126 44,392,521
----------- ------------ ------------
SHAREHOLDERS' EQUITY:
Common stock(a)....................... 8,371,988 91,500,000 99,871,988
Retained deficit...................... (713,739) -- (713,739)
----------- ------------ ------------
Total shareholders' equity............ 7,658,249 91,500,000 99,158,249
----------- ------------ ------------
Total capitalization.................. $39,587,644 $103,963,126 $143,550,770
=========== ============ ============
---------------
(a) As of September 30, 2003, we had 10,000,000 shares of common stock
authorized, of which 975,552 shares were outstanding, with a par value of
$10.00 per share. All of these outstanding shares were sold at $10.00 per
share. Immediately upon the completion of this offering and our
reincorporation as a Maryland corporation, we will have 50,000,000 shares of
common stock authorized, of which 11,125,552 will be outstanding, with a par
value of $0.01 per share.
The following summarizes the changes in our common stock as a result of
this offering, assuming a sales price of $10.00 per share:
Gross proceeds.............................................. $100,000,000
Underwriting discounts, commissions and expenses............ (7,750,000)
Other offering costs........................................ (750,000)
------------
Net offering proceeds....................................... $ 91,500,000
============
24
DILUTION
NET TANGIBLE BOOK VALUE
As of September 30, 2003, we had net tangible book value of $1,234,901 or
approximately $1.27 per share. Net tangible book value per share represents the
amount of our total tangible assets less our total liabilities, divided by the
number of shares of our common stock outstanding.
In connection with the purchase of the five properties in our initial
portfolio, we allocated $3,022,778 to tenant origination costs and $3,657,682 to
intangible lease costs. If we included the net, unamortized amount of these
tenant origination costs and intangible lease costs at September 30, 2003 of
$6,423,368 to our net tangible book value at September 30, 2003, our net
tangible book value per share would be $7.85 per share.
DILUTION AFTER THIS OFFERING
Dilution in net tangible book value per share represents the difference
between the amount per share paid by purchasers of common stock in this offering
and the net tangible book value per share of our common stock immediately after
this offering. After giving effect to the sale of the common stock offered by
this prospectus, at an assumed public offering price of $10.00 per share, and
our receipt of approximately $91.5 million in net proceeds from this offering,
after deducting the underwriting discount and estimated offering expenses
(assuming no exercise of the underwriter's overallotment option), our pro forma
net tangible book value as of September 30, 2003 would have been approximately
$76.5 million, or $6.87 per share. This amount represents an immediate increase
in net tangible book value of $5.60 per share to existing stockholders prior to
this offering and an immediate dilution in pro forma net tangible book value of
$3.13 per share to new investors. The following table illustrates this per share
dilution:
Public offering price per share in this offering............ $10.00
Historical net tangible book value per share as of September
30, 2003.................................................. $ 1.27
Increase in pro forma net tangible book value per share to
existing stockholders attributable to this offering....... $ 5.60
Pro forma net tangible book value per share after this
offering.................................................. $ 6.87
Dilution in pro forma net tangible book value per share to
new investors............................................. $ 3.13
With respect to the purchase of our five properties in our initial
portfolio and the three properties in our acquisitions under contract included
in our consolidated pro forma balance sheet, $22,910,510 was allocated to tenant
origination costs and intangible lease costs. If we included the pro forma net,
unamortized amount of the tenant origination costs and intangible lease at
September 30, 2003 of $22,653,398 to our pro forma tangible net book at
September 30, 2003, our pro forma tangible net book value per share would be
$8.91 per share.
25
DIVIDEND POLICY AND DISTRIBUTIONS
We intend to distribute to our stockholders all or substantially all of our
taxable REIT income each year in order to comply with the distribution
requirements of the federal tax laws and to avoid federal income tax and the
nondeductible excise tax. To qualify as a REIT, we must distribute to our
stockholders an amount at least equal to (i) 90% of our taxable REIT income
(determined before the deduction for dividends paid and excluding any net
capital gain) plus (ii) 90% of the excess of our net income from foreclosure
property over the tax imposed on such income less (iii) any excess non-cash
income (as determined under the federal tax laws). See "Material United States
Federal Income Tax Consequences."
Dividends must be authorized by our board of directors and will be based
upon a number of factors, including restrictions under applicable law. In
addition, our board of directors will be prohibited from authorizing a dividend
if, after giving effect to the dividend, we would not be able to pay our
indebtedness as it becomes due in the usual course of business or our total
assets would be less than our total liabilities.
Our board of directors has the power to issue preferred stock or other
securities that have distribution rights senior to that of the common stock. Any
superior dividend rights could prevent us from paying dividends to the holders
of our common stock.
To the extent not inconsistent with maintaining REIT status, we may retain
accumulated earnings of any taxable REIT subsidiaries in those subsidiaries.
We declared our initial dividend of $0.075 per share of common stock, which
we paid on January 31, 2003. We paid subsequent dividends of $0.15 per share on
April 15, 2003 and July 15, 2003. The foregoing dividends were paid to our
stockholders on a pro-rata basis based upon the date on which the shares of our
common stock were obtained by such stockholders. On September 26, 2003, we
declared a dividend of $0.15 per share, which was paid on October 15, 2003 to
stockholders of record on September 30, 2003. In accordance with our recently
adopted policy, this dividend and future dividends will not be paid on a pro
rata basis. Initially, we intend to maintain a dividend of at least $0.15 per
share per quarter. There is, of course, no assurance that we will be able to
maintain our dividend at this level, or at all. See "Risk Factors."
26
SELECTED FINANCIAL INFORMATION
The following table sets forth our selected historical operating and
financial data. The following selected historical consolidated financial
information as of December 31, 2002 and 2001 and for the years then ended were
derived from our audited financial statements contained elsewhere in this
prospectus. The following selected historical consolidated financial information
as of September 30, 2003 and for the nine months ended September 30, 2003 and
2002, were derived from our unaudited financial statements contained elsewhere
in this prospectus. The unaudited historical consolidated financial statements
included all adjustments, consisting of normal recurring adjustments, which we
considered necessary for a fair presentation of our financial condition and the
results of operations as of such date and for such periods under generally
accepted accounting principles.
You should read the information below in conjunction with the other
financial information and analysis presented in this prospectus, including
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and our consolidated financial statements and related notes.
NINE MONTHS ENDED YEAR ENDED
SEPTEMBER 30, DECEMBER 31,
------------------- ----------------
2003 2002 2002 2001
---------- ------ ------- ------
OPERATING INFORMATION(1):
Revenue:
Rental income......................................... $2,112,377 $ -- $ 4,885 $ --
Amortization of lease intangible costs................ (148,997) -- -- --
---------- ------ ------- ------
Total net revenue..................................... 1,963,380 -- 4,885 --
Expenses:
Property operations................................... 380,110 -- -- --
Real estate taxes..................................... 185,369 -- --
Depreciation and amortization......................... 477,925 -- 4,220 --
General and administrative............................ 398,824 51 8,836 --
---------- ------ ------- ------
Total expenses........................................ 1,442,228 51 13,056 --
---------- ------ ------- ------
Operating income (loss)............................... 521,152 (51) (8,171) --
Other income.......................................... 39,356 133 3,183 1,340
Interest:
Expense............................................... (885,572) (177) (822) --
Amortization of deferred financing fees............... (14,461) --
---------- ------ ------- ------
Income (loss) before income taxes..................... (339,525) (95) (5,810) 1,340
Income tax (expense) benefit.......................... -- -- 725 (725)
---------- ------ ------- ------
Net income (loss)..................................... $ (339,525) $ (95) $(5,085) $ 615
========== ====== ======= ======
Earnings per share (basic and diluted)................ $ (0.43) $(0.01) $ (0.24) $ 0.06
========== ====== ======= ======
27
DECEMBER 31,
SEPTEMBER 30, ---------------------
2003 2002 2001
------------- ---------- --------
BALANCE SHEET INFORMATION(1):
Investment in real estate, net........................... $38,645,992 $4,384,090 $ --
Cash and cash equivalents(2)............................. 1,062,060 2,314,319 956
Total assets............................................. 40,186,261 6,879,595 181,101
Lines of credit.......................................... 2,397,655 337,867 --
Mortgage notes payable................................... 27,892,521 3,202,333 --
Mortgage note payable -- affiliate....................... 1,639,219 -- --
Total liabilities........................................ 32,528,012 3,917,057 80,486
Total liabilities and shareholders' equity............... 40,186,261 6,879,595 181,101
NINE MONTHS ENDED YEAR ENDED
SEPTEMBER 30, DECEMBER 31,
----------------------- ---------------------
2003 2002 2002 2001
------------ -------- ----------- -------
OTHER INFORMATION:
Cash flow:
Provided by (used in) operating activity.... $ (325,997) $ 14,662 $ 153,208 $ 5,989
Used in investing activity.................. $(32,256,934) $ -- $(4,523,548) $ --
Provided by (used in) financing activity.... $ 30,839,752 $(15,606) $ 6,683,703 $(5,033)
Property rentable square footage(1)........... 248,848 -- 70,707 --
EBITDA -- historical(3)....................... $ 1,187,430 $ 82 $ (1,590) $ 1,340
EBITDA -- pro forma(3)........................ $ 3,914,485 $ 4,328,995
---------------
(1) We acquired our first operating property on December 26, 2002.
(2) Includes restricted cash of $490,920 at September 30, 2003.
(3) EBITDA is defined as earnings before interest, income taxes, depreciation
and amortization. We believe EBITDA is useful to investors as an indicator
of our ability to service debt and pay cash distributions. EBITDA, as
calculated by us, may not be comparable to EBITDA reported by other
companies that do not define EBITDA exactly as we define the term. EBITDA
does not represent cash generated from operating activities determined in
accordance with generally accepted accounting principles (GAAP), and should
not be considered as an alternative to operating income or net income
determined in accordance with GAAP as an indicator of performance or as an
alternative to cash flows from operating activities as an indicator of
liquidity.
GAAP Reconciliation
HISTORICAL PRO FORMA
------------------------------------ --------------------------------
NINE MONTHS ENDED YEAR ENDED
SEPTEMBER 30, DECEMBER 31, NINE MONTHS ENDED YEAR ENDED
----------------- ---------------- SEPTEMBER 30, DECEMBER 31,
2003 2002 2002 2001 2003 2002
---------- ---- ------- ------ ----------------- ------------
Net income (loss).............. $ (339,525) $(95) $(5,085) $ 615 $ 683,051 $ 590,677
Add back (deduct):
Depreciation and
amortization(a).............. 626,922 -- 4,220 -- 1,966,912 2,069,887
Interest expense............... 900,033 177 -- -- 1,264,522 1,668,431
Income taxes................... -- -- (725) 725 -- --
---------- ---- ------- ------ ---------- ----------
EBITDA......................... $1,187,430 $ 82 $(1,590) $1,340 $3,914,485 $4,328,995
========== ==== ======= ====== ========== ==========
(a) Includes amortization of lease intangibles of $148,977, $447,003 and
$502,533 for the historical nine months ended September 30, 2003, the
pro forma nine months ended September 30, 2003 and the pro forma year
ended December 31, 2002, respectively, which is included as a reduction
of rental revenue.
28
UNAUDITED PRO FORMA
CONSOLIDATED FINANCIAL INFORMATION
The following unaudited pro forma consolidated financial information sets
forth:
- the historical financial information as of September 30, 2003, for the
nine months ended September 30, 2003 and for the year ended December 31,
2002 derived from our audited and unaudited financial statements;
- adjustments to give effect for our initial portfolio as if we owned them
from the inception of each period presented;
- adjustments to give effect to our proposed acquisitions;
- adjustments to give effect to the offering; and
- our pro forma, as adjusted unaudited consolidated balance sheet as of
September 30, 2003 and the pro forma, as adjusted, unaudited consolidated
statement of operations of us for the nine months ended September 30,
2003 and for the year ended December 31, 2002, as adjusted to give effect
to our initial portfolio, our proposed acquisitions and this offering.
This section contains forward-looking statements, which are projections of
future performance and the assumptions upon which the forward-looking statements
are based. Our actual results could differ materially from those expressed in
our forward-looking statements as a result of various risks, including those set
forth in "Risk Factors" and elsewhere in this prospectus. You should read the
information below along with all other financial information and analysis
presented in this prospectus, including the sections captioned "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
our historical financial statements and related notes.
The unaudited pro forma consolidated financial information is presented for
information purposes only. We do not expect that this information will reflect
our future results of operations or financial position. The unaudited pro forma
adjustments and eliminations are based on available information and upon
assumptions that we believe are reasonable. The unaudited pro forma financial
information assumes that the transactions and offering were completed as of
September 30, 2003 for purposes of the unaudited pro forma consolidated balance
sheet and as of the first day of the period presented for purposes of the
unaudited pro forma consolidated statements of operations.
29
CONSOLIDATED BALANCE SHEET
HISTORICAL AND PRO FORMA
SEPTEMBER 30, 2003
UNAUDITED PRO FORMA
HISTORICAL ADJUSTMENTS PRO FORMA
SEPTEMBER 30, AND SEPTEMBER 30,
2003 ELIMINATIONS 2003
------------- ------------ -------------
ASSETS
Real Estate, net.................................. $38,645,990 $ 95,252,676(3) $133,898,666
Cash and cash equivalents......................... 571,140 8,710,450(2) 9,281,590
Restricted cash escrows........................... 490,920 -- 490,920
Tenant receivable................................. 332,651 -- 332,651
Deferred costs, net............................... 120,249 -- 120,249
Other assets...................................... 25,311 -- 25,311
----------- ------------ ------------
$40,186,261 $103,963,126 $144,149,387
=========== ============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Accounts payable and accrued expenses............. $ 355,472 $ -- $ 355,472
Dividends payable................................. 147,620 -- 147,620
Lines of credit................................... 2,397,655 (2,397,655)(4) --
Mortgage notes payable............................ 27,892,521 16,500,000(5) 44,392,521
Mortgage note payable -- affiliate................ 1,639,219 (1,639,219)(4) --
Advances from affiliate........................... 95,525 -- 95,525
----------- ------------ ------------
Total liabilities................................. 32,528,012 12,463,126 44,991,138
Shareholders' equity
Common stock...................................... 8,371,988 91,500,000(1) 99,871,988
Retained deficit.................................. (713,739) -- (713,739)
----------- ------------ ------------
Total shareholders' equity........................ 7,658,249 91,500,000 99,158,249
----------- ------------ ------------
Total liabilities and shareholders' equity........ $40,186,261 $103,963,126 $144,149,387
=========== ============ ============
---------------
(1) Reflects the sale of 10,000,000 shares of our common stock at an assumed
sale price of $10 per share.
Gross proceeds.............................................. $100,000,000
Underwriting discounts and commissions and expenses......... (7,750,000)
Other offering expense...................................... (750,000)
------------
Net offering proceeds....................................... $ 91,500,000
============
(2) Adjustments to reflect use of proceeds:
Net proceeds from our offering.............................. $ 91,500,000
Uses of proceeds:
Repayment of line-of-credit -- underwriter(a)............... --
Repayment of line-of-credit -- financial institution........ (2,397,655)
Repayment of mortgage note payable -- affiliate............. (1,639,219)
Proceeds to be used for our proposed acquisitions(b)........ (78,752,676)
------------
$ 8,710,450
============
(a) We intend to use a portion of the proceeds to repay borrowings from a
line of credit provided by an affiliate of our underwriter, FBR. The
borrowings under this line were used to fund a portion of our proposed
acquisitions. No amounts were drawn from this line of credit at
September 30, 2003. The
30
estimated amount to be used from our offering proceeds is $250,000.
Since no amounts were drawn at September 30, 2003, we have shown use of
proceeds to fund our proposed acquisitions.
(b) We intend to use proceeds from our offering to fund 100% of the
purchase price of our proposed acquisitions except for the College Park
FDA Property and the Parkersburg BPD Property. See Note 5 below for
debt associated with those acquisitions.
(3) Adjustment to reflect the purchase of our proposed acquisitions:
HARLINGEN B/P HARLINGEN INS BATON ROUGE VA PARKERSBURG BPD COLLEGE PARK FDA
PROPERTY PROPERTY PROPERTY PROPERTY PROPERTY TOTAL
------------- ------------- -------------- --------------- ---------------- ------------
Land.................. $ 2,626,516 $ 3,673,689 $ 906,405 $ 2,783,763 $ 2,897,751 $ 12,888,124
Building and
improvements........ 13,477,781 18,851,275 4,651,156 14,284,686 14,869,604 66,134,502
Tenant origination
costs............... 1,496,615 2,093,304 516,479 1,586,216 1,651,167 7,343,781
Lease intangibles..... 1,810,964 2,532,982 624,960 1,919,385 1,997,978 8,886,269
----------- ----------- ---------- ----------- ----------- ------------
Total purchase
price............... $19,411,876 $27,151,250 $6,699,000 $20,574,050 $21,416,500 $ 95,252,676
=========== =========== ========== =========== =========== ============
The above amounts are based upon the contract price and include estimated
closing costs equal to 1.5% of the purchase price. We have not yet
determined the allocation of the above purchase prices to their fair value
components (land, building and improvements, tenant origination costs and
lease intangibles) in accordance with Statement of Financial Accounting
Standards No. 141 "Business Combinations" ("SFAS No. 141"). We used our
historical averages to estimate the fair market value components to
determine our pro forma adjustments for depreciation and amortization.
In addition, the Harlingen INS Properties were built in two phases: Phase I
was placed in service in 1998 and Phase II was placed in service on October
16, 2002. Phase I was occupied for all 2002 and 2003 while Phase II was
occupied when it was completed in October 2002 and for all of 2003. We
allocated the purchase price between Phase I and Phase II, based upon our
estimate of the relative fair value of the two phases, for pro forma 2002
depreciation and amortization expense and interest expense to match Phase
II revenue and related expenses.
The Baton Rouge VA Property is under construction and is expected to be
available for occupancy in the fourth quarter of 2003, the College Park FDA
Property is under construction and is expected to be available for
occupancy in the first quarter of 2004, and the Parkersburg BPD Property is
under construction and is expected to be available for occupancy in the
fourth quarter of 2004. Our intention is to acquire these properties on the
dates they become available for occupancy. Since these properties are
currently under construction, they have no historical operating activity.
(4) Adjustment to reflect the repayment of amounts outstanding at September 30,
2003 on our lines of credit from financial institutions and a mortgage note
payable to an affiliate with proceeds from our offering:
Lines of credit -- financial institutions................... $2,397,655
==========
Mortgage note payable -- affiliate.......................... $1,639,219
==========
(5) Adjustment to reflect additional mortgage debt related to the purchase of
our proposed acquisitions:
MORTGAGE
DEBT
-----------
College Park FDA Property(a)................................ $16,500,000
===========
(a) We will assume the existing mortgage on the College Park Property as
part of our purchase, which bears interest at a fixed rate of 6.75% per
annum, requires monthly principal and interest payments, and matures in
2011.
31
CONSOLIDATED STATEMENTS OF OPERATIONS
HISTORICAL AND PRO FORMA
NINE MONTHS ENDED SEPTEMBER 30, 2003 AND THE
YEAR ENDED DECEMBER 31, 2002
NINE MONTHS ENDED SEPTEMBER 30, 2003 YEAR ENDED DECEMBER 31, 2002
--------------------------------------- ----------------------------------------
UNAUDITED PRO FORMA AUDITED PRO FORMA
HISTORICAL ADJUSTMENTS PRO FORMA HISTORICAL ADJUSTMENTS PRO FORMA
---------- ----------- ---------- ---------- ----------- -----------
Revenue:
Rental income............ $2,112,377 $1,183,253(1) $6,638,577 $ 4,885 $ 4,344,770(1) $ 6,882,461
3,342,947(2) 2,532,806(2)
Tenant reimbursements.... -- --(1) -- -- 113,632(1) 113,632
Amortization of
intangible costs....... (148,997) (75,939)(1) (447,023) -- (299,915)(1) (502,533)
(222,087)(2) (202,618)(2)
---------- ---------- ---------- ------- ----------- -----------
Total net revenue........ 1,963,380 4,228,174 6,191,554 4,885 6,488,675 6,493,560
Expenses:
Property Operations...... 380,110 278,385(1) 1,639,528 -- 1,034,305(1) 1,706,426
981,033(2) 672,121(2)
Real estate taxes........ 185,369 110,039(1) 589,310 -- 381,760(1) 748,692
293,902(2) 366,932(2)
Depreciation and
amortization........... 477,925 236,714(3) 1,519,889 4,220 907,228(3) 1,567,354
805,250(4) 655,906(4)
General and
administrative......... 398,824 135,786(5) 534,610 8,836 206,327(5) 215,163
---------- ---------- ---------- ------- ----------- -----------
Total expenses........... 1,442,228 2,841,109 4,283,337 13,056 4,224,579 4,237,635
---------- ---------- ---------- ------- ----------- -----------
Operating income
(loss)................. 521,152 1,387,065 1,908,217 (8,171) 2,264,096 2,255,925
Other income............. 39,356 -- 39,356 3,183 -- 3,183
Interest expense......... (885,572) (359,948)(6) (1,245,520) (822) (1,653,148)(6) (1,653,970)
Amortization of deferred
financing fees......... (14,461) (4,541)(6) (19,002) -- (14,461)(6) (14,461)
---------- ---------- ---------- ------- ----------- -----------
Income (loss) before
income taxes........... (339,525) 1,022,576 683,051 (5,810) 596,487 590,677
Income tax benefit....... -- --(7) -- 725 (725)(7) --
---------- ---------- ---------- ------- ----------- -----------
Net income (loss)........ $ (339,525) $1,022,576 $ 683,051 $(5,085) $ 595,762 $ 590,677
========== ========== ========== ======= =========== ===========
Earnings per common
share -- diluted....... $ (0.43) $ 0.06 $ (0.24) $ 0.05
========== ========== ======= ===========
Weighted average common
shares outstanding --
diluted................ 794,590 (8) 11,133,052 21,182 (8) 11,133,052
========== ========== ======= ===========
(1) Adjustments to reflect the historical operations (except (a)) of our initial
portfolio as if we owned them from January 1, 2002 through their date of
acquisition as follows:
PROPERTY MONTH/YEAR OF ACQUISITION
-------- -------------------------
Bakersfield Property........................................ January 2003
Charleston Property......................................... April 2003
Clarksburg Property......................................... April 2003
Kingsport Property.......................................... April 2003
Harahan Property............................................ December 2002
32
ADJUSTMENTS FOR NINE MONTHS ENDED SEPTEMBER 30, 2003
----------------------------------------------------
CHARLESTON CLARKSBURG KINGSPORT
PROPERTY PROPERTY PROPERTY TOTAL
----------- ----------- ---------- -----------
Revenue:
Rent..................................... $622,148 $427,762 $133,343 $1,183,253
Amortization of intangible lease
costs(a)............................... (32,816) (33,535) (9,588) (75,939)
-------- -------- -------- ----------
Net rental revenue....................... 589,332 394,227 123,755 1,107,314
-------- -------- -------- ----------
Expenses:
Property Operations...................... 130,601 114,875 32,909 278,385
Real estate taxes........................ 66,130 36,370 7,539 110,039
-------- -------- -------- ----------
Total expenses........................... 196,731 151,245 40,448 388,424
-------- -------- -------- ----------
Revenue in excess of expenses............ $392,601 $242,982 $ 83,307 $ 718,890
======== ======== ======== ==========
ADJUSTMENTS FOR YEAR ENDED DECEMBER 31, 2002
-------------------------------------------------------------------------
BAKERSFIELD CHARLESTON CLARKSBURG KINGSPORT HARAHAN
PROPERTY PROPERTY PROPERTY PROPERTY PROPERTY TOTAL
----------- ---------- ---------- --------- -------- ----------
Revenue:
Rent................... $311,519 $1,994,322 $1,280,345 $400,029 $358,555 $4,344,770
Tenant
reimbursements....... -- 112,252 -- 1,380 -- 113,632
Amortization of
intangible lease
costs(a)............. (33,792) (107,400) (106,836) (28,764) (23,123) (299,915)
-------- ---------- ---------- -------- -------- ----------
Net rental revenue..... 277,727 1,999,174 1,173,509 372,645 335,432 4,158,487
-------- ---------- ---------- -------- -------- ----------
Expenses:
Property
Operations(b)........ 77,960 481,967 361,790 98,728 13,860 1,034,305
Real estate taxes...... 22,692 219,804 116,647 22,617 -- 381,760
-------- ---------- ---------- -------- -------- ----------
Total expenses......... 100,652 701,771 478,437 121,345 13,860 1,416,065
-------- ---------- ---------- -------- -------- ----------
Revenue in excess of
expenses............. $177,075 $1,297,403 $ 695,072 $251,300 $321,572 $2,742,422
======== ========== ========== ======== ======== ==========
(a) Represents the amortization of intangible lease costs for our initial
portfolio in accordance with SFAS No. 141. See Note 7 to our
consolidated financial statements for additional information.
(b) Historical property operations for the Bakersfield Property has been
adjusted to include property management fees of 3% of rental revenue
totaling $9,346. Historically, the property did not incur property
management fees. However, on a going forward basis the property will
incur property management fees.
(2) Adjustments to reflect the historical operations (except (a) and (b)) of our
proposed acquisitions that had historical operations prior to September 30,
2003 as if we owned them from the beginning of each period presented as
follows:
PROPERTY ESTIMATED CLOSING DATE
-------- ----------------------
Harlingen Border Patrol Property............................ December 2003
Harlingen INS Properties.................................... December 2003
33
ADJUSTMENTS FOR
NINE MONTHS ENDED SEPTEMBER 30, 2003
---------------------------------------
HARLINGEN HARLINGEN
BORDER PATROL INS
PROPERTY PROPERTIES TOTAL
------------- ---------- ----------
Revenue:
Rent............................................ $1,295,417 $2,047,530 $3,342,947
Amortization of intangible lease costs(a)....... (110,875) (111,212) (222,087)
---------- ---------- ----------
Net rental revenue.............................. 1,184,542 1,936,318 3,120,860
---------- ---------- ----------
Expenses:
Property Operations(b).......................... 318,552 662,481 981,033
Real estate taxes............................... 98,799 195,103 293,902
---------- ---------- ----------
Total expenses.................................. 417,351 857,584 1,274,935
---------- ---------- ----------
Revenue in excess of expenses................... $ 767,191 $1,078,734 $1,845,925
========== ========== ==========
ADJUSTMENTS FOR
YEAR ENDED DECEMBER 31, 2002
---------------------------------------
HARLINGEN HARLINGEN
BORDER PATROL INS
PROPERTY PROPERTIES TOTAL
------------- ---------- ----------
Revenue:
Rent.............................................. $1,726,245 $806,561 $2,532,806
Amortization of intangible lease costs(a)......... (147,834) (54,784) (202,618)
---------- -------- ----------
Net rental revenue................................ 1,578,411 751,777 2,330,188
---------- -------- ----------
Expenses:
Property Operations(b)............................ 400,016 272,105 672,121
Real estate taxes................................. 137,882 229,050 366,932
---------- -------- ----------
Total expenses.................................... 537,898 501,155 1,039,053
---------- -------- ----------
Revenue in excess of expenses..................... $1,040,513 $250,622 $1,291,135
========== ======== ==========
(a) Represents the amortization of our estimate of intangible lease costs
for our proposed acquisitions in accordance with SFAS No. 141. (See
Note 3 to our consolidated pro forma balance sheet for additional
information.)
(b) Historically the Harlingen properties did not incur property management
fees. We have included in pro forma property operations expenses an
estimate of property management fees based upon the fees we will incur
on a going forward basis of 3% of gross revenue as follows:
ADJUSTMENTS FOR ADJUSTMENTS FOR
NINE MONTHS ENDED YEAR ENDED
SEPTEMBER 30, 2003 DECEMBER 31, 2002
------------------ -----------------
Harlingen Border Patrol Property........... $38,863 $51,787
Harlingen INS Properties................... $61,426 $24,197
(c) The construction of an addition to the building (107,836 square feet)
was completed on October 16, 2002, at which time the tenant began
paying rent. Rental revenue and related operating expenses for the
addition included in the year ended December 31, 2002 are for the
period from October 16, 2002 through December 31, 2002.
34
(3) Adjustments to reflect depreciation and amortization expense of our initial
portfolio as if we owned them from January 1, 2002 through their date of
acquisition. The adjustments are based upon the individual properties'
depreciable costs utilizing our depreciation policy.
ADJUSTMENTS FOR
NINE MONTHS ENDED SEPTEMBER 30, 2003
----------------------------------------------
CHARLESTON CLARKSBURG KINGSPORT
PROPERTY PROPERTY PROPERTY TOTAL
---------- ---------- --------- --------
Building and improvements.................. $ 97,238 $68,544 $15,573 $181,355
Tenant origination costs................... 27,125 19,113 9,121 55,359
-------- ------- ------- --------
Total depreciation and amortization
expense.................................. $124,363 $87,657 $24,694 $236,714
======== ======= ======= ========
ADJUSTMENTS FOR YEAR ENDED DECEMBER 31, 2002
-----------------------------------------------------------------------
BAKERSFIELD CHARLESTON CLARKSBURG KINGSPORT HARAHAN
PROPERTY PROPERTY PROPERTY PROPERTY PROPERTY TOTAL
----------- ---------- ---------- --------- -------- --------
Building and improvements.... $38,448 $315,480 $216,612 $46,716 $76,528 $693,784
Tenant origination costs..... 22,860 88,776 60,888 27,360 13,560 213,444
------- -------- -------- ------- ------- --------
Total depreciation and
amortization expense....... $61,308 $404,256 $277,500 $74,076 $90,088 $907,228
======= ======== ======== ======= ======= ========
(4) Adjustments to reflect our estimate of depreciation and amortization expense
of our proposed acquisitions as if we owned them from the beginning of each
period presented. The adjustments are based upon our estimate of the
individual properties' depreciable costs utilizing our depreciation policy.
(See Note 3 to our consolidated pro forma balance sheet for additional
information.)
ADJUSTMENTS FOR
NINE MONTHS ENDED SEPTEMBER 30, 2003
--------------------------------------
HARLINGEN
BORDER HARLINGEN
PATROL INS
PROPERTY PROPERTIES TOTAL
----------- ----------- ----------
Building and improvements............................ $259,188 $362,525 $621,713
Tenant origination costs............................. 91,629 91,908 183,537
-------- -------- --------
Total depreciation and amortization expense.......... $350,817 $454,433 $805,250
======== ======== ========
ADJUSTMENTS FOR
YEAR ENDED DECEMBER 31, 2002
---------------------------------
HARLINGEN
BORDER HARLINGEN
PATROL INS
PROPERTY PROPERTIES TOTAL
--------- ---------- --------
Building and improvements............................ $345,584 $142,874 $488,458
Tenant origination costs............................. 122,173 45,275 167,448
-------- -------- --------
Total depreciation and amortization expense.......... $467,757 $188,149 $655,906
======== ======== ========
(5) Adjustment to reflect a 3% administrative fee payable to an affiliate based
upon a service agreement we have with an affiliate. The adjustment is based
upon 3% of gross revenue from adjustments (1) and (2).
ADJUSTMENTS FOR ADJUSTMENTS FOR
NINE MONTHS ENDED YEAR ENDED
SEPTEMBER 30, 2003 DECEMBER 31, 2002
------------------ -----------------
General and administrative expenses................. $135,786 $206,327
======== ========
After the completion of this offering, we plan to become self managed and
will terminate the service agreement with our affiliate. On a going forward
basis, we will have increased general and administrative expenses,
including salaries, rent, professional fees and other corporate level
activity. The pro forma statements of operations do not include any
adjustments related to these additional costs. We estimate
35
that our annualized general and administrative expenses for our first full
year of operations to be in the range of $1.8 million to $2.2 million.
In connection with the providing of a line of credit, an affiliate of our
underwriter has been issued a warrant to purchase up to 150,000 shares of
our common stock (assuming no exercise of the underwriter's over-allotment
option). Based upon an assumed initial public offering price of $10 per
share, we will recognize an expense of approximately $1,500,000 upon
issuance. We also intend to issue restricted common shares to our directors
and certain officers after the completion of this offering. In addition, we
intend to grant to each of three of our board members 2,500 shares of our
common stock. The board common share grants will not be issued until early
2004. We would recognize additional expenses at an assumed initial public
offering price of $10.00 per share for each warrant or restricted share
granted over the related vesting period. No adjustments have been recorded
in the pro forma statements of operations as they would be nonrecurring
charges. However, we have included the warrants and board member stock
grants as common stock equivalents for computing our diluted earnings per
share computations. (See Note 8 below.)
(6) Adjustments to reflect interest expense of our initial portfolio as if we
owned the properties from January 1, 2002 through their date of acquisition.
The adjustments are based upon the individual properties' mortgage debt,
including the stated interest rate and amortization of deferred loan fees.
See Note 4 to our consolidated financial statements for additional
information.
ADJUSTMENTS FOR NINE MONTHS ENDED SEPTEMBER 30, 2003
-----------------------------------------------------------------------------
CHARLESTON
BAKERSFIELD CHARLESTON PROPERTY CLARKSBURG KINGSPORT
PROPERTY(A) PROPERTY ELIMINATION(A) PROPERTY PROPERTY TOTAL
----------- ---------- -------------- ---------- --------- --------
Interest expense..... $(44,180) $247,777 $(54,316) $147,339 $63,328 $359,948
Amortization of
deferred financing
fees............... -- 1,517 -- 1,925 1,099 4,541
-------- -------- -------- -------- ------- --------
$(44,180) $249,294 $(54,316) $149,264 $64,427 $364,489
======== ======== ======== ======== ======= ========
ADJUSTMENTS FOR YEAR ENDED DECEMBER 31, 2002
-----------------------------------------------------------
CHARLESTON CLARKSBURG KINGSPORT HARAHAN
PROPERTY PROPERTY PROPERTY PROPERTY TOTAL
---------- ---------- --------- -------- ----------
Interest expense............... $803,600 $477,855 $189,983 $181,710 $1,653,148
Amortization of deferred
financing fees............... 4,919 6,244 3,298 -- 14,461
-------- -------- -------- -------- ----------
$808,519 $484,099 $193,281 $181,710 $1,667,609
======== ======== ======== ======== ==========
(a) We will use a portion of the net proceeds to repay lines of credit from
financial institutions and a mortgage note payable -- affiliate. These
adjustments eliminate the historical interest expense we incurred
related to the lines of credit from financial institutions and mortgage
note payable -- affiliate as if they were repaid as of January 1, 2003.
We have not included any adjustment to interest expense for the year
ended December 31, 2002 for these debt instruments since the amounts
were not outstanding during 2002.
(7) Elimination of income tax expenses (benefit) since we intend to qualify as a
REIT. Other income taxes incurred as a REIT are deemed not significant.
(8) Adjustments to reflect the number of shares outstanding after this offering
and for common shares previously issued as if they were all outstanding at
January 1, 2002. We have also included the warrant to purchase shares of our
common stock and board common share grants described in Note 5 above, which
we have assumed is fully exercisable at the beginning of each period
presented. We also intend to issue restricted common shares to our directors
and certain officers after the completion of this offering. We
36
have not included any other restricted common shares to be issued to our
directors and certain officers being outstanding for purposes of earnings per
share.
NINE MONTHS
ENDED YEAR ENDED
SEPTEMBER 30, 2003 DECEMBER 31, 2002
------------------ -----------------
Shares issued from this Offering.................... 10,000,000 10,000,000
Shares outstanding at September 30, 2003............ 975,552 975,552
Common stock warrants -- an affiliate of
underwriter....................................... 150,000 150,000
Common stock grants -- board members................ 7,500 7,500
---------- ----------
11,133,052 11,133,052
========== ==========
37
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with "Selected
Financial Information" and our audited financial statements and the related
notes thereto.
OVERVIEW
We invest in single tenant properties under long-term leases to the U.S.
government, state governments, local governments, and government-sponsored
enterprises. We are a self-managed, self-administered company that will elect to
be taxed as a real estate investment trust, or REIT, under the federal tax laws.
We believe that we will be the only public company focused solely on investing
in government-leased properties.
Our business consists of buying and managing recently built or renovated
office properties primarily leased to the federal government, acting through the
GSA, under long-term leases. Our portfolio as of September 30, 2003 consisted of
five properties totaling 248,848 square feet. These properties are 100% occupied
and have a weighted-average remaining lease term of approximately 13 years based
on the square footage of the properties as of September 30, 2003. Our tenants
include the Department of Justice, the Drug Enforcement Administration, the
Federal Bureau of Investigation and the Social Security Administration.
Based on the credit worthiness of our governmental tenants, our policy is
to use debt to finance, on average, approximately 75% of the acquisition cost of
the properties that we buy. We intend to finance our future acquisitions with a
combination of equity, long-term fixed-rate debt and short-term credit lines. We
intend to use our credit lines to finance acquisitions and deposits on a
short-term basis. We are currently in discussions with a number of lenders to
provide us with a line of credit. Our objective is to finance each property with
long-term fixed-rate debt whose maturity matches or exceeds, to the extent
possible, the remaining term of the lease. This strategy minimizes interest rate
risk and should result in more consistent and reliable cash flow.
Leases for governmental tenants vary widely and include net leases, gross
leases and "modified" gross leases. Net leases require the tenant to pay all
operating expenses, gross leases require the landlord to pay all operating
expenses, and modified gross leases require the landlord and the tenant each to
pay a portion of the operating expenses. We intend to acquire properties with
all three types of leases, as well as variations of these leases, because we
believe that gross leases and modified gross leases may provide higher returns
for us than net leases. In our experience, GSA leases are generally modified
gross leases. We plan to mitigate the higher risk of gross leases and modified
gross leases through strict underwriting, due diligence and intensive property
management.
CRITICAL ACCOUNTING POLICIES
Revenue Recognition
We recognize rental revenue based upon the terms of the related lease
agreements for new leases and the remaining terms of existing leases for
acquired properties. Our leases are generally only subject to annual inflation
increases over the term of the lease for a portion of the rent due. Rental
payments received prior to their recognition as revenue are classified as rent
received in advance. Our leases generally contain provisions under which the
tenants reimburse us for real estate taxes incurred by us over a specified base
amount. Such amounts are recognized as tenant reimbursement revenue in the
period in which the real estate tax expenses over the specified base amount are
incurred.
We make estimates related to the collectibility of our accounts receivable
related to rent, expense reimbursements and other revenue. We specifically
analyze accounts receivable and historical bad debts, tenant concentrations,
tenant credit worthiness, geographic concentrations and current economic trends
when evaluating the adequacy of the allowance for doubtful accounts receivable.
These estimates have a direct impact on our net income because a higher bad debt
allowance would result in lower net income.
38
Real Estate
We record real estate at depreciated cost. Expenditures for ordinary
maintenance and repairs are expensed to operations as incurred. Significant
renovations and improvements that improve or extend the useful life of an asset
are capitalized and depreciated over their estimated useful life.
Depreciation is computed using the straightline method over the estimated
useful life of 39 years for buildings and improvements, five to seven years for
equipment and fixtures and the shorter of the useful life or the remaining lease
term for tenant improvements, tenant origination costs and intangible lease
costs.
We must estimate the useful lives of our properties for purposes of
determining the amount of depreciation to record on an annual basis with respect
to our investments in real estate. These assessments have a direct impact on our
net income because if we were to shorten the expected useful lives of our
investments in real estate we would depreciate these investments over fewer
years, resulting in more depreciation expense and lower net income on an annual
basis.
When circumstances such as adverse market conditions indicate a possible
impairment of the value of a property, we review the recoverability of the
property's carrying value. Our review of recoverability is based on an estimate
of the future undiscounted cash flows (excluding interest charges) expected to
result from the real estate investment's use and eventual disposition. Our cash
flow estimate considers factors such as expected future operating income, trends
and prospects, as well as the effects of leasing demand, competition and other
factors. If an impairment exists due to the inability to recover the carrying
value of a real estate investment, an impairment loss is recorded to the extent
that the carrying value exceeds the estimated fair value of the property. These
estimates have a direct impact on our net income because recording an impairment
loss results in an immediate negative adjustment to net income.
Purchase Price Allocation
We allocate the purchase price of properties we acquire to net tangible and
identified intangible assets acquired based on their fair values in accordance
with the provisions Statement of Financial Accounting Standards No. 141
"Business Combinations." In making estimates of fair values for purposes of
allocating purchase price, we utilize a number of sources, including independent
appraisals that may be obtained in connection with the acquisition or financing
of the respective property and other market data. We also consider information
obtained about each property as a result of our due diligence, marketing and
leasing activities in estimating the fair value of the tangible and intangible
assets acquired.
We allocate a portion of the purchase price to above-market and
below-market in-place lease values for acquired properties based on the present
value (using an interest rate which reflects the risks associated with the
leases acquired) of the difference between (i) the contractual amounts to be
paid pursuant to the in-place leases and (ii) our estimate of fair market lease
rates for the corresponding in-place leases, measured over the remaining
non-cancelable term of the lease. In the case of below market leases, we
consider the remaining contractual lease period and renewal periods, taking into
consideration the likelihood of the tenant exercising its renewal options. The
capitalized above-market lease values (presented as lease intangibles in
consolidated balance sheet) are amortized as a reduction of rental income over
the remaining non-cancelable terms of the respective leases, which currently
range from seven to 19 years. The capitalized below-market lease values
(presented as deferred income) are amortized as an addition to rental income
over the remaining contractual lease period and any renewal periods included in
the valuation analysis. We currently have no below-market leases. We also assume
that our at market rate tenants would not exercises any early terminations
clauses in determining the value allocated to their lease or the amortization of
the related lease costs. If a tenant terminates its lease, the unamortized
portion of the lease intangibles would be charged to expense.
We allocate a portion of the purchase to the value of leases acquired based
on the difference between (i) the property valued with existing in-place leases
adjusted to market rental rates and (ii) the property valued as if vacant. We
utilize independent appraisals or our estimates to determine the respective
in-place lease values. Our estimates of value are made using methods similar to
those used by independent appraisers. Factors we consider in our analysis
include an estimate of carrying costs during the expected lease-up periods
39
considering current market conditions, and costs to execute similar leases. In
estimating carrying costs, we include real estate taxes, insurance and other
operating expenses and estimates of lost rentals at market rates during the
expected lease-up periods. We also estimate costs to execute similar leases
including leasing commissions, legal and other related expenses.
We also consider an allocation of purchase price to in-place leases that
have a related customer relationship intangible value. Characteristics we
consider in allocating these values include the nature and extent of existing
business relationships with the tenant, growth prospects for developing new
business with the tenant, the tenant's credit quality and expectations of lease
renewals, among other factors. We currently have the U.S. government as our
major tenant, but have not yet developed a relationship that we would consider
to have any current intangible value.
The value of in-place leases (presented as tenant origination costs in
consolidated balance sheet) is amortized to expense over the remaining initial
term of the respective leases. The value of customer relationship intangibles is
amortized to expense over the remaining initial term, including any renewal
periods included in the valuation analysis for the respective leases considered
in our valuation analysis, but in no event does the amortization period for
intangible assets exceed the remaining depreciable life of the building. Should
a tenant terminate its lease, the unamortized portion of the tenant origination
costs and customer relationship intangibles would be charged to expense.
Amounts allocated to tangible land, building, tenant improvements,
equipment and fixtures are based on independent appraisals or our own analysis
of comparable properties in the existing portfolio. Depreciation is computed
using the straight-line method over the estimated life of 39 years for
buildings, five to seven years for building equipment and fixtures, and the
lesser of the useful life or the remaining lease term for tenant improvements.
RESULTS OF OPERATIONS
The following table presents a comparison of our operating results for the
nine months ended September 30, 2003 and 2002 and for the years ended December
31, 2002 and 2001. We commenced operations in December 2002 when we acquired our
first property. During 2003, we acquired four additional properties. Prior to
December 2002, our operations were limited to pursuing property acquisitions.
NINE MONTHS ENDED SEPTEMBER 30 YEAR ENDED DECEMBER 31
------------------------------- ------------------------------
INCREASE INCREASE
2003 2002 (DECREASE) 2002 2001 (DECREASE)
---------- ----- ---------- ------- ------- ----------
Revenue:
Rental income............... $2,112,377 $ -- $2,112,377 $ 4,885 $ -- $ 4,885
Amortization of lease
intangible costs.......... (148,997) -- (148,997) -- -- --
---------- ----- ---------- ------- ------- -------
Total net revenue........... 1,963,380 -- 1,963,380 4,885 -- 4,885
Expenses:
Property Operations......... 380,110 -- 380,110 -- -- --
Real estate taxes........... 185,369 -- 185,369 -- -- --
Depreciation and
amortization.............. 477,925 477,925 4,220 -- 4,220
General and
administrative............ 398,824 51 398,773 8,836 -- 8,836
---------- ----- ---------- ------- ------- -------
Total expenses.............. 1,442,228 51 1,442,177 13,056 -- 13,056
---------- ----- ---------- ------- ------- -------
Operating income (loss)..... 521,152 (51) 521,203 (8,171) -- (8,171)
Other income................ 39,356 133 39,223 3,183 1,340 1,843
40
NINE MONTHS ENDED SEPTEMBER 30 YEAR ENDED DECEMBER 31
------------------------------- ------------------------------
INCREASE INCREASE
2003 2002 (DECREASE) 2002 2001 (DECREASE)
---------- ----- ---------- ------- ------- ----------
Interest expense............ (885,572) (177) (885,395) (822) -- 822
Amortization of deferred
financing fees............ (14,461) -- (14,461) -- -- --
---------- ----- ---------- ------- ------- -------
Income (loss) from
continuing operations and
before income taxes....... (339,525) (95) (339,430) (5,810) 1,340 (7,150)
Income tax benefit.......... -- -- 725 (725) 1,450
---------- ----- ---------- ------- ------- -------
Net income (loss)........... $ (339,525) $ (95) $ (339,430) $(5,085) $ 615 $(5,700)
========== ===== ========== ======= ======= =======
COMPARISON OF NINE MONTHS ENDED SEPTEMBER 30, 2003 TO NINE MONTHS ENDED
SEPTEMBER 30, 2002
Rental Revenue. Rental revenue was $2,112,377 and amortization of lease
intangible cost was $148,997 for the nine months ended September 30, 2003. We
had no property operations in the nine months ended September 30, 2002.
Therefore, the increase was due to our commencement of operations and
acquisition of five properties.
Property operations. Property operations expense was $380,110 for the nine
months ended September 30, 2003. We had no property operations in the nine
months ended September 30, 2002. Therefore, the increase was due to our
commencement of operations and acquisition of five properties.
Real estate taxes. Real estate tax expense was $185,369 for the nine
months ended September 30, 2003. We had no property operations in the nine
months ended September 30, 2002. Therefore, the increase was due to our
commencement of operations and acquisition of five properties.
Depreciation and amortization. Depreciation and amortization was $477,925
for the nine months ended September 30, 2003. We had no property operations in
the nine months ended September 30, 2002. Therefore, the increase was due to our
commencement of operations and acquisition of five properties.
General and administrative. General and administrative expense was
$398,824 for the nine months ended September 30, 2003. We had minimal operations
in the nine months ended September 30, 2002. Therefore, the increase was due to
our commencement of operations and acquisition of five properties.
Other income. Other income, which consists primarily of interest income,
was $39,356 for the nine months ended September 30, 2003. We had minimal
operations in the nine months ended September 30, 2002. The increase was
primarily due to interest income earned on short-term investments, which were
raised in our previous offering.
Interest expense. Interest expense (including amortization of deferred
financing fees) was $900,033 for the nine months ended September 30, 2003. We
had no property operations in the nine months ended September 30, 2002. The
increase was due to our commencement of operations and acquisition of five
properties.
COMPARISON OF YEAR ENDED DECEMBER 31, 2002 TO YEAR ENDED DECEMBER 31, 2001
Rental Revenue. Rental revenue was $4,885 for the year ended December 31,
2002. We had no operations in the year ended December 31, 2001. Therefore, the
increase was due to our commencement of operations with our first property
acquisition in December 2002.
Property operations. We had no property operations expense in either 2002
or 2001 since we did not acquire our first property until December 2002.
Real estate taxes. We had no real estate taxes in either 2002 or 2001
since we did not acquire our first property until December 2002.
41
Depreciation and amortization. Depreciation and amortization was $4,220
for the year ended December 31, 2002. We had no operations in the year ended
December 31, 2001. Therefore, the increase was due to our commencement of
operations with our first property acquisition in December 2002.
General and administrative. General and administrative expense was $8,836
for the year ended December 31, 2002. We had no operations in the year ended
December 31, 2001. Therefore, the increase was due to our commencement of
operations with our first property acquisition in December 2002.
Other income. Other income, which consists primarily of interest income,
increased $1,843 to $3,183 for the year ended December 31, 2002 from $1,340 for
the year ended December 31, 2001. We had no operations in the year ended
December 31, 2001. Therefore, the increase was primarily due to interest income
earned on short-term invested proceeds from our previous offering.
Interest expense. Interest expense was $822 for the year ended December
31, 2002. We had no operations in the year ended December 31, 2001. Therefore,
the increase was due to our commencement of operations with our first property
acquisition in December 2002.
LIQUIDITY AND CAPITAL RESOURCES
Our short-term liquidity requirements consist primarily of funds to pay for
operating expenses and other expenditures directly associated with our
properties, including:
- recurring maintenance, repairs and other operating expenses necessary to
maintain our properties;
- property taxes and insurance expenses;
- interest expense and scheduled principal payments on outstanding
indebtedness;
- capital expenditures incurred to facilitate the leasing of space at our
properties, including tenant improvements and leasing commissions;
- general and administrative expenses; and
- future distributions paid to our stockholders.
Historically, we have satisfied our short-term liquidity requirements through
our existing working capital and cash provided by our operations.
Our long-term liquidity requirements consist primarily of funds to pay for
scheduled debt maturities, renovations, expansions and other non-recurring
capital expenditures that need to be made periodically to our properties and the
costs associated with acquisitions of properties that we pursue. Historically,
we have satisfied our long-term liquidity requirements through various sources
of capital, including our existing working capital, cash provided by operations,
equity contributions from investors, and long-term property mortgage
indebtedness. We intend to establish fully-funded reserves, based on independent
third-party reports, for future capital expenditures.
As of November 20, 2003, our acquisition of six properties was probable for
an aggregate purchase price of approximately $93.8 million. We intend to finance
these acquisitions with the net proceeds of this offering and the assumption of
debt.
The U.S. government has an option to cause a building to be built adjacent
to our proposed Parkersburg property. If the U.S. government exercises its
option by March 1, 2005, then we must purchase the building. If built, this
building would contain approximately 49,700 square feet and have a purchase
price of approximately $10.5 million. In addition, our proposed College Park
property contains approximately 15,000 of vacant space that may be leased in the
future. If this vacant space is leased prior to building completion, we must pay
additional purchase price of $2.4 million. See "Proposed Acquisitions."
An affiliate of our underwriter, FBR, has provided us with a $1,000,000
line of credit, of which approximately $250,000 is outstanding. Outstanding
amounts under this line of credit will be repaid from the proceeds of this
offering.
42
We financed the purchase of our Bakersfield property in part through an
approximately $1.6 million loan, which matures on December 30, 2003. We intend
to repay this loan with the net proceeds of this offering and to then refinance
this property through a new long-term mortgage loan secured by this property.
We currently have existing lines of credit with an aggregate borrowing
capacity of approximately $5.2 million, of which we had outstanding
approximately $2.4 million at September 30, 2003. We intend to repay all
outstanding indebtedness under these lines of credit with the net proceeds of
this offering.
For information about each of our mortgage loans, see "Business and
Properties -- Our Properties."
The mortgages on our properties and our existing lines of credit contain
customary restrictive covenants, including provisions that may limit the
borrowing subsidiary's ability, without the prior consent of the lender, to
incur additional indebtedness, further mortgage or transfer the applicable
property, discontinue insurance coverage or make loans or advances to, enter
into any transaction of merger or consolidation with, or acquire the business,
assets or equity of, any third party.
We are currently seeking a revolving credit facility of approximately $100
million. We are currently in discussions with several financial institutions
with regard to this revolving credit facility. We cannot assure you, however,
that we will be able to finalize this revolving credit facility on acceptable
terms or at all.
We believe that our existing cash, together with the net proceeds from this
offering, will be sufficient to fund our operations for at least the next twelve
months.
COMMITMENTS AND CONTINGENCIES
The following table outlines the timing of payment requirements related to
our commitments as of September 30, 2003:
MATURITIES DUE BY PERIOD
----------------------------------------------------------------
LESS THAN
1 YEAR 2-3 YEARS 4-5 YEARS AFTER 5 YEARS TOTAL
---------- --------- --------- ------------- -----------
Line of credit -- variable
rate.................... $2,397,655 $ -- $ -- $ -- $ 2,397,655
Mortgage notes payable --
fixed rate.............. 242,087 745,208 875,894 26,029,332 27,892,521
Mortgage note payable --
affiliate variable
rate.................... 1,639,219 -- -- -- 1,639,219
---------- -------- -------- ----------- -----------
$4,278,961 $745,208 $875,894 $26,029,332 $31,929,395
========== ======== ======== =========== ===========
We intend to refinance our mortgage notes payable as they become due or
repay them if they related to properties being sold.
CASH DISTRIBUTION POLICY
We intend to elect to be taxed as a REIT under the federal tax laws
commencing as of our taxable year beginning January 1, 2003. To qualify as a
REIT, we must, among other things, distribute at least 90% of our ordinary
taxable income to our stockholders. We intend to comply with these requirements
and elect and maintain our REIT status. As a REIT, we generally will not be
subject to corporate federal income taxes on taxable income we distribute (in
accordance with the federal tax laws and applicable regulations) to our
stockholders. If we fail to qualify as a REIT in any taxable year, we will be
subject to federal income taxes at regular corporate rates and may not be able
to qualify as a REIT for four subsequent tax years. Even if we qualify for
federal taxation as a REIT, we may be subject to certain state and local taxes
on our income and property and to federal income and excise taxes on our
undistributed taxable income, i.e., taxable income not distributed in the
amounts and in the time frames prescribed by the federal tax laws and applicable
regulations thereunder.
We intend to pay to our stockholders, within the time periods prescribed by
the federal tax laws (in our case by January 31 of the following year), all or
substantially all of our annual taxable income, including gains
43
from the sale of real estate and recognized gains on sale of securities. We will
continue our policy of making sufficient cash distributions to stockholders in
order for us to elect and maintain REIT status under the federal tax laws and to
avoid corporate income and excise tax on undistributed income.
INFLATION
Our GSA leases generally contain provisions designed to mitigate the
adverse impact of inflation. These provisions increase rental rates during the
terms of the leases by indexed escalations based on the Consumer Price Index. In
addition, our GSA leases generally require the tenant to pay a share of
increases in operating expenses and all increases in real estate taxes. This may
reduce our exposure to increases in costs and operating expenses resulting from
inflation. However, increases in property operating costs above the escalation
amount would harm our cash flow and may harm our ability to pay dividends.
FUNDS FROM OPERATIONS
REIT analysts generally consider funds from operations or FFO an
alternative measure of performance for an equity REIT. The National Association
of Real Estate Investment Trusts, or NAREIT, defines funds from operations as
net income, computed in accordance with accounting principles generally accepted
in the United States ("GAAP"), excluding gains or losses from sales of
properties, but including real estate related depreciation and amortization and
after adjustments for unconsolidated partnerships and joint ventures. We believe
that FFO is helpful to investors as one of several measures of the performance
of an equity REIT. We further believe that by excluding the effect of
depreciation, amortization and gains or losses from sales of real estate, all of
which are based on historical costs, which may be of limited relevance in
evaluating current performance, FFO can facilitate comparison of operating
performance between periods and between other equity REITs. Investors should
review FFO along with GAAP Net Income Available for Common Shares and cash flow
from operating activities, investing activities and financing activities, when
trying to understand an equity REIT's operating performance. We compute FFO in
accordance with standards established by NAREIT, which may not be comparable to
FFO reported by other REITs that do not define the term in accordance with the
current NAREIT definition or that interpret the current NAREIT definition
differently than us. FFO does not represent cash generated from operating
activities in accordance with GAAP, nor does it represent cash available to pay
distributions and should not be considered as an alternative to net income,
determined in accordance with GAAP, as an indication of our financial
performance, or to cash flow from operating activities, determined in accordance
with GAAP, as a measure of our liquidity, nor is it indicative of funds
available to fund our cash needs, including our ability to make cash
distributions.
The following table presents a reconciliation of GAAP to our funds from
operations for the periods presented:
HISTORICAL PRO FORMA
---------------------------------- -----------------------------------
NINE MONTHS ENDED YEAR ENDED NINE MONTHS ENDED YEAR ENDED
SEPTEMBER 30, DECEMBER 31, SEPTEMBER 30, DECEMBER 31,
2003 2002 2003 2002
------------------- ------------ -------------------- ------------
Net income (loss)(a).... $(339,525) $(5,810) $ 683,051 $ 590,677
Adjustments to reconcile
to Funds from
Operations:
Real estate
depreciation and
amortization(b).... 475,300 4,220 1,517,264 1,567,354
--------- ------- ---------- ----------
Funds from Operations... $ 135,775 $(1,590) $2,200,315 $2,158,031
========= ======= ========== ==========
Funds from Operations
per common share(c)... $ 0.17 $ (0.08) $ 0.20 $ 0.19
========= ======= ========== ==========
---------------
(a) The historical amount for the year ended December 31, 2002 represents loss
from continuing operations and before income taxes.
44
(b) Excludes depreciation of non-real estate assets of $2,625 for historical
and pro forma amounts for the nine months ended September 30, 2003. Also
excludes amortization of lease intangible costs of $148,977, $447,003 and
$502,533 for the historical nine months ended September 30, 2003 and the
pro forma nine months ended September 30, 2003 and the pro forma year ended
December 31, 2002, respectively.
(c) Funds from Operations per share is based upon our weighted average common
shares outstanding for each period presented as follows: 794,590 for the
historical nine months ended September 30, 2003; 21,182 for the historical
year ended December 31, 2002 and 11,133,052 for both the pro forma nine
months ended September 30, 2003 and the pro forma year ended December 31,
2002.
INTEREST RATE SENSITIVITY
The following table provides information about our financial instruments
that are subject to interest rate sensitivity. The table presents our lines of
credit, mortgage notes payable and mortgage note payable -- affiliate cash flows
by expected maturity date and weighted average interest rate.
PRINCIPAL AMOUNT BY EXPECTED MATURITY
AVERAGE INTEREST RATE
2003 2004 2005 2006 2007 THEREAFTER TOTAL
---------- -------- -------- -------- -------- ----------- -----------
LINES OF CREDIT:
Variable rate amount... $2,397,655 $ -- $ -- $ -- $ -- $ -- $ 2,397,655
Weighted-average
interest rate........ 5.23% -- -- -- -- --
MORTGAGE NOTES PAYABLE:
Fixed rate amount...... $ 242,087 $353,105 $392,103 $416,466 $459,428 $26,029,332 $27,892,521
Weighted-average
interest rate........ 7.56% 5.99% 5.99% 6.00% 5.99% 5.94%
MORTGAGE NOTES
PAYABLE -- AFFILIATE:
Variable rate amount... $1,639,219 $ -- $ -- $ -- $ -- $ -- $ 1,639,219
Weighted-average
interest rate........ 3.64% -- -- -- -- --
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our future income, cash flows and fair values relevant to financial
instruments depend upon prevailing market interest rates. Market risk refers to
the risk of loss from adverse changes in market prices and interest rates.
Market Risk Related to Fixed-Rate Debt
As of September 30, 2003, our debt included fixed-rate mortgage notes with
a carrying value of $27.9 million. Changes in market interest rates on our
fixed-rate debt impacts the fair market value of the debt, but it has no impact
on interest incurred or cash flow. The sensitivity analysis related to our fixed
debt assumes an immediate 100 basis point move in interest rates from their
actual September 30, 2003 levels, with all other variables held constant.
A 100 basis point increase in market interest rates would result in a
decrease in the fair value of our fixed-rate debt by approximately $1.8 million
at September 30, 2003. A 100 basis point decrease in market interest rates would
result in an increase in the fair market value of our fixed-rate debt by
approximately $2.0 million at September 30, 2003. As of September 30, 2003, a
100 basis point increase or decrease in variable interest rates on our bridge
notes would have increased or decreased our interest expense by approximately
$39,000 annually.
45
OUR BUSINESS AND PROPERTIES
OUR COMPANY
We invest in single tenant properties under long-term leases to the U.S.
government, state governments, local governments, and government-sponsored
enterprises. We are a self-managed, self-administered company that will elect to
be taxed as a real estate investment trust, or REIT, under the federal tax laws.
We believe that we will be the only public company focused solely on investing
in government-leased properties.
Our business consists of buying and managing recently built or renovated
office properties primarily leased to the federal government, acting through the
GSA, the federal government's property management arm, under long-term leases.
Our portfolio consisted of five properties totaling 248,848 square feet as of
September 30, 2003. These properties are 100% occupied and have a
weighted-average remaining lease term of approximately 13 years based on the
square footage of the properties as of September 30, 2003. Our tenants include
the Department of Justice, the Drug Enforcement Administration, the Federal
Bureau of Investigation and the Social Security Administration.
With the proceeds of this offering, we intend to expand our portfolio by
acquiring additional government-leased properties. We are actively negotiating
the acquisition of six GSA-leased properties totaling approximately 362,780
square feet for an aggregate price of approximately $93.845 million, which have
a remaining average lease term of approximately 14 years based on square footage
as of September 30, 2003. However, we cannot assure you that we will be able to
complete the acquisition of the properties we have under contract or letter of
intent.
Based on the credit worthiness of our governmental tenants, our policy is
to use debt to finance, on average, approximately 75% of the acquisition cost of
the properties that we buy. We intend to finance our future acquisitions with a
combination of equity, long-term fixed-rate debt and short-term credit lines. We
intend to use our credit lines to finance acquisitions and deposits on a
short-term basis. We are currently in discussions with a number of lenders to
provide us with a line of credit. Our objective is to finance each property with
long-term fixed-rate debt whose maturity matches or exceeds, to the extent
possible, the remaining term of the lease. This strategy minimizes interest rate
risk and should result in more consistent and reliable cash flow.
OUR STRATEGY AND OBJECTIVES
Operational Objectives
Our primary operational objective is to generate funds from operations to
make distributions to our stockholders. We focus on the following activities to
achieve this objective:
- Acquiring properties that meet our acquisition criteria;
- Financing properties at a lower cost of capital than the capitalization
rate used in connection with the acquisition of the property;
- Increasing our access to capital to finance property acquisitions; and
- Effectively managing properties through lease terms, oversight, property
expansions, and opportunistic property sales and redeployment of assets,
when advisable.
We intend to acquire properties leased to a variety of governmental
entities on a nationwide basis. We expect most of our properties initially will
be leased to the U.S. government under long-term leases. We will market both to
owners and developers of government-leased properties and directly to
governmental entities. We intend to expand our existing relationships with
GSA-approved real estate developers, the GSA and various other governmental
tenants, owners and developers around the country. We plan to continue to enter
into pre-completion purchase agreements with developers to acquire newly
developed properties upon completion and occupancy by governmental tenants. As a
public company, we believe that developers and owners will view us as a more
attractive and credible buyer than other potential buyers.
46
Our acquisition criteria includes analyzing not only the in-place lease,
but also analyzing the real estate characteristics of the property including
location, parking, floor plans and construction quality. We focus on newer, well
located properties that have remaining lease terms of ten years or more. We also
consider, on a case-by-case basis, properties that have been constructed or
significantly renovated within five years of our planned acquisition and that
are more special use in nature due to specific government requirements. These
special use or "build-to-suit" properties, however, generally must have
remaining lease terms of fifteen years or more before we will consider them for
acquisition. We believe our focus on newer properties reduces the risk of
tenants failing to renew their leases at maturity and increases our ability to
re-lease the property if the tenant does not renew. We intend to establish fully
funded reserves, based on independent third-party reports, for future capital
expenditures to ensure that our properties are properly maintained.
Investment Objectives
Our principal investment objective is to deliver attractive risk-adjusted
returns to our stockholders by:
- PAYING REGULAR DIVIDENDS TO STOCKHOLDERS. We intend to distribute to our
stockholders all or substantially all of our taxable REIT income each
year in order to comply with the distribution requirements of the federal
tax laws and to avoid federal income tax and the nondeductible excise
tax. The actual amount and timing of distributions, however, will be at
the discretion of our board of directors and will depend upon our actual
results of operations and a number of other factors discussed in the
section "Dividend Policy and Distributions." To the extent possible, we
will seek to avoid the fluctuations in dividends that might result if
dividends were based on actual cash received during the dividend period.
To implement this policy, we may use cash received during prior periods,
or cash received subsequent to the dividend period and prior to the
payment date for such dividend to pay annualized dividends consistent
with the dividend level established from time to time by our board of
directors. Our ability to maintain this policy will depend upon our cash
flow and applicable REIT rules. We cannot assure you that there will be
cash available to pay dividends or that dividend amounts will not
fluctuate. Subject to applicable REIT rules, we will seek to reinvest
proceeds from the sale, refinancing or other disposition of our
properties by purchasing additional properties that are intended to
produce additional distributable income.
- INCREASING THE VALUE OF OUR PROPERTIES. With intensive asset and
property management, we believe our properties will be better maintained
and improved during the term of our leases, which should allow for better
long term appreciation in value of our properties. In addition, we plan
to routinely monitor our portfolio and selectively dispose of properties
in an opportunistic manner. There is, of course, no assurance that the
value of our properties will increase.
- PRESERVING CAPITAL. We will attempt to preserve capital by continuing to
invest in a diversified portfolio of quality real estate leased under
long-term leases to governmental entities. We will also attempt to
preserve capital by diversifying our portfolio geographically and by
paying attention to various factors in each locale that may affect the
underlying value of our acquired properties in the future.
We cannot assure you that we will achieve any or all of the foregoing
objectives because each, to a large extent, is dependent upon factors and
conditions beyond our control. Our realization of distributable cash flow and
appreciation of value from our properties will depend on a variety of factors,
including short-term and long-term economic trends, federal tax laws,
governmental regulations, local real estate and financial market conditions and
property operating expenses.
INVESTMENT POLICIES
Our primary investment policies are to:
- Purchase properties that are primarily leased to the U.S. government,
state governments, local governments, and government-sponsored
enterprises;
47
- Purchase newer, well located properties that are not special use in
nature and have remaining lease terms of ten years or more. We also
consider, on a case-by-case basis, newer, well located properties that
are more special use in nature due to specific government requirements.
These special use or "build-to-suit" properties, however, generally must
have remaining lease terms of fifteen years or more before we will
consider them for acquisition;
- Purchase properties at prices, including acquisition costs, that are at
or below appraised values or our board of director's judgment of fair
market value if an appraisal cannot be readily obtained before agreeing
to a purchase; and
- Use borrowed funds, on average, to finance approximately 75% of the
purchase price of the proprieties we buy.
Our board of directors may change our existing investment objectives and
policies without stockholder approval.
Acquisition Criteria
In analyzing proposed acquisitions, we evaluate various factors including:
- The characteristics of the existing lease including the tenant and the
intended use, term, type of lease (e.g., net, modified gross, gross),
rental rates, base rent escalation if any, adjustment in rents for
increases in operating expenses and taxes, and termination and assignment
provisions;
- The type, size and design of improvements, their age and condition, the
quality of the construction methods and materials, the price per square
foot of leased space and the suitability of the property for alternative
uses;
- The nature of the general location (primary, secondary or tertiary
markets), the viability of the sub-market including local demographics
and the occupancy of and demand for similar properties in the sub-market
area, specifically population and rental trends, and the functionality of
the specific site;
- The base rent, operating expenses and taxes, net operating income, price,
the capitalization rate, prospective financing terms (amount, rate, term,
amortization, loan-to-value ratio, debt service coverage ratio) and the
prospective over-all rate of return, leveraged periodic return on equity
and the all-in rate of return including the liquidation of the projected
residual value;
- Contrasting the prospective acquisition to the existing portfolio to
assure sufficient diversity in material investment characteristics;
- Comparing the terms of the purchase and the existing lease to current
market conditions and comparable transactions;
- The suitability of property for and ability to efficiently lease or
sublease any vacant space;
- The ability of the property to achieve long-term capital appreciation;
- The prospects for long-range liquidity of the investment in the property;
- The rated security level of the property in the context of its use; and
- Review of the property appraisal, the property condition and phase I
environmental reports.
In connection with our review of prospective acquisitions, we may engage
third-parties, such as environmental consultants, appraisers, professional
engineers, accountants and lawyers, to help perform due diligence.
Sale-Leaseback Acquisitions
We may acquire properties in sale-leaseback transactions. Sale-leaseback
properties provide unique acquisition opportunities. Unlike acquisitions that
rely heavily on the quality of the underlying real estate for
48
property valuation and loan terms, sale-leaseback acquisitions focus on the
quality of the tenant's credit and on the completeness of the underlying lease
obligations to provide an uninterrupted source of funds for loan repayment.
Sale-leaseback acquisitions frequently permit an attractive loan-to-value ratio
depending on the needs and desires of the seller. Loans for sale-leaseback
acquisitions usually prohibit prepayment entirely or require the payment of
make-whole premiums or the posting of collateral.
Assessing Prospects for Long-term Property Appreciation and Liquidity
In reviewing a property for acquisition, we consider the property's
prospects for long-term appreciation and the prospects for long-range liquidity
of the investment. In particular, we will seek to negotiate lease clauses
providing for periodic inflation adjustments to the expense portion of base
rent, and to minimize deferred maintenance by prompt attention to repair and
replacement needs at the properties.
Property Operating Costs -- Risk Mitigation Strategy
Leases for governmental tenants vary widely and include net leases, gross
leases and "modified" gross leases. Net leases require the tenant to pay all
operating expenses, gross leases require the landlord to pay all operating
expenses, and modified gross leases require the landlord and the tenant each to
pay a portion of the operating expenses. We intend to acquire properties with
all three types of leases, as well as variations of these leases, because we
believe that gross leases and modified gross leases may provide higher returns
for us than net leases. In our experience, GSA leases are generally modified
gross leases. We plan to mitigate the higher risk of gross leases and modified
gross leases through strict underwriting, due diligence and intensive property
management.
Financing Strategy
We generally use mortgage financing to meet our target leverage ratio. We
choose a particular financing method based upon the most attractive interest
rate, assignability, repayment terms and maturity dates available in the
marketplace at the time, and customize our financing strategy for each type of
transaction. Our objective is to finance each property with long-term fixed-rate
debt whose maturity matches or exceeds, to the extent possible, the remaining
term of the lease. We attempt to avoid pre-payment penalties and yield
maintenance and select fixed rate financing when available.
We consider a number of factors when evaluating our level of indebtedness
and making financing decisions, including:
- the interest rate and maturity date of the proposed financing;
- the extent to which the financing impacts the flexibility with which we
manage our properties;
- prepayment penalties and restrictions on refinancing;
- the purchase price of properties to be acquired with debt financing;
- our long-term objectives with respect to the property;
- our target investment return;
- the terms of any existing leases;
- assignability;
- the remaining loan balance at the end of the lease term compared to the
prospective value of the asset at such time;
- the estimated market value of our properties upon refinancing of the
indebtedness; and
- the ability of particular properties and our company as a whole, to
generate cash flow to cover expected debt service.
49
We also consider the impact of individual financings on our corporate
financial structure. Among the factors we consider are:
- our overall level of consolidated indebtedness;
- provisions that require recourse and cross-collateralization;
- corporate credit ratios, including debt service coverage, and debt to
total market capitalization; and
- our overall mix of fixed-and variable-rate debt.
We may obtain financing from banks, institutional investors or other
lenders financing through lines of credit, bridge loans, and other arrangements,
any of which, may be unsecured or may be secured by mortgages or other interests
in our properties. In addition, we may incur debt in the form of publicly or
privately placed debt instruments. When possible, we seek to replace short-term
sources of capital with long-term financing in which we match or exceed, to the
extent possible, the maturity of the debt to the lease term on the property
securing the debt.
Our indebtedness may be recourse or non-recourse. If the indebtedness is
recourse, our general assets may be included in the collateral. If the
indebtedness is non-recourse, the collateral will be limited to the particular
property to which the indebtedness relates. To the extent possible, we will
acquire only non-recourse financing. In addition, we may invest in properties
subject to existing loans secured by mortgages or similar liens on the
properties, or may refinance properties acquired on a leveraged basis. We may
use the proceeds from any borrowings to refinance existing indebtedness, to
finance acquisitions or the redevelopment of existing properties, for general
working capital or to purchase additional interests in partnerships or joint
ventures. If necessary, we may also borrow funds to satisfy the requirement that
we distribute to stockholders at least 90% of our annual taxable REIT income, or
otherwise to ensure that we maintain our REIT status for federal income tax
purposes.
Sale of Properties
The determination of whether a particular property should be sold or
otherwise disposed of will be made after consideration of the performance of the
property, existing market conditions and also the benefits of continued
ownership and alternative uses of the capital. In deciding whether to sell
properties, we will consider factors such as potential capital appreciation,
cash flow and federal income tax consequences. We may exchange properties for
other properties.
Net proceeds from the sale of any property may, at the discretion of our
board of directors, either be distributed to stockholders or reinvested in other
properties. When reinvesting in other properties, tax-deferral will be a
significant consideration. Any properties in which net proceeds from a sale are
reinvested will be subject to the same acquisition criteria as other properties
we acquire. See "Our Business and Properties -- Acquisition Criteria."
In connection with the sale of a property, purchase money obligations
secured by mortgages may be taken as partial payment. The terms of payment to us
will be affected mainly by prevailing economic conditions. To the extent we
receive notes and property other than cash on sales, such proceeds will not be
included in net proceeds of sale until and to the extent the notes or other
property are actually collected, sold, refinanced or otherwise liquidated. We
may receive payments (cash and other property) in the year of sale in an amount
less than the full sales price and subsequent payments may be spread over
several years. Therefore, dividends to stockholders of the proceeds of a sale
may be delayed until the notes or other property are collected at maturity,
sold, refinanced or otherwise converted to cash. The entire balance of the
principal may be a balloon payment due at maturity. For federal income tax
purposes, unless we elect otherwise we will report the gain on such sale ratably
as principal payments are received under the installment method of accounting.
Reserve for Operating Expenses and Capital Costs.
We intend to establish fully-funded reserves, based on independent
third-party reports, for future capital expenditures to properly maintain our
properties.
50
Lending Policies.
We may not make loans to our executive officers, key employees or directors
except in accordance with our code of business conduct and ethics and applicable
law. We may consider offering purchase money financing in connection with the
sale of properties where the provisions of that financing will increase the
value to be received by us for the property sold. We may make loans to joint
ventures in which we may participate in the future. However, we do not intend to
engage in significant lending activities.
Equity Capital Policies.
Our board of directors has the authority, without further stockholder
approval, to raise additional capital, in any manner and on the terms and for
the consideration it deems appropriate, including in exchange for property.
Existing stockholders have no preemptive right to additional shares issued in
any offering, and any offering may cause a dilution of investment. We may in the
future issue shares in connection with acquisitions.
Conflicts of Interest Policy.
We have adopted a code of business conduct and ethics that prohibits
conflicts of interest between our officers, employees and directors on the one
hand, and our company on the other hand, except in compliance with the policy.
Waivers of our code of business conduct and ethics must be disclosed in
accordance with NYSE and SEC requirements.
Other Policies.
We do not plan to invest in real estate mortgages except in connection with
sale-leaseback acquisitions. We do not plan to invest in securities of persons
primarily engaged in real estate activities except in connection with the
acquisition of operating properties and the temporary investment of our cash. We
do not plan to invest in secondary investments such as mortgage-backed
securities, except in connection with the temporary investment of our cash. We
do not plan to invest in other securities except in connection with the
temporary investment of our cash and do not anticipate investing in other
issuers of securities for the purpose of exercising control or acquiring any
investments primarily for sale in ordinary course of business or holding any
investments with a view to making short-term profits from the sale. We do not
intend to engage in trading, underwriting, agency distribution or sales of
securities of other issuers.
REAL ESTATE MANAGEMENT
We perform asset and property management, and accounting, finance and
reporting services relating to our properties.
Asset and Property Management
We focus on maximizing the value of our portfolio, monitoring property
performance and related operating costs, managing our investment opportunities
and pursuing the acquisition of additional properties and, when appropriate, the
disposition of selected properties. Our staff assigned to asset management
responsibilities directly oversee our portfolio with its primary emphasis being
to protect and enhance long-term asset value. Our property management functions
include the coordination and oversight of tenant improvements and building
services. We will only provide to tenants those services that are customarily
provided to tenants of other similar properties.
Accounting, Finance and Reporting.
We perform accounting and finance services that relate to the management of
our real estate. Our accounting and finance personnel perform management of
accounts payable, collection of receivables and budgeting of our operating
expenses through consultation with our property management group.
51
OUR PROPERTIES
Our portfolio consisted of five properties totaling 248,848 square feet as
of September 30, 2003. These properties are 100% occupied and had a
weighted-average remaining lease term of approximately 13 years based on the
square footage of the properties as of September 30, 2003. Four of the
properties are occupied by U.S. government agencies and one property is occupied
by Federal Express Corporation, which is rated investment grade by both Moody's
Investors Service and Standard & Poor's Corporation. We do not intend to
purchase any additional properties that are primarily occupied by
non-governmental tenants.
Our portfolio as of September 30, 2003 consisted of the following:
LEASE
GROSS MATURITY/
TENANT/ YEAR BUILT/ SQ. FT. RENT/ ANNUALIZED EARLY
LOCATION OCCUPANT RENOVATED LEASED SQ. FOOT RENT TERMINATION LEASE TYPE
-------- -------- ----------- ------- -------- ---------- ----------- ----------
Bakersfield, California United States of 2000 9,800 $31.87 $ 312,338 Nov. 2010/ Modified
America/ Drug Nov. 2008 Gross
Enforcement Lease
Administration
Kingsport, Tennessee United States of 1999 22,848 $17.58 $ 395,291 Oct. 2014/ Modified
America/ Social Security Oct. 2009 Gross
Administration Lease
Charleston, West United States of 1959/1999 90,050 $22.08 $1,998,170 Dec. 2019/ Modified
Virginia America/ Social Security None Gross
Administration Lease
Clarksburg, West United States of 1998 55,443 $23.20 $1,286,017 Jan. 2019/ Modified
Virginia America/ Department of Jan. 2016 Gross
Justice, Drug Lease
Enforcement
Administration, Federal
Bureau of Investigation,
Social Security
Administration
Harahan, Louisiana Federal Express 1996 70,707 $ 5.14 $ 363,440 Feb. 2016/ Net Lease
Corporation None
As used in the table above and throughout this prospectus, "Gross Annualized
Rent" is determined by multiplying August 2003 rents by 12 and "Rent Per Square
Foot" is determined by dividing the Gross Annualized Rent by the leased square
footage of the property.
BAKERSFIELD, CALIFORNIA. The Bakersfield property is 100% leased to the
federal government and is occupied by the U.S. Drug Enforcement Administration.
This property houses the U.S. Drug Enforcement Administration's regional
headquarters. The property consists of an approximately 2.09 acre parcel with a
two story office building containing 9,800 leased square feet of office and
related space. The building was completed in 2000.
The Bakersfield property is leased pursuant to a modified gross lease,
which will expire on November 27, 2010, unless terminated pursuant to an early
termination clause on November 27, 2008. The government has the right to assign
the lease and be relieved from all obligations under the lease, other than
unpaid rent and other liabilities outstanding on the date of the assignment,
subject to our prior written consent, which consent may not be unreasonably
withheld. Included as rent is a negotiated amount for the building's operating
costs, and base year real estate taxes. The government pays any increase over
the base year real estate taxes through a direct dollar-for-dollar reimbursement
payment to us. The lease also provides for an annual inflation adjustment in the
portion of rent attributable to operating costs, which is measured by the U.S.
Department of Labor revised consumer price index.
We acquired the Bakersfield property in January 2003 for $2,350,000, or
approximately $240 per leased square foot. We financed the acquisition through a
$1,645,000 loan from Genesis, which matures on December 30, 2003. The unpaid
principal balance of the note bears interest at 90 day LIBOR (1.1% on the date
of the loan) plus 2.5 percentage points, resulting in an initial interest rate
of 3.6%. Interest-only payments are to be made for the term of the loan.
52
CHARLESTON, WEST VIRGINIA. The Charleston property is 100% leased by the
federal government and is occupied by the U.S. Department of Labor, the U.S.
Social Security Administration and related state agencies. This property houses
the Social Security Administration's regional administrative office. The
property is an approximately 1.68 acre parcel with a five story building
containing 90,050 leased square feet of office and related space. The building
was completed in 1959 and completely renovated to core and shell in 1999.
The Charleston property is leased pursuant to a modified gross lease, which
will expire on December 9, 2019. The government has the right to assign the
lease and be relieved from all obligations under the lease, other than unpaid
rent and other liabilities outstanding on the date of the assignment, subject to
our prior written consent, which consent may not be unreasonably withheld.
Included as rent is a negotiated amount for the building's operating costs, and
base year real estate taxes. The government pays any increase over the base year
real estate taxes through a direct dollar-for-dollar reimbursement payment to
us. The lease also provides for an annual inflation adjustment in the portion of
rent attributable to operating costs, which is measured by the U.S. Department
of Labor revised consumer price index.
We acquired the Charleston property in April 2003 for $18,185,000, or
approximately $202 per leased square foot. We financed the acquisition through a
$14,000,000 loan from LaSalle Bank, which matures on May 1, 2013. The unpaid
principal balance of the note bears interest at a rate of 5.74% per annum.
Monthly payments are amortized on a 30-year schedule, with a balloon payment due
May 1, 2013. We also drew $2,787,510 against our existing line of credit, which
carries a variable interest rate based on the lender's prime rate plus 50 basis
points, which rate was 4.75% as of September 30, 2003, and is due on April 15,
2005.
CLARKSBURG, WEST VIRGINIA. The Clarksburg property is 100% leased by the
federal government and is occupied by the U.S. Social Security Administration,
the U.S. Drug Enforcement Administration, the Federal Bureau of Investigation
and the U.S. Department of Justice. The property is an approximately 1.02 acre
parcel with a three story building containing 55,443 leased square feet of
office and related space. The building was completed in 1998.
The Clarksburg property is leased pursuant to a modified gross lease, which
will expire on January 19, 2019, unless terminated pursuant to an early
termination clause on January 19, 2016. The government has the right to assign
the lease and be relieved from all obligations under the lease, other than
unpaid rent and other liabilities outstanding on the date of the assignment,
subject to our prior written consent, which consent may not be unreasonably
withheld. Included as rent is a negotiated amount for the building's operating
costs, and base year real estate taxes. The government pays any increase over
the base year real estate taxes through a direct dollar-for-dollar reimbursement
payment to us. The lease also provides for an annual inflation adjustment in the
portion of rent attributable to operating costs, which is measured by the U.S.
Department of Labor revised consumer price index.
We acquired the Clarksburg property in April 2003 for $10,815,000, or
approximately $195 per leased square foot. We financed the acquisition through a
$8,325,000 loan from LaSalle Bank, which matures on May 1, 2013. The unpaid
principal balance of the note bears interest at a rate of 5.74% per annum.
Monthly payments are amortized on a 30-year schedule, with a balloon payment due
May 1, 2013.
KINGSPORT, TENNESSEE. The Kingsport property is 100% leased by the federal
government and is occupied by the U.S. Social Security Administration. This
property houses the Social Security Administration's regional administrative
office. The property is an approximately 2.334 acre parcel with a single story
building containing 22,848 leased square feet of office and related space. The
building was completed in 1999.
The Kingsport property is leased pursuant to a modified gross lease, which
will expire on October 31, 2014, unless terminated pursuant to an early
termination clause on October 31, 2009. The government has the right to assign
the lease and be relieved from all obligations under the lease, other than
unpaid rent and other liabilities outstanding on the date of the assignment,
subject to our prior written consent, which consent may not be unreasonably
withheld. Included as rent is a negotiated amount for the building's operating
costs, and base year real estate taxes. The government pays any increase over
the base year real estate taxes through a direct dollar-for-dollar reimbursement
payment to us. The lease also provides for an annual inflation
53
adjustment in the portion of rent attributable to operating costs, which is
measured by the U.S. Department of Labor revised consumer price index.
We acquired the Kingsport property in April 2003 for $2,920,000, or
approximately $128 per leased square foot. We financed the acquisition through
the assumption of the seller's first mortgage loan in the amount of $2,308,422
from Bank of America, which matures on April 1, 2010 and an unsecured loan
issued by the seller in the amount of $188,230, which represents amounts due to
the seller for the seller's escrow funds that remain on deposit with the first
mortgage loan holder. The unpaid principal balance of the first mortgage loan
bears interest at a rate of 8.23% per annum, with monthly payments being
amortized on a 25-year schedule and has a balloon payment due April 1, 2010. The
unpaid principal balance of the second mortgage loan bears interest at a rate of
8.00% per annum, requires no monthly payments and has a balloon payment of
principal and interest due April 1, 2010. We also drew $253,486 against our
existing line of credit on April 30, 2003 to fund a portion of the purchase
price, which was repaid on May 20, 2003.
HARAHAN, LOUISIANA. The Harahan property is 100% occupied by Federal
Express Corporation. The property is an approximately 4.98 acre parcel with a
single story warehouse/distribution center containing 70,707 leased square feet
of office and related space. The building was completed in 1996.
The Harahan property is leased pursuant to a net lease, which will expire
on February 29, 2016. The lease contains two renewal options of 60 months each,
which options may be exercised by the tenant with 180 days prior written notice.
Upon renewal, the rent will be the greater of 95% of the annual base rent
payable immediately prior to the commencement of the renewal term, and the fair
market rent as of a date six months before the renewal term begins multiplied by
the floor area of the property. The tenant is responsible for improvements and
maintenance of all interior spaces, as well as installation and maintenance of
water heaters, heating, ventilation and air conditioning units and basic life
safety features. The tenant also pays all real estate taxes on the property as
well as utilities.
We acquired the Harahan property in December 2002 for $4,260,000, or
approximately $60 per leased square foot. We financed the acquisition through a
$3,200,000 loan from Nomura Credit, which matures on January 11, 2013. The
unpaid principal balance of the note bears interest at a rate of 5.70% per
annum. Monthly payments are amortized on a 27-year schedule, with a balloon
payment due January 11, 2013.
Other Considerations
We believe that all of the properties described above are maintained in
good condition and are adequately covered by insurance.
54
PROPOSED ACQUISITIONS
As of November 20, 2003, we were actively negotiating the following
acquisitions:
LEASE
GROSS MATURITY/
PURCHASE TENANT/ YEAR BUILT/ SQ. FT. RENT/ ANNUALIZED EARLY
LOCATION PRICE OCCUPANT RENOVATED LEASED SQ. FOOT RENT TERMINATION
-------- ----------- --------------------- ------------ ------- -------- ---------- -------------
Harlingen, Texas..... $19,125,000 United States of 2000 53,075 $32.33 $1,715,770 Aug. 2015/
America/Border Oct. 2014(1)
Patrol*
Harlingen, Texas..... $26,750,000 United States of 1998 17,423 $15.36 $ 267,612 Jan. 2018/
America/Immigration & Jan. 2013(1)
Naturalization
Service I*
United States of 2002 107,836 $22.53 $2,429,334 Oct. 2022/
America/Immigration & Nov. 2020
Naturalization
Service II*
Baton Rouge,
Louisiana........... $ 6,600,000 United States of Under 36,287 $19.94 $ 723,600 Nov. 2018/
America/Veterans construction None
Administration**
Parkersburg, West
Virginia............ $20,270,000 United States of Under 80,657 $26.63 $2,147,636 Nov. 2019(2)/
America/Bureau of construction None
Public Debt**
College Park,
Maryland............ $21,100,000(3) United States of Under 67,503(3) $35.23 $2,378,311 Jan. 2014(2)/
America/Food and Drug construction None
Administration**
----------- -------
Total................ $93,845,000 362,781
=========== =======
LEASE
LOCATION TYPE
-------- --------
Harlingen, Texas..... Modified
Gross
Lease
Harlingen, Texas..... Modified
Gross
Lease
Modified
Gross
Lease
Baton Rouge,
Louisiana........... Modified
Gross
Lease
Parkersburg, West
Virginia............ Modified
Gross
Lease
College Park,
Maryland............ Modified
Gross
Lease
Total................
---------------
* Under contract.
** Under letter of intent.
(1) The current owner is negotiating with the GSA to extend the term of this
lease and to remove the early termination provision. We will not acquire the
property unless and until this lease extension is finalized.
(2) The lease is for a fixed term commencing on the property completion date.
The Lease Maturity Date is estimated based on an assumed property completion
date. See "Business and Properties -- Proposed Acquisitions."
(3) Does not include approximately 15,000 square feet of vacant office space
that may be leased in the future. If this vacant space is leased prior to
building completion, we must pay an additional $2.4 million.
As used in the table above and throughout this prospectus, "Gross Annualized
Rent" is determined by multiplying August 2003 rents by 12 and "Rent Per Square
Foot" is determined by dividing the Gross Annualized Rent by the leased square
footage of the property.
HARLINGEN, TEXAS -- BORDER PATROL PROPERTY. The Border Patrol property is
100% leased by the federal government and is occupied by the United States
Border Patrol. The property contains 53,075 leased square feet of office and
related space. We will acquire the Border Patrol property for $19,125,000, or
approximately $360 per leased square foot. Included with this property is six
acres of undeveloped land, a vehicle maintenance facility, a communications
building, a 320-foot antenna tower, dog pens, a helicopter pad and other
build-to-suit items. The building was completed in 2000.
The Border Patrol property is leased pursuant to a modified gross lease,
which will expire on August 28, 2015, unless earlier terminated on October 14,
2014. The current owner is negotiating with the GSA to extend
55
the term of this lease to August 2020 with no early termination provision. We
will not acquire this property unless and until this lease extension is
finalized.
The government has the right to assign the lease and be relieved from all
obligations under the lease, other than unpaid rent and other liabilities
outstanding on the date of the assignment, subject to our prior written consent,
which consent may not be unreasonably withheld. Included as rent is a negotiated
amount for the building's operating costs, and base year real estate taxes. The
government pays any increase over the base year real estate taxes through a
direct dollar-for-dollar reimbursement payment to us. The lease also provides
for an annual inflation adjustment in the portion of rent attributable to
operating costs, which is measured by the U.S. Department of Labor revised
consumer price index.
HARLINGEN, TEXAS -- INS PROPERTIES. The INS properties consist of two
buildings. The buildings are 100% leased by the federal government and are
occupied by the United States Immigration and Naturalization Service. INS I
contains 17,423 leased square feet of office and related space, and was
completed in 1998. INS II contains 107,836 leased square feet of office and
related space, and was completed in 2002. We will acquire both properties for
$26,750,000, or approximately $213 per leased square foot.
The properties are leased pursuant to modified gross leases. The INS I
lease will expire on January 4, 2018, unless earlier terminated on January 4,
2013. The INS II lease will expire October 15, 2022, unless earlier terminated
on November 14, 2020. The current owner of the properties is negotiating with
the GSA to extend the terms of both leases to October 2022 with no early
termination provision. We will not acquire the properties unless and until this
lease extension is finalized.
The leases provide that the government has the right to assign the lease
and be relieved from all obligations under the lease, other than unpaid rent and
other liabilities outstanding on the date of the assignment, subject to our
prior written consent, which consent may not be unreasonably withheld. Included
as rent is a negotiated amount for the building's operating costs, and base year
real estate taxes. The government pays any increase over the base year real
estate taxes through a direct dollar-for-dollar reimbursement payment to us.
Both leases also provide for an annual inflation adjustment in the portion of
rent attributable to operating costs, which is measured by the U.S. Department
of Labor revised consumer price index.
BATON ROUGE, LOUISIANA
The Baton Rouge property is currently under construction and is expected to
be available for occupancy in the fourth quarter of 2003. The property is 100%
leased by the federal government and will be occupied by the Veterans
Administration. We will acquire the property for $6,600,000, or approximately
$182 per leased square foot. The property will contain approximately 36,280
leased square feet of office and related space.
The property is leased pursuant to a modified gross lease. The lease will
expire in November 2018. The lease provides that the government has the right to
assign the lease and be relieved from all obligations under the lease, other
than unpaid rent and other liabilities outstanding on the date of the
assignment, subject to our prior written consent, which consent may not be
unreasonably withheld.
PARKERSBURG, WEST VIRGINIA
The Parkersburg property contains approximately 80,650 leased square feet
of office and related space, and is expected to be available for occupancy in
the fourth quarter of 2004. The property is 100% leased by the federal
government and will be occupied by the Bureau of the Public Debt. We will
acquire the property for $20,270,000, or approximately $251 per leased square
foot.
The property is leased pursuant to a modified gross lease. The lease will
expire 15 years after the completion of the building. The lease provides that
the government has the right to assign the lease and be relieved from all
obligations under the lease, other than unpaid rent and other liabilities
outstanding on the date of the assignment, subject to our prior written consent,
which consent may not be unreasonably withheld. In addition, the U.S. government
has an option to cause an adjacent building to be built. If the U.S. government
exercises its option by March 1, 2005, then we must purchase the building. This
building
56
would contain approximately 49,700 square feet and have a purchase price of
approximately $10.5 million. Upon completion, this building would be 100% leased
by the federal government and occupied by the Bureau of Public Debt.
COLLEGE PARK, MARYLAND
The College Park property is currently under construction and is expected
to be available for occupancy in the first quarter of 2004. The property is 100%
leased by the federal government and will be occupied by the Food and Drug
Administration. We will acquire the property for $21,100,000, or approximately
$313 per leased square foot. The property will contain approximately 67,500
leased square feet of office and related space. The College Park property
contains approximately 15,000 square feet of vacant office space that may leased
in the future. If this vacant space is leased prior to building completion, we
must pay additional purchase price of $2.4 million.
The property is leased pursuant to a modified gross lease. The lease will
expire ten years after the completion of the building. The lease provides that
the government has the right to assign the lease and be relieved from all
obligations under the lease, other than unpaid rent and other liabilities
outstanding on the date of the assignment, subject to our prior written consent,
which consent may not be unreasonably withheld. We will assume on existing
mortgage on the College Park property as part of our purchase. The mortgage has
an aggregate principal amount of $16.2 million, which bears interest at a fixed
rate of 6.75% per annum, requires monthly principal and interest payments, and
matures in 2011.
While we believe that these acquisitions will close, they remain subject to
our completion of due diligence and customary closing conditions.
CAPITAL IMPROVEMENTS COSTS
We acquire properties after they have been leased so we do not directly
negotiate or pay for tenant improvements. However, if the space must be
re-leased, we may fund improvement or restoration of a tenant's leased space.
Furthermore, our GSA leases hold us as the owner responsible for any repair or
replacement of structural components of a building, the roof, any parking
facility and the electrical, plumbing, and HVAC equipment in the building.
INSURANCE
We carry comprehensive liability, casualty, flood and rental loss insurance
covering all of the properties in our portfolio. We believe that the policy
specifications and insured limits are appropriate given the relative risk of
loss, the cost of the coverage and industry practice. We have also obtained
terrorism insurance on all of our GSA-leased properties, which is subject to
exclusions for loss or damage caused by nuclear, biological and chemical
weapons. It is our policy to obtain similar terrorism insurance on properties
that we acquire in the future to the extent it is available. In addition, in
certain areas, we pay additional premiums to obtain flood or earthquake
insurance. We do not carry insurance for commonly uninsured losses such as loss
from riots.
REAL ESTATE INDUSTRY REGULATION
Environmental
Under various federal, state and local environmental laws and regulations,
a current or previous owner, operator or tenant of real estate may be required
to investigate and remove hazardous or toxic substances or petroleum product
releases or threats of releases at such property, and may be held liable for
property damage and for investigation, clean-up and monitoring costs incurred in
connection with the actual or threatened contamination. Such laws typically
impose clean-up responsibility and liability without regard to fault, or whether
the owner, or tenant knew of or caused the presence of the contamination. The
liability under such laws may be joint and several for the full amount of the
investigation, clean-up and monitoring costs incurred or to be incurred or
actions to be undertaken, although a party held jointly and severally liable may
obtain contributions from the other identified, solvent, responsible parties of
their fair share toward these costs. These
57
costs may be substantial, and can exceed the value of the property. The presence
of contamination, or the failure to properly remediate contamination, on a
property may adversely affect the ability of the owner, operator or tenant to
sell or rent that property or to borrow using such property as collateral, and
may adversely impact our investment on that property.
Federal regulations require building owners and those exercising control
over a building's management to identify and warn, via signs and labels, of
potential hazards posed by workplace exposure to installed asbestos-containing
materials and potentially asbestos-containing materials in their building. The
regulations also set forth employee training, record-keeping and due diligence
requirements pertaining to asbestos-containing materials and potentially
asbestos-containing materials. Significant fines can be assessed for violation
of these regulations. Building owners and those exercising control over a
building's management may be subject to the increased regulations. Building
owners and those exercising control over a building's management may be subject
to an increased risk of personal injury lawsuits by workers and others exposed
to asbestos-containing materials and potentially asbestos-containing materials
as a result of these regulations. The regulations may affect the value of a
building containing asbestos-containing materials and potentially
asbestos-containing materials in which we have invested. Federal, state and
local laws and regulations also govern the removal, encapsulation, disturbance,
handling and/or disposal of asbestos-containing materials and potentially
asbestos-containing materials when such materials are in poor condition or in
the event of construction, remodeling, renovation or demolition of a building.
Such laws may impose liability for improper handling or a release to the
environment of asbestos-containing materials and potentially asbestos-containing
materials and may provide for fines to, and for third parties to seek recovery
from, owners or operators of real properties for personal injury or improper
work exposure associated with asbestos-containing materials and potentially
asbestos-containing materials.
Prior to closing any property acquisition, we obtain environmental
assessments in a manner we believe prudent in order to attempt to identify
potential environment concerns at such properties. These assessments are carried
out in accordance with an appropriate level of due diligence and generally
include a physical site inspection, a review of relevant federal, state and
local environmental and health agency database records, one or more interviews
with appropriate site-related personnel, review of the property's chain of title
and review of historic aerial photographs and other information on past uses of
the property. We may also conduct limited subsurface investigations and test for
substances of concern where the results of the first phase of the environmental
assessments or other information indicates possible contamination or where our
consultants recommend such procedures.
While we may purchase our properties on an "as is" basis, all of our
purchase contracts contain an environmental contingency clause, which permits us
to reject a property because of any environmental hazard at such property. We
receive Phase I reports on all prospective properties.
We believe that our portfolio complies in all material respects with all
federal and state regulations regarding hazardous or toxic substances and other
environmental matters.
Americans With Disabilities Act
Our properties must comply with Title III of the ADA, to the extent that
such properties are "public accommodations" as defined by the ADA. The ADA may
require removal of structural barriers to access by persons with disabilities in
public areas of our properties where such removal is readily achievable. We
believe that our existing properties are in substantial compliance with the ADA
and that we will not be required to make substantial capital expenditures to
address the requirements of the ADA. However, noncompliance with the ADA could
result in imposition of fines or an award of damages to private litigants. The
obligation to make readily achievable accommodations is an ongoing one, and we
will continue to assess our properties and to make alterations as appropriate in
this respect.
Fire, Safety and Other Regulation
We must operate our properties in compliance with fire and safety
regulations, building codes and other land use regulations, as they may be
adopted by governmental agencies and bodies and become applicable to
58
our properties. We may be required to make substantial capital expenditures to
comply with those requirements.
COMPETITION
We compete in acquiring properties with financial institutions,
institutional pension funds, real estate developers, other REITs, other public
and private real estate companies and private real estate investors.
Among the positive factors relating to our ability to compete to acquire
properties are the following:
- we have experience in buying GSA-leased properties;
- we will be a well funded, financeable public company;
- our management is knowledgeable in real estate matters;
- we have a positive reputation in the real estate industry; and
- we have a history of closing property acquisitions.
Among the negative factors relating to our ability to compete are the
following:
- we may have less knowledge than our competitors of certain markets in
which we seek to purchase properties;
- we have strict underwriting standards;
- many of our competitors have greater financial and operational resources
than we have; and
- our competitors or other entitles may determine to pursue a strategy
similar to ours.
We also face competition in leasing available properties to prospective
tenants. The actual competition for tenants varies depending on the
characteristics of each local market.
EMPLOYEES
We employed no full-time employees as of September 30, 2003. Immediately
following this offering, we intend to employ approximately five persons, which
we expect will increase to approximately 12 persons within ninety days after
this offering. We currently expect that none of these employees will be
represented by a labor union.
LEGAL PROCEEDINGS
We are not involved in any material litigation.
CHANGE OF AUDITOR
In connection with this offering, we replaced our independent accountants,
Zwick & Steinberger, P.L.L.C. ("Zwick"), and engaged the services of Ernst &
Young LLP ("E&Y") as our new independent accountants. The audit committee of our
board of directors recommended, and our board of directors approved, the
dismissal of Zwick and the appointment of E&Y.
During our two most recent fiscal years ended December 31, 2002 and
December 31, 2001, respectively, and the subsequent interim period through
September 30, 2003, there were no disagreements between us and Zwick on any
matter of accounting principles or practices, financial statement disclosure, or
auditing scope or procedure, which disagreements, if not resolved to Zwick's
satisfaction, would have caused Zwick to make reference to the subject matter of
the disagreement in connection with its reports; and there were no reportable
events described under Item 304(a)(1)(v) of Regulation S-K.
The audit reports of Zwick on our consolidated financial statements as of
and for the fiscal years ended December 31, 2002 and December 31, 2001 did not
contain any adverse opinion or disclaimer of opinion, nor were they qualified or
modified as to uncertainty, audit scope or accounting. principles. During the
years ended
59
December 31, 2002 and December 31, 2001 and through the date of E&Y's engagement
by us, we did not consult with E&Y with respect to the application of accounting
principles to a specified transaction, either completed or proposed, or the type
of audit opinion that might be rendered on our consolidated financial
statements, or any other matter or reportable events as set forth in Item
304(a)(2)(i) and (ii) of Regulation S-K.
We have provided a copy of the foregoing disclosures to Zwick and have
requested that Zwick furnish us with a letter addressed to the SEC stating its
agreement with these statements. A copy of this letter has been filed as an
exhibit to the registration statement of which this prospectus is a part.
60
MANAGEMENT
DIRECTORS, EXECUTIVE OFFICERS AND KEY EMPLOYEES
Our directors, executive officers and key employees are set forth below.
Our directors serve for one year terms and do not serve staggered terms. They
are subject to election annually.
NAME AGE POSITION
---- --- --------
Thomas D. Peschio......................... 63 President and Chief Executive Officer
Nancy D. Olson............................ 52 Chief Financial Officer and Treasurer
James P. Dugdale, Jr. .................... 33 Acquisitions Coordinator
Jerry D. Bringard......................... 67 Chairman of the Board of Directors
Robert M. Ames............................ 60 Director
Robert A. Peck............................ 55 Director
Richard H. Schwachter..................... 59 Director
David C. Wood............................. 60 Director
Thomas D. Peschio Mr. Peschio has been our president since June 2003. From
1997 to the present, Mr. Peschio has been a stockholder, a member of the Board
of Directors and Executive Vice President of The Lund Company in Omaha,
Nebraska, a commercial real estate brokerage and management firm with 33
affiliated investment partnerships and with property management responsibility
for over 70 commercial properties. In this capacity, Mr. Peschio is responsible
for brokerage activities of 20 licensed sales personnel, property acquisitions,
dispositions, investments, leasing, marketing and administrative activities.
From 1993 to 1997, Mr. Peschio served as a corporate officer focusing on
investment real estate for what is now known as Grubb & Ellis, Pacific Realty
Group. From 1978 to 1997, he owned and operated his own full service investment
real estate firm, Peschio & Company. Mr. Peschio has focused his professional
efforts on direct investment in real estate, debt and equity financing and
securitization, corporate real estate development and property management. Mr.
Peschio received a BS degree from St. Louis University and a MBA from Washington
University in St. Louis. Mr. Peschio holds professional designations from the
American Society of Real Estate Counselor, Consultant in Real Estate (CRE), from
the Real Estate Investment Association, Specialist, Real Estate Investment
(SRI); and from the former Real Estate Securities and Syndication Institute,
Specialist in Real Estate Securities (SRS).
Nancy D. Olson Ms. Olson has been our chief financial officer since
September 2003. From April 1999 to the present, Ms. Olson has been vice
president of administration and finance of The Lund Company, where she has been
responsible for developing, directing and managing the accounting, human
resources and office administration functions of The Lund Company. From August
1998 through April 1999, Ms. Olson was engaged in philanthropic activities. From
June 1986 through July 1998, Ms. Olson served as the chief financial officer for
the Visiting Nurse Association of the Midlands, an organization with a $20
million budget and over 450 employees. In that position she established internal
accounting standards, oversaw and managed all financial reporting to The
Financial Committee of the Board of Directors and negotiated all engagements
with the organization's outside auditors. Ms. Olson received a BS degree from
the University of Nebraska in 1974, an MS degree from the University of Nebraska
in 1981 and an MBA degree from the University of Nebraska in 1983.
James P. Dugdale, Jr. Effective upon the closing of this offering, Mr.
Dugdale will become our acquisitions coordinator. From October 2002 to August
2003, Mr. Dugdale was a production manager with Stoneco, a building supply
company servicing the real estate industry. From January 2000 to June 2002, Mr.
Dugdale was a project manager with HMG Realty Advisors in Omaha, Nebraska, a
commercial real estate firm, where he was responsible for project and asset
management, including coordination of due diligence and team organization in
connection with the conveyance of over $500 million in real estate assets. From
January 1998 through January 2000, Mr. Dugdale acted as a commercial property
broker for Grubb & Ellis/Pacific Realty in Omaha, Nebraska, a leading commercial
real estate brokerage firm. Mr. Dugdale worked in the home mortgage department
at Commercial Federal Savings & Loan from June 1997 through
61
December 1997. Mr. Dugdale is a licensed real estate broker and received a BA
degree from Creighton University in 1992.
Jerry D. Bringard Mr. Bringard has been chairman of our board of directors
since our inception, and was our interim president and CEO from our inception
until June 2003. Mr. Bringard has focused on educational and philanthropic
activities since his retirement in June 1998 as Vice President-General Counsel
of Ford Motor Credit Company (Dearborn, MI) and as a member of its Executive
Committee, having been employed by Ford Credit for 38 years. Mr. Bringard's
duties at Ford Credit included oversight of complex commercial real estate
transactions. He presently is President and CEO of William Tyndale College
(Farmington Hills, MI) and a member of its Board of Directors. He also serves as
Chairman of the Law Committee of the American Financial Services Association
(Washington, DC) and as Chairman-Emeritus of The Conference on Consumer Finance
Law (Oklahoma City, OK). Mr. Bringard holds a BA degree from Denison University,
an MBA degree from the University of Detroit and a JD degree (with distinction)
from Wayne State University.
Robert M. Ames Mr. Ames is the president and chief executive officer of
Minute Man Printing, Inc. and CopyCat, Inc., positions he has held for more than
five years. Mr. Ames previously was Executive Vice President of Commercial
Federal Corporation, a Nasdaq-traded bank holding company headquartered in
Omaha, Nebraska and with commercial banking branches in seven states, where he
was responsible for strategic planning and non-branch activities, including
mortgage operations, leasing and real estate investments. Prior thereto, Mr.
Ames was an audit manager with Deloite & Touche and an audit partner with Ernst
& Young. Mr. Ames graduated from Wayne State College in 1965.
Robert A. Peck Mr. Peck has been president of the Greater Washington Board
of Trade, the regional chamber of commerce for Washington D.C. and its Virginia
and Maryland suburbs since October 1, 2001. From 1995 to 2001, Mr. Peck was the
appointed Commissioner of the Public Buildings Service of the GSA. In this
capacity, he was in charge of nationwide asset management, design, construction,
leasing, building operations, security and disposals for a real estate portfolio
of more than 340 million square feet in more than 8,300 public and private
buildings accommodating over one million federal workers. He oversaw an annual
budget of approximately $5.5 billion, more than 90% of it contracted out, and a
GSA workforce of about 7,300. Mr. Peck received his B.A., cum laude, Phi Beta
Kappa, with distinction in economics, from the University of Pennsylvania in
1969 and his J.D. from Yale Law School in 1972.
Richard H. Schwachter Mr. Schwachter has been a director since our
inception. Mr. Schwachter has been continually engaged in the private practice
of law since 1969, focusing on real estate and securities law. He has been a
general partner and or owner of strip shopping centers, apartment complexes, and
government subsidized housing projects. He was for many years a consultant to
Concord Assets Group a company that was one of the largest owners of strip
shopping centers in the country. Mr. Schwachter received his BS degree (cum
laude) from the University of Wisconsin, in 1966 and his JD degree from Case
Western Reserve Law School in 1969. He is a member of the Bar of the State of
Ohio.
David C. Wood Mr. Wood has been engaged in the private practice of law
since 2000. From 1997 to 2000, Mr. Wood was Chairman of the Board and Chief
Executive Officer of Wells Fargo Financial, a wholly-owned subsidiary of Wells
Fargo Corporation with more than $12 billion in assets that offers consumer and
commercial finance, leasing, private label credit cards and dealer financing in
47 states, Canada and the Caribbean. Prior thereto, Mr. Wood held various other
positions with Wells Fargo Financial for more than 25 years. Mr. Wood graduated
from the University of Missouri (honors college) with an AB in history in 1965
and with a JD in 1968.
CORPORATE GOVERNANCE
Under Maryland law, our directors must perform their duties in good faith,
in a manner they reasonably believe in our best interest and with the care that
an ordinarily prudent person in a like position would use under similar
circumstances. If our directors perform in accordance with that standard, they
will have no liability by reason of being a member of our board of directors.
62
Term
A director holds office until the next annual meeting of stockholders or
until his successor is duly elected and qualified. Directors may be re-elected
by stockholders. A director may resign at any time and may be removed only with
cause and by the stockholders upon the affirmative vote of at least two-thirds
of all the votes entitled to be cast at a meeting called for the purpose of such
proposed removal. The notice of any such meeting must indicate that the purpose,
or one of the purposes of such a meeting is to determine if a director is to be
removed. For purposes of removal of a director, our charter defines "cause" to
be (i) conviction of a felony, (ii) declaration of unsound mind by order of a
court, (iii) gross negligence or gross dereliction of duty, or (iv) commission
of an act that constitutes willful misconduct or a willful violation of law if
the act results in injury to us.
Our stockholders may fill a vacancy created by removal of a director. A
majority of the remaining directors, whether or not sufficient to constitute a
quorum, may fill a vacancy which results from any cause, including stockholder
removal of a director if the stockholders do not elect a successor, but not one
resulting from an increase in the number of directors. A majority of the entire
board of directors as constituted before the increase may fill a vacancy which
results from an increase in the number of directors. A director elected to fill
a vacancy serves until our next annual meeting.
The directors are not required to devote all of their time to the company's
affairs. Each non-employee director's principal occupation and principal source
of income is unrelated to the company.
In exercising their discretion in managing our affairs, the directors must
follow our investment objectives and the borrowing policies set forth in this
prospectus. The directors may establish, from time to time, further written
policies on investments and borrowings and will monitor our administrative
procedures, investment operations and performance to assure that these policies
are effected and are in the best interest of the stockholders. Until modified,
the directors will continue to follow the policies on investments and borrowing
set forth in this prospectus. The investment objectives may not be changed by
the directors without the approval of a majority vote of the stockholders.
The directors are also responsible for reviewing the performance of the
officers and determining that the compensation paid to the officers is
reasonable in relation to the nature and quality of services performed by them
and under the provisions of their employment contract(s). In reviewing these
matters, the directors consider factors such as the size of the fees paid to the
officers in relation to the size, composition and performance of the company's
investments, success of the officers in generating appropriate investment
opportunities, rates charged other REITs and other investors by advisors
performing similar services, additional revenues realized by the officers and
any affiliate through their relationship with the company, whether paid by us or
others with whom we do business, the quality and extent of service and advice
furnished by the officers, the performance of the investment portfolio and the
quality of the investment portfolio relative to the investments generated by the
officers for their own accounts.
Indemnification
Our bylaws provide for indemnification of our officers and directors
against liabilities to the fullest extent permitted by Maryland law. We also
intend to enter into indemnification agreements with our directors and executive
officers. The indemnification agreements require, among other things, that we
indemnify such persons to the fullest extent permitted by Maryland law, and
advance to such persons all related expenses, subject to reimbursement if it is
subsequently determined that indemnification is not permitted. Although the form
of indemnification agreement offers substantially the same scope of coverage
afforded by law, it provides greater assurance to our directors and executive
officers that indemnification will be available because, as a contract, it may
not be modified unilaterally in the future by our board of directors or the
stockholders to eliminate the rights it provides. See
"Management -- Indemnification Agreement."
In addition, our charter contains provisions eliminating the liability of
our directors, the company and its stockholders for money damages to the fullest
extent permitted by Maryland law. See "Material Provisions of
63
Maryland Law and of our Charter and Bylaws -- Indemnification and Limitation of
Directors' and Officers' Liability."
Therefore, our stockholders may have a more limited right of action than
would otherwise be the case absent such charter provisions. The foregoing
limitations on liability do not, however, apply to violations of federal
securities laws.
In the opinion of the SEC, indemnification for liabilities arising under
the Securities Act is against public policy and therefore unenforceable. In the
event that a claim for indemnification for liabilities arising under the
Securities Act (other than the payment by us of expenses incurred or paid by the
directors in the successful defense of any such action, suit or proceeding) is
asserted by the directors in connection with the shares we will submit to a
court of appropriate jurisdiction the question of whether such indemnification
by it is against public policy and will be governed by the final adjudication of
such issue.
In general, decisions made by the directors respecting our operations must
be made by a majority of those directors not otherwise interested in the
transaction. A majority of the directors must consist of independent directors.
An independent director may not, directly or indirectly (including through a
member of his or her immediate family), own any interest in, be employed by,
have general present business or professional relationship with or serve as an
officer or director of an affiliate. An independent director may not perform
material services for us, except as a director.
BOARD OF DIRECTORS AND COMMITTEES
Our business is managed through the oversight and direction of our board of
directors. Our board of directors presently consist of six members, of whom one
is an insider and the others are "independent" with independent being defined in
the manner established by our board of directors and in a manner consistent with
listing standards established by the NYSE. The current directors will increase
the size of the board from three to seven prior to the issuance of our common
stock to new stockholders pursuant to this offering. This action does not
require a vote of the current stockholders. At no time will our board have more
than three insider directors, and at all times two-thirds of the members of our
board will be independent. Beginning in 2004, all nominees for election as
director will be selected by our nominating and governance committee, subject to
advance notice provisions in our bylaws that permit stockholder to make
nominations.
The directors are regularly kept informed about our business at meetings of
the board and its committees and through supplemental reports and
communications. Our non-management directors expect to meet regularly in
executive sessions without the presence of any corporate officers. Our board
seeks to maintain high corporate governance standards.
The board has established four committees whose principal functions are
briefly described below.
Audit Committee
Our board of directors has established an audit committee, which consists
of Messrs. Ames (chair), Peck and Wood, each of whom is independent as defined
by the NYSE. The audit committee assists the board in overseeing (i) our
accounting and financial reporting processes; (ii) the integrity and audits of
our financial statements; (iii) our compliance with legal and regulatory
requirements; (iv) the qualifications and independence of our independent
auditors; and (v) the performance of our internal and independent auditors. The
audit committee also:
- has sole authority to appoint or replace our independent auditors;
- pre-approves all audit and permitted non-audit engagement fees, scope and
terms with our independent auditors; and
- meets at least quarterly with our senior executive officers, internal
audit staff and our independent auditors in separate executive sessions.
64
The specific functions and responsibilities of the audit committee are set
forth in the audit committee charter.
Compensation Committee
Our board of directors has established a compensation committee, which
consists of Messrs. Bringard (chair), Ames and Schwachter, each of whom is
independent as defined by the NYSE. The principal functions of the committee are
to:
- evaluate the performance of our senior executives;
- review and approve senior executive compensation plans, policies and
programs;
- consider the design and competitiveness of our compensation plans;
- administer and review changes to our incentive, share option and
restricted share and long-term incentive plans under the terms of the
plans; and
- produce an annual report on executive compensation for inclusion in our
proxy statement.
The committee also reviews and approves corporate goals and objectives
relevant to chief executive officer compensation, evaluates the chief executive
officer's performance in light of those goals and objectives, and recommends to
the board the chief executive officer's compensation levels based on its
evaluation. The committee has the authority to retain and terminate any
compensation consultant to be used to assist in the evaluation of chief
executive officer or senior executive compensation.
The compensation and human resources committee will administer our 2003
Equity Incentive Plan.
Nominating and Governance Committee
Our board of directors has established a nominating and governance
committee, which consists of Messrs. Wood (chair), Bringard, Peck and
Schwachter, each of whom is independent as defined by the NYSE. The nominating
and governance committee is responsible for seeking, considering and
recommending to the board qualified candidates for election as directors and
recommending a slate of nominees for election as directors at the annual
meeting. It also periodically prepares and submits to the board for adoption the
committee's selection criteria for director nominees. It reviews and makes
recommendations on matters involving general operation of the board and our
corporate governance, and it annually recommends to the board nominees for each
committee of the board. In addition, the committee annually facilitates the
assessment of the board of director's performance as a whole and of the
individual directors and reports thereon to the board. The committee has the
sole authority to retain and terminate any search firm to be used to identify
director candidates.
Stockholders wishing to recommend director candidates for consideration by
the committee can do so by writing to the Secretary of the Company at our
corporate headquarters, giving the candidate's name, biographical data and
qualifications. The Secretary will, in turn, deliver any stockholder
recommendations for director candidates prepared in accordance with our bylaws
to the nominating and governance committee. Any such recommendation must be
accompanied by a written statement from the individual of his or her consent to
be named as a candidate and, if nominated and elected, to serve as a director.
Investment and Property Management Committee
Our board of directors has established an investment and property
management committee, which consists of Messrs. Schwachter (chair), Peschio and
Wood. The principal function of the committee is to review potential property
acquisitions. In addition, the committee may approve any property acquisition
that has an purchase price of $18,000,000 or less.
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INTERLOCKS AND INSIDER PARTICIPATION
There are no compensation committee interlocks and none of our employees
serve on the compensation and human resources committee.
COMPENSATION OF DIRECTORS
Each director will be paid a director's fee of $25,000 per year. Directors
will also receive a fee of $1,000 for each board of directors meeting attended.
We will pay directors a fee of $10,000 per year for service as chairman of the
board of directors, $7,500 per year for service as chairman of our audit
committee, $6,000 per year for service as the chairman of our compensation
committee and $5,000 per year for service as chairman for any other of our
committees. Each director will be paid a fee of $750 per committee meeting
attended, except when the committee meeting is on the same day as a board
meeting. In addition, we will reimburse all directors for reasonable
out-of-pocket expenses incurred in connection with their services on the board
of directors. Directors who are employees will receive no additional
compensation for their service as a director.
Each non-employee director will also be granted 2,000 shares of our
restricted common stock each year. Each non-employee director, other than
Messrs. Bringard and Schwachter, will receive a one-time grant of 2,500 shares
of our restricted common stock in connection with their initial election to the
board. Our non-employee founding directors, Jerry D. Bringard and Richard H.
Schwachter, will each receive one time restricted stock grant of 12,500 shares,
which will vest over a three to five year period as directed by the each
founding director. Initial vesting shall not exceed 33% of the restricted shares
granted to the founding directors. Vesting will accelerate in the event the
director is not re-elected or is removed from the board of directors for any
reason, except for willful misconduct or gross negligence, or in the event of
the death or disability of the director.
EXECUTIVE COMPENSATION
We commenced operations in 2002. We did not conduct any operations prior to
this time and, accordingly, did not pay any compensation to our executive
officers in 2002 or any prior years.
EMPLOYMENT AGREEMENTS
We have entered into an employment agreement with Thomas D. Peschio, our
president and chief executive officer. Mr. Peschio's employment agreement
provides that he will receive an annual base salary of $350,000 with minimum
annual increases based upon the Consumer Price Index. Mr. Peschio will be
entitled to receive annual bonuses of 40%, 60% or 80% of his annual base salary,
subject to specified financial performance goals to be established yearly by our
compensation committee.
Mr. Peschio will be eligible to participate in the 2003 Equity Incentive
Plan, as described in the section below entitled "2003 Equity Incentive Plan."
Restricted share awards that have been approved by our board and which will be
issued immediately following completion of this offering are shown below in the
section entitled "Management -- Equity Incentive Plan." Mr. Peschio's employment
agreement also provides that he is eligible to receive annual bonuses under our
approved bonus plans. See "Management -- 2004 Annual Bonus Criteria" below.
At the end of the initial five year term, Mr. Peschio's employment
agreement will automatically extend for additional one year periods unless
either party elects not to extend the agreement. We may terminate Mr. Peschio's
employment with appropriate notice with or without "cause." "Cause" is generally
defined to mean:
- convicted of, or the entry of a plea of guilty or nolo contendere to, a
felony (excluding any felony relating to the negligent operation of a
motor vehicle or a conviction, plea of guilty or nolo contendere arising
under a statutory provision imposing per se criminal liability due to the
position held by Mr. Peschio with us, provided the act or omission with
respect to such matter was not taken or omitted to be taken in
contravention of any applicable policy or directive of the board of
directors);
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- a willful breach of his duty of loyalty which is materially detrimental
to us;
- a willful failure to perform or adhere to explicitly stated duties that
are consistent with Mr. Peschio's employment agreement, or the reasonable
and customary guidelines of employment or reasonable and customary
corporate governance guidelines or policies, including without limitation
the business code of ethics adopted by the board of directors, or the
failure to follow the lawful directives of the board of directors
provided such directives are consistent with the terms of Mr. Peschio's
employment agreement, which continues for a period of 30 days after
written notice to the executive; and
- gross negligence or willful misconduct in the performance of his duties.
Mr. Peschio's employment agreement also provides that he will be eligible
to receive the same benefits, including medical insurance coverage and
retirement plan benefits in a 401(k) plan to the same extent as other similarly
situated employees, and such other benefits as are commensurate with his
position, including payments for automobile expenses and tax planning services.
Participation in employee benefit plans will be subject to the terms of said
benefit plans as in effect from time to time.
If Mr. Peschio's employment ends for any reason, we will pay accrued
salary, bonuses and incentive payments already determined, and other existing
obligations. In addition, if we terminate Mr. Peschio's employment without
cause, if Mr. Peschio is terminated as a result of death or total disability or
if Mr. Peschio voluntarily terminates his employment for good reason, we must
pay all the amounts due under the employment agreement, including base salary
and a bonuses equal to the prior year's bonus, but not less than $150,000 per
year, for a number of years equal to the greater of the remainder of the initial
term of the employment agreement or three years. Additionally, in the event of a
termination by us for any reason other than for cause, or if Mr. Peschio
voluntarily terminates his employment for good reason, all of the unvested
restricted shares granted to Mr. Peschio will fully vest. If Mr. Peschio's
employment ends for cause or due to a voluntary termination on the part of Mr.
Peschio other than for good reason, then any unvested restricted shares granted
to Mr. Peschio will terminate unless otherwise agreed to by us.
If we fail to renew Mr. Peschio's employment agreement upon the expiration
of its term, Mr. Peschio will receive a lump sum payment equal to two years of
his most recent base salary plus the average of his yearly bonus awards for the
previous two years. Additionally, all unvested restricted shares granted to Mr.
Peschio will fully vest.
Mr. Peschio may terminate his employment agreement, at his option, for
"good reason." "Good reason" is generally defined to mean:
- a material reduction in Mr. Peschio's duties or responsibilities, a
change in reporting requirements, or the assignment to Mr. Peschio of any
duties, responsibilities or reporting requirements that are inconsistent
with his position as president and chief executive officer;
- a change in control, which is generally defined to mean an event wherein
(i) our board of directors accepts, or recommends to our stockholders an
offer from any person, other than those in control of us, acting on
behalf of us or under common with us, to become the beneficial owner of
our securities representing thirty percent or more of the combined voting
power of our outstanding securities, or (ii) our board of directors
approves or recommends to our stockholders, a plan of complete or
substantial liquidation, an agreement for the sale or disposition of all
or substantially all of our assets, or a merger, consolidation or
reorganization, other than a merger, consolidation or reorganization that
would result in the our voting securities outstanding immediately prior
to such event continuing to represent at least eighty-five percent of the
combined voting power of the voting securities outstanding after such
event;
- an involuntary reduction in base salary;
- a material reduction or loss of benefits, including group health, dental,
401(k), accident, disability insurance, or group life insurance;
67
- a requirement that our principal place of business at which Mr. Peschio
performs his duties be changed to a location that is outside of the
Omaha, Nebraska metropolitan area; and
- a breach by us of any provision of Mr. Peschio's employment agreement,
which breach continues for a period of thirty days after Mr. Peschio
provides notice of such breach.
If payments or other benefits are received in connection with Mr. Peschio's
termination, such that Mr. Peschio will be subject to an excise tax imposed by
Section 4999 of the Code, we must gross up Mr. Peschio for the amount of this
excise tax plus the amount of taxes due as a result of the gross up payment.
Mr. Peschio will also receive an initial restricted stock grant in an
amount equal to 0.625% of the shares issued pursuant to this offering, which
amount will not exceed $1,000,000 in value based on the public offering price of
this offering. These shares will vest over five years with 20% vesting each
year.
2003 EQUITY INCENTIVE PLAN
General
We currently have in effect the 2003 Equity Incentive Plan. As of October
1, 2003, no awards of common stock were outstanding and 1,000,000 shares of
common stock were available for grant. The number of shares available for grant
under the plan will increase annually on the first day of each fiscal year that
commences after December 31, 2004 in an amount equal to the lesser of (i)
200,000 shares, (ii) 5% of the number of shares issued by us during the
preceding fiscal year, or (iii) a lesser amount determined by the board of
directors. We intend to limit the number of shares granted under the 2003 Equity
Incentive Plan to no more than 2.5% of our outstanding common stock.
Administration and Eligibility
The plan is administered by our compensation committee or any other
committee established by our board of directors that satisfies the "non-employee
director" requirement of Rule 16b-3 under the Securities Exchange Act and the
"outside director" requirement of Section 162(m) of the federal tax laws. Among
other functions, the Committee has the authority to select the participants
under the plan; to determine the types of awards to be granted to participants
and the number of shares covered by such awards; to set the terms and conditions
of such awards; to determine whether, to what extent and when awards may be
settled in cash or shares; to determine whether, to what extent and when cash,
shares and other awards may be deferred; and to establish, amend or waive rules
for the administration of the plan. Subject to the express terms of the plan,
determinations and interpretations with respect to the plan and award agreements
will be in the sole discretion of the committee, whose determinations and
interpretations will be binding on all parties.
Any key employee, non-employee director, consultant or advisor is eligible
to be granted awards under the plan. Non-employee directors, consultants and
advisors may not be granted incentive stock options under the plan.
Approximately ten persons are currently eligible to participate in the plan. The
number of eligible participants may change over time.
Awards Under the Plan; Available Shares
The plan authorizes the grant of: (a) stock options, which may be either
incentive stock options meeting the requirements of Section 422 of the federal
tax laws or non-qualified stock options; (b) stock appreciation rights; (c)
restricted stock; and (d) performance units. No individual may be granted,
during any calendar year, awards under the plan with respect to more than
150,000 shares of common stock (subject to adjustment as described below).
If any shares subject to awards granted under the plan, or to which any
award relates, are forfeited or if an award otherwise terminates, expires or is
cancelled prior to the delivery of all of the shares or other consideration
issuable or payable pursuant to the award, then such shares will be available
for the granting of new awards under the plan.
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Terms of Awards
Options. The Committee may grant non-qualified stock options and incentive
stock options to participants; provided, however, that no incentive stock
options may be granted to non-employee directors, consultants or advisors. No
participant may be granted incentive stock options that are first exercisable in
a calendar year for shares of common stock having a total fair market value
(determined as of the date of the grant) exceeding $100,000.
The Committee will determine the exercise price per share of common stock
subject to options granted under the plan, provided that the exercise price for
a non-qualified stock option may not be less than 85% of the fair market value
of a share of our common stock on the date of grant and the exercise price for
an incentive stock option may not be less than 100% of the fair market value of
a share of our common stock on the date of grant. In addition, the exercise
price for an incentive stock option granted to any person owning more than 10%
of the total voting power of all classes of our stock may not be less than 110%
of the fair market value of a share of our common stock on the date of the
grant. The term of any stock option granted under the plan will be determined by
the Committee, provided that the term of any option may not exceed ten years
from the date of its grant. Options granted under the plan will become
exercisable in the manner, at the times and in the amounts determined by the
Committee. Participants may exercise options by payment in full of the exercise
price, at the discretion of the Committee, in cash, by tendering shares of
common stock having a fair market value on the date of exercise equal to the
option exercise price, or by a combination of cash and stock. All incentive
stock options granted under the plan must comply with Section 422 of the code.
Stock Appreciation Rights. The Committee may grant stock appreciation
rights to participants. A stock appreciation right granted under the plan will
confer on the holder a right to receive, upon exercise of the stock appreciation
right, the excess of (a) the fair market value of one share of common stock on
the date of exercise over (b) the grant price of the stock appreciation right as
specified by the Committee. Stock appreciation rights may be issued in tandem
with stock options or as freestanding stock appreciation rights. If stock
appreciation rights are issued in tandem with stock options, the participant
will forfeit the stock appreciation rights if the stock options are exercised
and will forfeit the stock options if the stock appreciation rights are
exercised. The exercise price of a freestanding stock appreciation right will be
the fair market value of a share of our common stock on the date of the grant
and the exercise price of stock appreciation rights issued in tandem with stock
options will be the exercise price of the stock options. At the time of grant,
the Committee will determine the term, methods of exercise, methods of
settlement (including whether the holder of a stock appreciation right will be
paid in cash, shares of common stock or a combination thereof), and any other
terms and conditions of any stock appreciation rights granted under the plan.
Restricted Stock. The Committee may grant shares of restricted stock to
participants. Shares of restricted stock granted under the plan will be subject
to such restrictions as the Committee may impose, including any limitation on
the right to vote the shares or receive dividends on the shares. The
restrictions imposed on the shares may lapse separately or in combination at the
times and in the amounts as the Committee determines.
Performance Units. The Committee may grant performance units to
participants. The Committee will determine and/or select the applicable
performance period, the performance goals (and the performance levels related to
these goals) to be achieved during any performance period, the proportion of
payments, if any, to be made for performance between the minimum and full
performance level for any performance goal and, if applicable, the relative
percentage weighting given to each of the selected performance goals, the
restrictions applicable to shares received upon payment of performance units, if
payment is made in such manner, and any other terms, conditions and rights
relating to the grant of performance units.
Under the terms of the plan, the Committee may select from various
performance goals, including return on equity, return on investment, return on
net assets, return on revenues, net income, economic value added, net operating
profits, net income, net earnings, revenues, net cash provided by operating
activities, market share, share price, net operating profit, cash flow,
comparison to various stock market indices, comparison to performance of other
companies, and level of dividends. The Committee has sole discretion to alter
the selected performance goals, subject to stockholder approval, to the extent
required to qualify the performance
69
award for the performance-based exemption provided by Section 162(m) of the
federal tax laws. If the Committee determines it is advisable to grant
performance units that do not qualify for the performance-based exemption, then
the Committee may make such grants in its discretion.
Following completion of the applicable performance period, payment on
performance units will be made in shares of common stock, cash or a combination
thereof.
401(k) PLAN
We plan to establish a retirement savings plan under section 401(k) of the
Code to cover our eligible employees. The federal tax laws allow eligible
employees to defer a portion of their compensation, within prescribed limits, on
a pre-tax basis through contributions to the 401(k) plan. All of our full time
employees will be eligible to participate in the 401(k) plan, subject to
eligibility requirements defined within the plan.
RELATED PARTY TRANSACTIONS
CORPORATE BACKGROUND
We were incorporated in Michigan under the name Genesis Net Lease Realty,
Inc. in September 1998. We sold 955,206 shares of our common stock between
October 2002 and August 2003 in an SEC-registered public offering for $10.00 per
share. We were organized by Genesis Financial Group, Inc., which is owned 55% by
D. James Barton and 45% by Gregg S. Barton. Except as set forth below, neither
Genesis Financial Group, D. James Barton nor Gregg S. Barton has any current
relationship with us or will have a relationship with us following the offering.
As of September 30, 2003, we had approximately 265 stockholders and 975,552
shares of common stock outstanding. Until this offering, we have elected not to
list our common stock on any securities market. We changed our name to Gen-Net
Lease Income Trust, Inc. in 2001 and commenced operations in December 2002. In
September 2003, our stockholders approved a proposal to reincorporate the
Company in Maryland. In connection with the Maryland reincorporation, we will
change our name to Government Properties Trust, Inc. The reincorporation will be
accomplished by forming Government Properties Trust, Inc. as a Maryland
corporation and merging it with Gen-Net Lease Income Trust, Inc. with Government
Properties Trust, Inc. as the surviving entity. We expect to effect the
reincorporation immediately prior to the closing of this offering.
Genesis purchased 20,346 shares of our common stock (10,346 shares on
August 30, 2002 and 10,000 shares on January 23, 2001) at $10 per share, for an
aggregate purchase price of approximately $203,460. After giving effect to this
offering, Genesis will own less than one percent of our common stock
outstanding.
In June 2003, we entered into an Amended and Restated Omnibus Services
Agreement with Genesis at no cost, pursuant to which Genesis has provided us
with property acquisition services, property disposition services,
administration services and property management services. We recognize the cost
of these services as they are provided. For acquisition services, Genesis
receives reasonable compensation for services actually rendered, which
compensation may not exceed 1% of the purchase price of the property being
acquired (included in the historical cost of our real estate). For property
disposition services, Genesis receives a real estate commission upon the sale of
properties if Genesis provided substantial brokerage services in connection with
such sale, provided, however, that such commissions may not exceed an amount
equal to 3% of sale price of the property (would be included in the gain or loss
on sale of our real estate). For administration services, Genesis receives its
actual out-of-pocket expenses for providing the services and an overhead factor
to cover utilities allocable to us used in providing the services (included in
our historical general and administrative expense). For property management
services, Genesis receives a monthly fee of 3% of the gross rental revenues of
the properties for which such services were provided and received reimbursement
for its costs actually incurred in connection with the performance of such
services (included in our historical property operations expense). During the
nine months ended September 30, 2003, we paid Genesis an aggregate of $503,015
for all such services.
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On September 30, 2003, we entered into a Property Acquisition Services
Agreement with Genesis. The agreement provides that, upon completion of this
offering, Genesis will provide us only with property acquisition services, on a
non-exclusive basis, until the earlier of one year from the completion of this
offering or the applying of the last of the net proceeds from this offering to
be used for property acquisitions. For the provision of property acquisition
services, we will pay Genesis a fee equal to 1% of the purchase price of the
property being acquired and reimbursement of its costs up to an additional 2% of
the property acquisition fee paid by us to Genesis. The agreement supercedes and
replaces those portions of the Amended and Restated Omnibus Services Agreement
for professional services. We intend to terminate the remainder of the Amended
and Restated Omnibus Services Agreement upon the consummation of this offering.
Other than as provided in the Property Acquisition Services Agreement, Genesis
will not provide us with any services after this offering.
We financed the purchase of our Bakersfield property in part through an
approximately $1.6 million bank loan to Genesis. Genesis then advanced the loan
proceeds to DEA Bakersfield, LLC for the purchase of the Bakersfield property.
The loan is secured by a corporate guaranty by DEA Bakersfield, LLC and a
mortgage on the Bakersfield property. Subsequently, DEA Bakersfield, LLC agreed
to be primarily responsible for repaying amounts owed under the loan. We will
repay this loan with the proceeds of this offering.
On August 12, 2003, Genesis agreed to act as co-borrower with us on a
$300,000 line of credit. In September 2003, we entered into an addendum to the
promissory note evidencing the line of credit, pursuant to which we became the
primary obligor on the note, Genesis was released from liability under the note
and the line of credit amount was reduced to $34,670. We will repay this loan
with the proceeds of this offering.
TRANSITION ARRANGEMENTS
We plan to enter into a transition services agreement with The Lund
Company, a commercial real estate brokerage and management firm in Omaha,
Nebraska with 33 affiliated investment partnerships and with property management
responsibility for over 70 commercial properties. Pursuant to the agreement, The
Lund Company will license us intellectual property related to our operations and
will provide us with 500 hours of property management, consulting and advisory
services. In exchange, we will pay The Lund Company $90,000. Thomas Peschio, our
president and CEO is an executive officer and stockholder of The Lund Company.
Nancy Olson, our Treasurer and CFO, is an executive officer of The Lund Company.
Upon the closing of this offering, Mr. Peschio and Ms. Olson plan to resign
their positions with The Lund Company and Mr. Peschio intends to sell his stock
back to The Lund Company pursuant to an existing stock repurchase agreement.
Upon the completion of this offering, we will transition from external
management to internal management. We have prepared a staffing plan and engaged
or identified the personnel for this plan. Further, The Lund Company has agreed
to provide property management systems, procedures, operating manuals, forms,
and consulting or advisory services during the transition period. We believe
that the transition will commence within 30 days after the closing of this
offering and will be completed within 90 days after the closing of this
offering. We do not expect to use services of The Lund Company after we complete
our transition.
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PRINCIPAL STOCKHOLDERS
The following table sets forth information regarding the ownership of our
common stock as of November 1, 2003 by:
- each of our directors;
- each of our executive officers;
- our directors and executive officers as a group; and
- each beneficial owner of more than 5% of our common stock.
The SEC defines "beneficial ownership" to mean the possession, directly or
indirectly, of voting power, investment power or both. A stockholder is deemed
to be the beneficial owner of all securities that such stockholder has the right
to acquire within 60 days after a particular date through (a) the exercise of
any option, warrant or right, (b) the conversion of a security, (c) the power to
revoke a trust, discretionary account or similar arrangement, or (d) the
automatic termination of a trust, discretionary account or similar arrangement.
NUMBER OF SHARES PERCENT OF
NAME OF STOCKHOLDER BENEFICIALLY OWNED CLASS
------------------- ------------------ ----------
Carl G. and Betty Dahlin Trust dated 5/31/95(1)............ 100,000 10.3%
Thomas D. Peschio.......................................... -- --
Nancy D. Olson............................................. -- --
Jerry D. Bringard.......................................... -- --
Robert M. Ames............................................. -- --
Robert A. Peck............................................. -- --
Richard H. Schwachter...................................... -- --
David C. Wood.............................................. -- --
All directors and executive officers as a group............ -- --
---------------
(1) These shares held by this trust are controlled by Carl G. Dahlin and Betty
Dahlin.
The foregoing percentages are based on 975,552 shares outstanding as of
November 1, 2003.
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DESCRIPTION OF COMMON STOCK
The following is a summary of our common stock. Copies of our charter and
bylaws are filed as exhibits to the registration statement of which this
prospectus is a part. We recommend that you review these documents. See "Where
You Can Find More Information."
GENERAL
Our charter provides that we may issue up to 50,000,000 shares of common
stock. Upon completion of this offering, there will be 11,125,552 shares of
common stock issued and outstanding.
Generally, under Maryland law no stockholder shall be personally liable for
any of our obligations solely as a result of that stockholder's status as a
stockholder.
VOTING RIGHTS OF COMMON STOCK
Each outstanding share of our common stock entitles the holder to one vote
on all matters submitted to a vote of stockholders, including the election of
directors. The holders of common stock possess the exclusive voting power. There
is no cumulative voting in the election of directors.
Under Maryland law, a corporation generally cannot dissolve, amend its
charter, merge, sell all or substantially all of its assets or engage in a
statutory share exchange unless the transaction is declared advisable by the
board of directors and approved by the affirmative vote of stockholders holding
at least two-thirds of the shares entitled to vote on the matter. Our charter
provides, however, that, notwithstanding any provisions of Maryland law
requiring that any action be taken or authorized by the affirmative vote of the
holders of a designated proportion greater than a majority of the shares or
votes entitled to be cast, such action shall be effective and valid if taken or
authorized by the affirmative vote of the holders of a majority of the total
number of shares outstanding and entitled to vote thereon. Our charter does
provided that the affirmative vote of the holders of not less than two-thirds of
our shares outstanding and entitled to vote generally for the election directors
are required in order for any director to be removed from office. See
"Management -- Directors Generally."
DIVIDENDS, LIQUIDATION AND OTHER RIGHTS
All shares of common stock offered by this prospectus will be duly
authorized, fully paid and nonassessable. Holders of our common stock are
entitled to receive dividends when authorized by our board of directors out of
assets legally available for the payment of dividends. They also are entitled to
share ratably in our assets legally available for distribution to our
stockholders in the event of our liquidation, dissolution or winding up, after
payment of or adequate provision for all of our known debts and liabilities.
These rights are subject to the preferential rights of any other class or series
of our shares (of which there are none at this time) and to the provisions of
our governing documents regarding restrictions on transfer of our shares.
Holders of our common stock have no preference, conversion, exchange,
sinking fund, redemption or appraisal rights and have no preemptive rights to
subscribe for any of our securities. Subject to the restrictions on transfer of
shares contained in our charter and to the ability of the board of directors to
create stock, including common stock with differing voting rights, preferences
and other rights, all shares of our common stock have equal dividend,
liquidation and other rights.
POWER TO CLASSIFY OR RECLASSIFY SHARES
Our charter authorizes our board of directors to classify or reclassify any
unissued shares of our common stock into other classes or series of classes of
stock and to establish the number of shares in each class or series and to set
the preference, conversion and other rights, voting powers, restrictions as to
dividends, qualification and terms and conditions of redemption of those shares.
A majority of our board of directors, without action by any of the stockholders,
may amend our charter to increase or decrease the aggregate number of shares of
stock or the number of shares of stock of any class that we have authority to
issue.
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POWER TO ISSUE ADDITIONAL STOCK
Our board of directors has the power to issue additional shares of common
stock and to classify or reclassify unissued common stock and thereafter to
issue the classified shares without stockholder approval, unless stockholder
approval is required by applicable law or the rules of any stock exchange or
automated quotation system on which our securities may be listed or traded.
Although we have no present intention of doing so, we could issue a class or
series of shares that could delay, deter or prevent a transaction or a change in
control that might involve a premium price for holders of our common stock or
otherwise be in their best interests.
RESTRICTIONS ON OWNERSHIP AND TRANSFER
In order to qualify as a REIT under the federal tax laws, our shares must
be beneficially owned by 100 or more persons during at least 335 days of a
taxable year of 12 months (other than the first year for which an election to be
a REIT has been made) or during a proportionate part of a shorter taxable year.
Also, not more than 50% of the value of the outstanding shares may be owned,
directly or indirectly, by five or fewer individuals (as defined in the federal
tax laws to include certain entities) during the last half of a taxable year
(other than the first year for which an election to be a REIT has been made).
Because our board of directors believes that it is at present essential for
us to qualify as a REIT, the charter, subject to certain exceptions, contains
restrictions on the number of our shares that a person may own. Our charter and
bylaws prohibit any person from acquiring or holding, directly or indirectly,
shares of our common stock in excess of 9.8% in the aggregate of our outstanding
stock, in number of shares or value. We refer to this restriction as the
"ownership limit." Our charter further prohibits any person who owns an interest
that is greater than 9.9% in the aggregate in any of our tenants from owning
greater than 9.9% by value of our outstanding common stock. We refer to this
restriction as the "related tenant limit." A person or entity that becomes
subject to the ownership limit or the related tenant limit by virtue of a
violative transfer that results in a transfer to a trust, as set forth below, is
referred to as a "purported beneficial transferee" if, had the violative
transfer been effective, the person or entity would have been a record owner and
beneficial owner or solely a beneficial owner of our common stock, or is
referred to as a "purported record transferee" if, had the violative transfer
been effective, the person or entity would have been solely a record owner of
our stock.
The constructive ownership rules under the federal tax laws are complex and
may cause stock owned actually or constructively by a group of related
individuals and/or entities to be owned constructively by one individual or
entity. As a result, the acquisition of less than 9.8% of our stock (or the
acquisition of an interest in an entity that owns, actually or constructively,
our common stock) by an individual or entity, could, nevertheless cause that
individual or entity, or another individual or entity, to own constructively in
excess of 9.8% of our outstanding common stock and thereby subject the stock to
the applicable ownership limit.
Our board of directors may, in its sole discretion and on terms and
conditions it deems necessary, waive the ownership limit with respect to a
particular stockholder if it receives a ruling from the IRS or an opinion of
counsel to the effect that such waiver will not result in our being classified
as a "closely held" corporation within the meaning of Section 856(h) of the
Code.
In connection with the waiver of the ownership limit or at any other time,
our board of directors may increase or decrease the ownership limit; provided,
however, that any decrease may only be made prospectively as to subsequent
holders, unless such decrease is immediately necessary in order to maintain our
REIT status. Additionally, the new ownership limit may not allow five or fewer
stockholders to beneficially own more than 49.9% in value of our outstanding
stock and may not be increased to a percentage which is greater than 9.9%.
Our charter further prohibits:
- any person from beneficially or constructively owning shares of our stock
that would result in us being "closely held" under Section 856(h) of the
Code or otherwise cause us to fail to qualify as a REIT; and
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- any person from transferring shares of our stock if such transfer would
result in shares of our stock being beneficially owned by fewer than 100
persons (determined without reference to any attribution rules).
Any person who acquires or attempts or intends to acquire beneficial or
constructive ownership of shares of our stock that will or may violate any of
the foregoing restrictions on transferability and ownership will be required to
give notice immediately to us and provide us with such other information as we
may request in order to determine the effect of such transfer on our status as a
REIT. The foregoing provisions on transferability and ownership will not apply
if our board of directors determines that it is no longer in our best interests
to attempt to qualify, or to continue to qualify, as a REIT.
Pursuant to our charter, if any purported transfer of our stock or any
other event would otherwise result in any person violating the ownership limits,
the related tenant limits, or such other limit as permitted by our board of
directors, then any such purported transfer will be void and of no force or
effect as to that number of shares in excess of the ownership limit or the
related tenant limit. That number of shares in excess of the ownership limit or
the related tenant limit will be automatically transferred to, and held by, a
trust for the exclusive benefit of one or more charitable organizations. The
automatic transfer will be effective as of the close of business on the business
day prior to the date of the violative transfer or other event that results in a
transfer to the trust. Any dividend or other distribution paid to the purported
record transferee, prior to our discovery that the shares had been automatically
transferred to a trust as described above, must be repaid to the trustee for the
benefit of the charitable beneficiary of the trust. If the transfer to the trust
as described above is not automatically effective, for any reason, to prevent
violation of the applicable ownership limit or as otherwise permitted by our
board of directors, then our charter provides that the transfer of the excess
shares will be void.
Shares of our stock transferred to the trustee are deemed offered for sale
to us, or our designee, at a price per share equal to the lesser of (i) the
price paid by the purported record transferee for the shares (or, if the event
which resulted in the devise, gift or other transfer to the trust did not
involve a purchase of such shares in which no value was given, at the fair
market value of the shares (as determined by our board of directors), and (ii)
the fair market value of the shares (as determined by our board of directors) on
the date we, or our designee, accepts such offer. We have the right to accept
such offer for a period of 90 days from the later of the date of the transfer
creating the excess shares or the date on which the board of directors
determines in good faith that a transfer creating excess shares has occurred. At
the board of directors' sole discretion, we may pay the purchase price for the
redemption at any time up to five years from our decision to redeem the shares.
Upon a sale to us, the interest of the charitable beneficiary in the shares sold
terminates and the trustee must distribute the net proceeds of the sale to the
purported record transferee and any dividends or other distributions held by the
trustee with respect to such common stock will be paid to the charitable
beneficiary.
If we do not buy the shares, the trustee must sell the shares to a person
or entity designated by the trustee who could own the shares without violating
the ownership limits or the related tenant limit or as otherwise permitted by
our board of directors. After that, the trustee must distribute to the purported
record transferee an amount equal to the lesser of (i) the price paid by the
purported record transferee or owner for the shares (or, if the event which
resulted in the transfer to the trust did not involve a purchase of such shares
at fair market value of the shares (as determined by our board of directors) and
(ii) the sales proceeds received by the trust for the shares, less any dividends
or distributions paid to the purported record transferee which such purported
record transferee was to repay to the trustee but has failed to so repay. The
purported beneficial transferee or purported record transferee has no rights in
the shares held by the trustee. All proceeds not delivered to the purported
record transferee shall be delivered to the charitable beneficiary.
The trustee shall be designated by us and shall be unaffiliated with us and
with any purported record transferee or purported beneficial transferee. Prior
to the sale of any excess shares by the trust, the trustee will receive, in
trust for the beneficiary, all dividends and other distributions paid by us with
respect to the excess shares, and may also exercise all voting rights with
respect to the excess shares.
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Subject to Maryland law, effective as of the date that the shares have been
transferred to the trust, any vote cast by a purported record transferee prior
to our discovery that the shares have been transferred to the trust shall be
rescinded ab initio.
Any beneficial owner or constructive owner of more than 5% of the number or
value of outstanding shares of our stock shall, within 30 days after January 1
of each year, provide written notice to us stating such person's name and
address, the number of shares held by such person and a description of how such
shares are held. In addition, each beneficial owner or constructive owner of any
shares of our stock and any person or entity (including the stockholder of
record) who is holding shares of our stock for a beneficial owner must, on
request, be required to disclose to us in writing such information as we may
request in order to determine the effect, if any, of such stockholder's actual
and constructive ownership of shares of our common stock on our status as a REIT
and to ensure compliance with the ownership limit, or as otherwise permitted by
our board of directors.
All certificates representing shares of our common stock bear a legend
referring to the restrictions described above.
These ownership limits could delay, defer or prevent a transaction or a
change of control of our company that might involve a premium price for our
common stock or otherwise be in the best interest of our stockholders.
TRANSFER AGENT AND REGISTRAR
The transfer agent and registrar for our common stock will be Wells Fargo
Shareowner Services.
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MATERIAL PROVISIONS OF MARYLAND LAW AND OF OUR
CHARTER AND BYLAWS
The following is a summary of Maryland law and our charter and bylaws,
copies of which are exhibits to the registration statement of which this
prospectus is a part. We recommend that you review these documents. See "Where
You Can Find More Information."
THE BOARD OF DIRECTORS
Our bylaws provide that the number of directors may be established by our
board of directors but may not be fewer than three nor greater than seven. Any
vacancy will be filled, at any regular meeting or at any special meeting called
for that purpose, by a majority of the remaining directors.
Pursuant to our charter and bylaws, each member of our board of directors
serves a one year term, with each member's initial term expiring in 2004.
Holders of shares of our common stock will have no right to cumulative voting in
the election of directors. Consequently, at each annual meeting of our
stockholders, all of the members of our board of directors will stand for
election and our directors will be elected by a plurality of the votes cast. Our
directors may only be removed for cause and by the affirmative vote of the
holders of at least two-thirds of our common stock.
MARYLAND TAKEOVER STATUTES
Maryland law prohibits "business combinations" between a corporation and an
interested stockholder or an affiliate of an interested stockholder for five
years after the most recent date on which the interested stockholder becomes an
interested stockholder. These business combinations include a merger,
consolidation, statutory share exchange, or, in circumstances specified in the
statute, certain transfers of assets, certain stock issuances and transfers,
liquidation plans and reclassifications involving interested stockholders and
their affiliates as asset transfer or issuance or reclassification of equity
securities. Maryland law defines an interested stockholder as:
- any person who beneficially owns 10% or more of the voting power of our
voting stock; or
- an affiliate or associate of the corporation who, at any time within the
two-year period prior to the date in question, was the beneficial owner
of 10% or more of the voting power of the then-outstanding voting stock
of the corporation
A person is not an interested stockholder if the board of directors
approves in advance the transaction by which the person otherwise would have
become an interested stockholder. However, in approving the transaction, the
board of directors may provide that its approval is subject to compliance, at or
after the time of approval, with any terms and conditions determined by the
board of directors.
After the five year prohibition, any business combination between a
corporation and an interested stockholder generally must be recommended by the
board of directors and approved by the affirmative vote of at least:
- 80% of the votes entitled to be cast by holders of the then outstanding
shares of our stock entitled to vote on the matter; and
- two-thirds of the votes entitled to be cast by holders of our stock other
than shares held by the interested stockholder with whom or with whose
affiliate the business combination is to be effected or shares held by an
affiliate or associate of the interested stockholder.
These super-majority vote requirements do not apply if our stockholders
receive a minimum price, as defined under Maryland law, for their shares in the
form of cash or other consideration in the same form as previously paid by the
interested stockholder for its shares.
The statute permits various exemptions from its provisions, including
business combinations that are approved by the board of directors before the
time that the interested stockholder becomes an interested stockholder.
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Maryland law also provides that "control shares" acquired in a "control
share acquisition" have no voting rights unless approved by a vote of two-thirds
of our outstanding voting shares, excluding shares owned by the acquiror or by
officers or directors who are employees of ours. "Control shares" are voting
shares which, if aggregated with all other shares previously acquired by the
acquiring person, or in respect of which the acquiring person is able to
exercise or direct the exercise of voting power, other than by revocable proxy,
would entitle the acquiring person to exercise voting power in electing
directors within one of the following ranges of voting power:
- one-tenth or more but less than one-third;
- one-third or more but less than a majority; or
- a majority of all voting power.
Control shares do not include shares the acquiring person is then entitled
to vote as a result of having previously obtained stockholder approval. A
"control share acquisition" means the acquisition of control shares, subject to
certain exceptions.
A person who has made or proposes to make a control share acquisition, upon
satisfaction of certain conditions, including an undertaking to pay expenses,
may compel our board of directors to call a special meeting of stockholders to
be held within 50 days of demand to consider the voting rights of the shares. If
no request for a meeting is made, we may present the question at any
stockholders' meeting.
If voting rights are not approved at the stockholders' meeting or if the
acquiring person does not deliver the statement required by Maryland law, then,
subject to certain conditions and limitations, we may redeem any or all of the
control shares, except those for which voting rights have previously been
approved, for fair value. Fair value is determined without regard to the absence
of voting rights for the control shares and as of the date of the last control
share acquisition or of any meeting of stockholders at which the voting rights
of the shares were considered and not approved. If voting rights for control
shares are approved at a stockholders' meeting, the acquiror may then vote a
majority of the shares entitled to vote, and all other stockholders may exercise
appraisal rights. The fair value of the shares for purposes of these appraisal
rights may not be less than the highest price per share paid by the acquiror in
the control share acquisition. The control share acquisition statute does not
apply to shares acquired in a merger, consolidation or share exchange if we are
a party to the transaction, nor does it apply to acquisitions approved or
exempted by our charter or bylaws.
Our bylaws exempt from the Maryland control share statute any and all
acquisitions of our stock by any person. The board of directors has the right,
however, to amend this exemption at any time in the future.
Maryland law also provides that Maryland corporations that are subject to
the Exchange Act and have at least three outside directors can elect by
resolution of the board of directors to be subject to some corporate governance
provisions that may be inconsistent with the corporation's charter and bylaws.
Under the applicable statute, a board of directors may classify itself without
the vote of stockholders. A board of directors classified in that manner cannot
be altered by amendment to the charter of the corporation. Further, the board of
directors may, by electing into applicable statutory provisions and
notwithstanding the charter or bylaws:
- provide that a special meeting of stockholders will be called only at the
request of stockholders entitled to cast at least a majority of the votes
entitled to be cast at the meeting,
- reserve for itself the right to fix the number of directors,
- provide that a director may be removed only by the vote of the holders of
two-thirds of the stock entitled to vote,
- retain for itself sole authority to fill vacancies created by the death,
removal or resignation of a director, and
- provide that all vacancies on the board of directors may be filled only
by the affirmative vote of a majority of the remaining directors, in
office, even if the remaining directors do not constitute a quorum.
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In addition, a director elected to fill a vacancy under this provision will
serve for the balance of the unexpired term instead of until the next annual
meeting of stockholders. A board of directors may implement all or any of these
provisions without amending the charter or bylaws and without stockholder
approval. A corporation may be prohibited by its charter or by resolution of its
board of directors from electing any of the provisions of the statute. We are
not prohibited from implementing any or all of the stature. While certain of
these provisions are already contemplated by our charter and bylaws, the law
would permit our board of directors to override further changes to the charter
or bylaws. If implemented, these provisions could discourage offers to acquire
our stock and could increase the difficulty of completing an offer.
AMENDMENT TO OUR CHARTER
Subject to applicable law, our charter may be amended if declared advisable
by the board of directors and approved by the affirmative vote of the holders of
not less than a majority of all of the votes entitled to be cast on the matter;
provided, however, that our charter may be amended in order to increase or
decrease the aggregate number of shares of stock or the number of shares of
stock of any class that we have authority to issue by upon the approval of a
majority of members of our board of directors.
DISSOLUTION
A voluntary dissolution of our company must be declared advisable by the
board of directors and approved by the affirmative vote of the holders of not
less than a majority of all of the votes entitled to be cast on the matter.
ADVANCE NOTICE OF DIRECTOR NOMINATIONS AND NEW BUSINESS
Our bylaws provide that with respect to an annual meeting of stockholders,
nominations of persons for election to our board of directors and the proposal
of business to be considered by stockholders may be made only:
- pursuant to our notice of the meeting given by or at the direction of the
board of directors;
- otherwise properly brought before the annual meeting by or at the
direction of the board of directors; or
- by a stockholder who is entitled to vote at the meeting and has complied
with the advance notice procedures set forth in our bylaws.
ANTI-TAKEOVER EFFECT OF CERTAIN PROVISIONS OF MARYLAND LAW AND OF OUR CHARTER
AND BYLAWS
The provisions of our charter regarding removal of directors and the
advance notice provisions of the bylaws could delay, defer or prevent a
transaction or a change of control of our company that might involve a premium
price for holders of our common stock or otherwise be in their best interest.
Under our charter, in considering a potential acquisition of control of our
company, our board of directors is entitled to consider the effect of the
transaction on our suppliers, customers and creditors and the communities in
which we operate as well as our stockholders. Further, unlike some states,
Maryland law will not subject our board of directors to a higher duty or greater
scrutiny when taking action relating to an acquisition or potential acquisition
of control of our company. Maryland law provides that the duty of the directors
of a corporation does not require them to accept, recommend or respond to any
proposal by a person seeking to acquire control of the corporation. All of the
foregoing, as well as the business combination provisions of Maryland law and,
if the provision in our bylaws opting out of the control share acquisition
provisions of Maryland law were rescinded, those control share acquisition
provisions could have the effect of delaying or preventing a transaction that
might benefit our stockholders or otherwise be in their best interest.
INDEMNIFICATION AND LIMITATION OF DIRECTORS' AND OFFICERS' LIABILITY
The MGCL requires a corporation to indemnify a director or officer who has
been successful, on the merits or otherwise, in the defense of any proceeding to
which he or she is made a party by reason of his or her service in that
capacity. The MGCL permits a corporation to indemnify its present and former
directors and
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officers, among others, against judgments, penalties, fines, settlements and
reasonable expenses actually incurred by them in connection with any proceeding
to which they may be made a party by reason of their service in those or other
capacities unless it is established that:
- an act or omission of the director or officer was material to the matter
giving rise to the proceeding and
- was committed in bad faith; or
- was the result of active and deliberate dishonesty; or
- the director or officer actually received an improper personal benefit in
money, property or services; or
- in the case of any criminal proceeding, the director or officer had
reasonable cause to believe that the act or omission was unlawful.
However, under the MGCL, a Maryland corporation may not indemnify for an adverse
judgment in a suit by or in the right of the corporation or for a judgment of
liability on the basis that personal benefit was improperly received, unless in
either case a court orders indemnification and then only for expenses. The
termination of any proceeding by conviction or upon a plea of nolo contendee or
its equivalent or an entry of an order of probation prior to judgment creates a
rebuttable presumption that the director or officer did not meet the requisite
standard of conduct required for permitted indemnification. The termination of
any proceeding by judgment, order or settlement, however, does not create a
presumption that the director or officer did not meet the requisite standard of
conduct for permitted indemnification.
In addition, the MGCL permits a corporation to advance reasonable expenses
to a director or officer upon the corporation's receipt of:
- a written affirmation by the director or officer of his good faith belief
that he has met the standard of conduct necessary for indemnification by
the corporation; and
- a written undertaking by the director or on the director's behalf to
repay the amount paid or reimbursed by the corporation if it is
ultimately determined that the director did not meet the standard of
conduct.
The MGCL permits a Maryland corporation to include in its charter a
provision limiting the liability of its directors and officers to the
corporation and its stockholders for money damages except for liability
resulting from actual receipt of an improper benefit or profit in money,
property or services or active and deliberate dishonesty established by a final
judgment as being material to the cause of action. Our charter contains such a
provision which eliminates such liability to the maximum extent permitted by
Maryland law.
Our bylaws obligate us, to the fullest extent permitted by Maryland law, to
indemnify any director or former director and to pay or reimburse, in advance of
final disposition of a proceeding, reasonable expenses incurred by a director or
former director, if such person is or is threatened to be made a party to a
proceeding by reason of his or her position as a director. In addition, our
bylaws permit us, to the fullest extent permitted by Maryland law, to similarly
provide indemnification and reimbursement of reasonable expenses to:
- any present or former officer, employee or other agent who is made a
party to the proceeding by reason of his or her service in that capacity;
or
- any person who serves or has served at our request as a director,
officer, employee or agent of another corporation or entity.
Our bylaws also permit us to indemnify and advance expenses to any person
who served a predecessor of ours in any of the capacities described above and to
any employee or agent of our company or a predecessor of our company.
We intend to enter into indemnification agreements with our directors and
executive officers which will require, among other things, that we indemnify our
directors to the fullest extent permitted by Maryland law, and advance to such
persons all related expenses, subject to reimbursement if it is subsequently
determined that indemnification is not permitted. Under these agreements, we
must also indemnify and advance all expenses incurred by such persons seeking to
enforce their rights under the indemnification agreement.
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Although the form of indemnification agreement offers substantially the same
scope of coverage afforded by law, it provides greater assurance to the
registrant's directors and executive officers and such other persons that
indemnification will be available. See "Management -- Indemnification Agreement'
Insofar as the foregoing provisions permit indemnification of directors,
officers or persons controlling us for liability arising under the Securities
Act of 1933, as amended, we have been informed that in the opinion of the
Securities and Exchange Commission, this indemnification is against public
policy as expressed in the Securities Act of 1933, as amended and is therefore
unenforceable.
OBJECTING STOCKHOLDERS
Our charter provides that no holder of our common stock may exercise any
rights of an objecting stockholder under applicable Maryland law, except as such
rights may be provided in connection with a control share acquisition, although
we have opted out of the Maryland control share statutes.
SHARES AVAILABLE FOR FUTURE SALE
Upon the completion of this offering, we will have 11,125,552 shares of
common stock outstanding and 1,000,000 shares of common stock available for
grant under our 2003 Equity Incentive Plan. We intend to limit the number of
shares granted under the 2003 Equity Incentive Plan to no more than 2.5% of our
outstanding common stock. The common stock issued in this offering and 975,552
shares of common stock outstanding prior to this offering will be freely
tradeable by persons other than our affiliates, subject to certain limitations
on ownership set forth in our governing documents. See "Description of Common
Stock -- Restrictions on Ownership and Transfer."
Prior to this offering, there has been no public market for our common
stock. We have applied to have our common stock listed on the NYSE. We cannot
predict what effect, if any, that future sales of shares, or the availability of
shares for future sale, will have on the market price prevailing from time to
time. Sales of substantial amounts of common stock, or the perception that such
sales could occur, may affect adversely prevailing market prices of the common
stock. See "Risk Factors."
For a description of certain restrictions on transfers of our common stock
held by certain of our stockholders, see "Underwriting."
MATERIAL UNITED STATES FEDERAL INCOME TAX CONSEQUENCES
INTRODUCTORY NOTES
The following is a description of the material federal income tax
considerations to a holder of our common stock. This discussion is based upon
the assumption that we make an election to be treated as a REIT and we in fact
qualify as a REIT. The following discussion is not exhaustive of all possible
tax considerations and does not provide a detailed discussion of any state,
local or foreign tax considerations, nor does it discuss all of the aspects of
federal income taxation that may be relevant to a prospective stockholder in
light of his or her particular circumstances or to stockholders (including
insurance companies, tax-exempt entities, financial institutions or
broker-dealers, foreign corporations, and persons who are not citizens or
residents of the United States) who are subject to special treatment under the
federal income tax laws.
Blackwell Sanders Peper Martin LLP has provided an opinion to the effect
that this discussion, to the extent that it contains descriptions of applicable
federal income tax law, is correct in all material respects and fairly
summarizes the federal income tax laws referred to herein. This opinion is filed
as an exhibit to the registration statement of which this prospectus is a part.
This opinion, however, does not purport to address the actual tax consequences
of the purchase, ownership and disposition of our common stock to any particular
holder. The opinion, and the information in this section, is based on the
federal tax laws, current, temporary and proposed Treasury regulations, the
legislative history of the federal tax laws, current administrative
interpretations and practices of the IRS, and court decisions. The reference to
IRS interpretations and
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practices includes IRS practices and policies as endorsed in private letter
rulings, which are not binding on the IRS except with respect to the taxpayer
that receives the ruling. In each case, these sources are relied upon as they
exist on the date of this prospectus. We cannot assure you that future
legislation, regulations, administrative interpretations and court decisions
will not significantly change current law, or adversely affect existing
interpretations of existing law, on which the opinion and the information in
this section are based. Any change of this kind could apply retroactively to
transactions preceding the date of the change. Moreover, opinions of counsel
merely represent counsel's best judgment with respect to the probable outcome on
the merits and are not binding on the IRS or the courts. Accordingly, even if
there is no change in applicable law, we cannot assure you that such opinion, or
the statements made in the following discussion, will not be challenged by the
IRS or will be sustained by a court if so challenged.
EACH PROSPECTIVE PURCHASER IS ADVISED TO CONSULT HIS OR HER OWN TAX
ADVISOR, REGARDING THE SPECIFIC TAX CONSEQUENCES TO HIM OR HER OF THE
ACQUISITION, OWNERSHIP AND SALE OF SECURITIES OF AN ENTITY ELECTING TO BE TAXED
AS A REAL ESTATE INVESTMENT TRUST, INCLUDING THE FEDERAL, STATE, LOCAL, FOREIGN,
AND OTHER TAX CONSEQUENCES OF SUCH ACQUISITION, OWNERSHIP, SALE, AND ELECTION
AND OF POTENTIAL CHANGES IN APPLICABLE TAX LAWS.
REIT TAXATION
General. We intend to elect to be taxed as a REIT under Sections 856
through 859 of the Code, commencing with our taxable year ending December 31,
2003. An election is made by a taxpayer by filing its taxable income as a REIT,
which is generally done by filing a tax return on Form 1120-REIT. Thus, we can
make the election for 2003 at anytime prior to the due date of our 2003 tax
return, which may be timely filed on or before September 15, 2004.
Our qualification as a REIT depends upon our ability to meet on a
continuing basis, through actual annual operating results, distribution levels
and diversity of stock ownership, the various qualification tests and
organizational requirements imposed under the federal tax laws, as discussed
below. We believe that we are organized and have operated in such a manner as to
qualify under the federal tax laws for taxation as a REIT since the beginning of
2003 and we intend to continue to operate in such a manner. We can not assure
you, however, that we will qualify as a REIT for 2003 and that we will operate
in a manner so as to qualify or remain qualified as a REIT. See "Failure to
Qualify" below.
The following is a general summary of the material provisions of the
federal tax laws that govern the federal income tax treatment of a REIT and its
stockholders. These provisions of the federal tax laws are highly technical and
complex. This summary is qualified in its entirety by the applicable provisions
of the federal tax laws, the regulations promulgated thereunder ("Treasury
Regulations"), and administrative and judicial interpretations thereof.
Blackwell Sanders Peper Martin LLP has provided to us an opinion to the
effect that we have been organized and have operated in conformity with the
requirements for qualification as a REIT, effective for our taxable year ending
December 31, 2003, and our current and proposed organization and method of
operation will enable us to continue to meet the requirements for qualification
as a REIT for taxable year 2004 and thereafter. This opinion is filed as an
exhibit to the registration statement of which this prospectus is a part. It
must be emphasized that this opinion is conditioned upon our properly filing an
election to be taxed as a REIT (which will not be done until we file our 2003
federal income tax return in 2004) and the certain assumptions and
representations made by us to Blackwell Sanders Peper Martin LLP as to factual
matters relating to our organization and operation. Since qualification as a
REIT requires us to satisfy certain income and asset tests throughout the year
of 2003, Blackwell Sanders Peper Martin LLP's opinion is based upon assumption
and our representations as to future conduct, income and assets. In addition,
this opinion is based upon our factual representations concerning our business
and properties as described in the reports filed by us under the federal
securities laws.
Qualification as a REIT depends upon our ability to meet on a continuing
basis, through actual annual operating results, the various requirements under
the federal tax laws described in this prospectus with regard to, among other
things, the sources of our gross income, the composition of our assets, our
distribution levels, and our diversity of stock ownership. Blackwell Sanders
Peper Martin LLP will not review our operating
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results on an ongoing basis. While we intend to operate so that we qualify as a
REIT, given the highly complex nature of the rules governing REITs, the ongoing
importance of factual determinations, and the possibility of future changes in
our circumstances, no assurance can be given that we satisfy all of the tests
for REIT qualification or will continue to do so.
If we qualify for taxation as a REIT, we generally will not be subject to
federal corporate income taxes on net income that we currently distribute to
stockholders. This treatment substantially eliminates the "double taxation" (at
the corporate and stockholder levels) that generally results from investment in
a corporation.
Notwithstanding our REIT election, however, we will be subject to federal
income tax in the following circumstances. First, we will be taxed at regular
corporate rates on any undistributed taxable income, including undistributed net
capital gains, provided, however, that properly designated undistributed capital
gains will effectively avoid taxation at the stockholder level. Second, under
certain circumstances, we may be subject to the "alternative minimum tax" on any
items of tax preference and alternative minimum tax adjustments. Third, if we
have (i) net income from the sale or other disposition of "foreclosure property"
(which is, in general, property acquired by foreclosure or otherwise on default
of a loan secured by the property) that is held primarily for sale to customers
in the ordinary course of business or (ii) other nonqualifying income from
foreclosure property, we will be subject to tax at the highest corporate rate on
such income. Fourth, if we have net income from prohibited transactions (which
are, in general, certain sales or other dispositions of property (other than
foreclosure property) held primarily for sale to customers in the ordinary
course of business), such income will be subject to a 100% tax on prohibited
transactions. Fifth, if we should fail to satisfy the 75% gross income test or
the 95% gross income test (as discussed below), and have nonetheless maintained
our qualification as a REIT because certain other requirements have been met, we
will be subject to a 100% tax equal to the gross income attributable to the
greater of either (i) the amount by which 75% of our gross income exceeds the
amount qualifying under the 75% test for the taxable year or (ii) the amount by
which 90% of our gross income exceeds the amount of our income qualifying under
the 95% test for the taxable year, multiplied in either case by a fraction
intended to reflect our profitability. Sixth, if we should fail to distribute
during each calendar year at least the sum of (i) 85% of our REIT ordinary
income for such year; (ii) 95% of our REIT capital gain net income for such year
(for this purpose such term includes capital gains which we elect to retain but
which we report as distributed to our stockholders. See "Annual Distribution
Requirements" below); and (iii) any undistributed taxable income from prior
years, we would be subject to a 4% excise tax on the excess of such required
distribution over the amounts actually distributed. Seventh, if we acquire any
asset from a C corporation (i.e., a corporation generally subject to full
corporate level tax) in a transaction in which the basis of the asset in our
hands is determined by reference to the basis of the asset (or any other
property) in the hands of the C corporation, and we recognize gain on the
disposition of such asset during the 10-year period beginning on the date on
which such asset was acquired by us, then, to the extent of such property's
built-in gain (the excess of the fair market value of such property at the time
of acquisition by us over the adjusted basis of such property at such time),
such gain will be subject to tax at the highest regular corporate rate
applicable. Eighth, we would be subject to a 100% penalty tax on amounts
received (or on certain expenses deducted by a taxable REIT subsidiary) if
arrangements among us, our tenants and a taxable REIT subsidiary were not
comparable to similar arrangements among unrelated parties.
REQUIREMENTS FOR QUALIFICATION
The federal tax laws define a REIT as a corporation, trust or association
(i) which is managed by one or more trustees or directors; (ii) the beneficial
ownership of which is evidenced by transferable shares or by transferable
certificates of beneficial interest; (iii) which would be taxable as a domestic
corporation but for Sections 856 through 859 of the Code; (iv) which is neither
a financial institution nor an insurance company subject to certain provisions
of the federal tax laws; (v) the beneficial ownership of which is held by 100 or
more persons; (vi) of which not more than 50% in value of the outstanding
capital stock is owned, directly or indirectly, by five or fewer individuals (as
defined in the federal tax laws to include certain entities) during the last
half of each taxable year after applying certain attribution rules; (vii) that
makes an election to be treated as a REIT for the current taxable year or has
made an election for a previous taxable year which has not been revoked and
(viii) which meets certain other tests, described below, regarding the nature of
its income and
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assets. The federal tax laws provide that conditions (i) through (iv),
inclusive, must be met during the entire taxable year and that condition (v)
must be met during at least 335 days of a taxable year of 12 months, or during a
proportionate part of a taxable year of less than 12 months. Condition (vi) must
be met during the last half of each taxable year. For purposes of determining
stock ownership under condition (vi), a supplemental unemployment compensation
benefits plan, a private foundation or a portion of a trust permanently set
aside or used exclusively for charitable purposes generally is considered an
individual. However, a trust that is a qualified trust under Section 401(a) of
the federal tax laws generally is not considered an individual, and
beneficiaries of a qualified trust are treated as holding shares of a REIT in
proportion to their actuarial interests in the trust for purposes of condition
(vi). Conditions (v) and (vi) do not apply until after the first taxable year
for which an election is made to be taxed as a REIT. We have issued sufficient
shares of common stock with sufficient diversity of ownership to allow us to
satisfy requirements (v) and (vi). In addition, our charter contains
restrictions regarding the transfer of our stock intended to assist in
continuing to satisfy the stock ownership requirements described in (v) and (vi)
above. See "Description of Common Stock -- Restrictions on Ownership and
Transfer." These restrictions, however, may not ensure that we will be able to
satisfy these stock ownership requirements. If we fail to satisfy these stock
ownership requirements, we will fail to qualify as a REIT.
To qualify as a REIT, we cannot have at the end of any taxable year any
undistributed earnings and profits that are attributable to a non-REIT taxable
year. We believe that we have complied with this requirement.
We are required to maintain certain records and request on an annual basis
certain information from our stockholders designed to disclose the actual
ownership of our outstanding shares. A monetary penalty will be imposed upon us
if we fail to comply with applicable Treasury Regulations requiring us to
maintain certain records and request certain information from our stockholders
designed to disclose the actual ownership of our outstanding shares. If we
comply with these regulatory rules, and we do not know, or exercising reasonable
diligence would not have known, whether we failed to meet the stock ownership of
requirement (vi) above, we will be treated as having met the requirement.
QUALIFIED REIT SUBSIDIARIES
If a REIT owns a corporate subsidiary that is a "qualified REIT
subsidiary," the separate existence of that subsidiary will be disregarded for
federal income tax purposes. Generally, a qualified REIT subsidiary is a
corporation, other than a taxable REIT subsidiary, all of the capital stock of
which is owned by the REIT. All assets, liabilities and items of income,
deduction and credit of the qualified REIT subsidiary will be treated as assets,
liabilities and items of income, deduction and credit of the REIT itself. A
qualified REIT subsidiary of ours will not be subject to federal corporate
income taxation, although it may be subject to state and local taxation in some
states.
TAXABLE REIT SUBSIDIARIES
A "taxable REIT subsidiary" is an entity taxable as a corporation in which
we own stock and that elects with us to be treated as a taxable REIT subsidiary
under Section 856(l) of the Code. In addition, if one of our taxable REIT
subsidiaries owns, directly or indirectly, securities representing more than 35%
of the vote or value of a subsidiary corporation, that subsidiary will also be
treated as a taxable REIT subsidiary of ours. A taxable REIT subsidiary is
subject to federal income tax, and state and local income tax where applicable,
as a regular "C" corporation.
Generally, a taxable REIT subsidiary can perform impermissible tenant
services without causing us to receive impermissible tenant services income
under the REIT income tests. However, several provisions regarding the
arrangements between a REIT and its taxable REIT subsidiaries ensure that a
taxable REIT subsidiary will be subject to an appropriate level of federal
income taxation. For example, a taxable REIT subsidiary is limited in its
ability to deduct interest payments made to us. In addition, we will be
obligated to pay a 100% penalty tax on some payments that we receive or on
certain expenses deducted by the taxable REIT subsidiary if the economic
arrangements among us, our tenants and the taxable REIT subsidiary are not
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comparable to similar arrangements among unrelated parties. We currently do not
have any taxable REIT subsidiaries.
INCOME TESTS
In order for us to maintain qualification as a REIT, certain separate
percentage tests relating to the source of our gross income must be satisfied
annually. First, at least 75% of our gross income (excluding gross income from
prohibited transactions) for each taxable year generally must be derived
directly or indirectly from investments relating to real property or mortgages
on real property (including "rents from real property," gain, and, in certain
circumstances, interest) or from certain types of temporary investments. Second,
at least 95% of our gross income (excluding gross income from prohibited
transactions) for each taxable year must be derived from such real property
investments described above, dividends, interest and gain from the sale or
disposition of stock or securities, some payments under hedging instruments, or
from any combination of the foregoing.
Rents received by us will qualify as "rents from real property" in
satisfying the above gross income tests only if several conditions are met.
First, the amount of rent must not be based in whole or in part on the income or
profits of any person. However, amounts received or accrued generally will not
be excluded from "rents from real property" solely by reason of being based on a
fixed percentage or percentages of receipts or sales.
Second, rents received from a tenant will not qualify as "rents from real
property" if we, or a direct or indirect owner of 10% or more of our stock,
actually or constructively owns 10% or more of such tenant (a "Related Party
Tenant"). We may, however, lease our properties to a taxable REIT subsidiary and
rents received from that subsidiary will not be disqualified from being "rents
from real property" by reason of our ownership interest in the subsidiary if at
least 90% of the property in question is leased to unrelated tenants and the
rent paid by the taxable REIT subsidiary is substantially comparable to the rent
paid by the unrelated tenants for comparable space.
Third, if rent attributable to personal property that is leased in
connection with a lease of real property is greater than 15% of the total rent
received under the lease, then the portion of rent attributable to such personal
property will not qualify as "rents from real property." This 15% test is based
on relative fair market values of the real and personal property.
Generally, for rents to qualify as "rents from real property" for the
purposes of the gross income tests, we are only allowed to provide services that
are both "usually or customarily rendered" in connection with the rental of real
property and not otherwise considered "rendered to the occupant." Income
received from any other service will be treated as "impermissible tenant service
income" unless the service is provided through an independent contractor that
bears the expenses of providing the services and from whom we derive no revenue
or through a taxable REIT subsidiary, subject to specified limitations. The
amount of impermissible tenant service income we receive is deemed to be the
greater of the amount actually received by us or 150% of our direct cost of
providing the service. If the impermissible tenant service income exceeds 1% of
our total income from a property, then all of the income from that property will
fail to qualify as rents from real property. If the total amount of
impermissible tenant service income from a property does not exceed 1% of our
total income from that property, the income will not cause the rent paid by
tenants of that property to fail to qualify as rents from real property, but the
impermissible tenant service income itself will not qualify as rents from real
property.
If we fail to satisfy one or both of the 75% or 95% gross income tests for
any taxable year, we may nevertheless qualify as a REIT for such year if we are
entitled to relief under certain provisions of the federal tax laws. These
relief provisions generally will be available if our failure to meet such tests
was due to reasonable cause and not due to willful neglect, if we attach a
schedule of the sources of our income to our federal income tax return for such
years, and if any incorrect information on the schedules was not due to fraud
with intent to evade tax. It is not possible, however, to state whether in all
circumstances we would be entitled to the benefit of these relief provisions. As
discussed above in "General," even if these relief provisions were to apply, a
tax would be imposed with respect to the excess net income.
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ASSET TESTS
At the close of each quarter of our taxable year, we must satisfy six tests
relating to the nature of our assets.
1. At least 75% of the value of our total assets must be represented by
"real estate assets," cash, cash items and government securities. Our real
estate assets include, for this purpose, our allocable share of real estate
assets held by the partnerships in which we own an interest, and the
non-corporate subsidiaries of these partnerships, as well as stock or debt
instruments held for less than one year purchased with the proceeds of an
offering of shares or long term debt.
2. Not more than 25% of our total assets may be represented by securities,
other than those in the 75% asset class.
3. Except for certain investments in REITs, qualified REIT subsidiaries,
and taxable REIT subsidiaries, the value of any one issuer's securities owned by
us may not exceed 5% of the value of our total assets.
4. Except for certain investments in REITs, qualified REIT subsidiaries and
taxable REIT subsidiaries, we may not own more than 10% of any one issuer's
outstanding voting securities.
5. Except for certain investments in REITs, qualified REIT subsidiaries and
taxable REIT subsidiaries, we may not own more than 10% of the total value of
the outstanding securities of any one issuer, other than securities that qualify
as "straight debt" under the federal tax laws.
6. Not more than 20% of our total assets may be represented by the
securities of one or more taxable REIT subsidiaries.
For purposes of these asset tests, any shares of qualified REIT
subsidiaries are not taken into account, and any assets owned by the qualified
REIT subsidiary are treated as owned directly by the REIT.
Securities, for purposes of the assets tests, may include debt we hold.
However, debt we hold in an issuer will not be taken into account for purposes
of the 10% value test if the debt securities meet the "straight debt" safe
harbor and either (1) the issuer is an individual, (2) the only securities of
the issuer that we hold are straight debt or (3) if the issuer is a partnership,
we hold at least a 20 percent profits interest in the partnership. Debt will
meet the "straight debt" safe harbor if the debt is a written unconditional
promise to pay on demand or on a specified date a sum certain in money (1) which
is not convertible, directly or indirectly, into stock and (2) the interest rate
(or the interest payment dates) of which is not contingent on the profits, the
borrower's discretion or similar factors.
With respect to each issuer in which we currently own an interest that does
not qualify as a REIT, a qualified REIT subsidiary or a taxable REIT subsidiary,
we believe that our pro rata share of the value of the securities, including
unsecured debt, of any such issuer does not exceed 5% of the total value of our
assets and that we comply with the 10% voting securities limitation and 10%
value limitation (taking into account the "straight debt" exceptions with
respect to certain issuers). With respect to our compliance with each of these
asset tests, however, we cannot provide any assurance that the IRS might not
disagree with our determinations.
After initially meeting the asset tests after the close of any quarter, we
will not lose our status as a REIT if we fail to satisfy the 25%, 20% or 5%
asset tests or the 10% value limitation at the end of a later quarter solely by
reason of changes in the relative values of our assets. If the failure to
satisfy the 25%, 20%, or 5% asset tests or the 10% value limitation results from
an increase in the value of our assets after the acquisition of securities or
other property during a quarter, the failure can be cured by a disposition of
sufficient non-qualifying assets within 30 days after the close of that quarter.
We have maintained and intend to continue to maintain adequate records of the
value of our assets to ensure compliance with the asset tests and to take any
available actions within 30 days after the close of any quarter as may be
required to cure any noncompliance with the 25%, 20%, or 5% asset tests or the
10% value limitation. We cannot ensure that these steps always will be
successful. If we were to fail to cure the noncompliance with the asset tests
within this 30 day period, we could fail to qualify as a REIT.
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ANNUAL DISTRIBUTION REQUIREMENTS
We, in order to qualify as a REIT, are required to distribute dividends
(other than capital gain dividends) to our stockholders in an amount at least
equal to (i) the sum of (a) 90% of our "taxable REIT income" (computed without
regard to the dividends paid deduction and our net capital gain) and (b) 90% of
the net income (after tax), if any, from foreclosure property, minus (ii) the
sum of certain items of noncash income. Such distributions generally must be
paid in the taxable year to which they relate. Dividends may be paid in the
following year in two circumstances. First, dividends may be declared in the
following year if the dividends are declared before we timely file our tax
return for the year and paid within 12 months of the end of the tax year but
before the first regular dividend payment made after such declaration. Second,
if we declare a dividend in October, November or December of any year with a
record date in one of these months and pay the dividend on or before January 31
of the following year, we will be treated as having paid the dividend on
December 31 of the year in which the dividend was declared. To the extent that
we do not distribute all of our net capital gain or distribute at least 90%, but
less than 100%, of our "taxable REIT income," as adjusted, we will be subject to
tax on the nondistributed amount at regular capital gains and ordinary corporate
tax rates. Furthermore, if we should fail to distribute during each calendar
year at least the sum of (i) 85% of our REIT ordinary income for such year; (ii)
95% of our REIT capital gain income for such year; and (iii) any undistributed
taxable income from prior periods, we will be subject to a 4% excise tax on the
excess of such required distribution over the amounts actually distributed.
We may elect to retain and pay tax on net long-term capital gains and
require our stockholders to include their proportionate share of such
undistributed net capital gains in their income. If we make such election,
stockholders would receive a tax credit attributable to their share of the
capital gains tax paid by us, and would receive an increase in the basis of
their shares in us in an amount equal to the stockholder's share of the
undistributed net long-term capital gain reduced by the amount of the credit.
Further, any undistributed net long-term capital gains that are included in the
income of our stockholders pursuant to this rule will be treated as distributed
for purposes of the 4% excise tax.
We have made and intend to continue to make timely distributions sufficient
to satisfy the annual distribution requirements. It is possible, however, that
we, from time to time, may not have sufficient cash or liquid assets to meet the
distribution requirements due to timing differences between the actual receipt
of income and actual payment of deductible expenses and the inclusion of such
income and deduction of such expenses in arriving at our taxable income, or if
the amount of nondeductible expenses such as principal amortization or capital
expenditures exceeds the amount of noncash deductions. In the event that such
timing differences occur, in order to meet the distribution requirements, we may
arrange for short-term, or possibly long-term, borrowing to permit the payment
of required dividends. If the amount of nondeductible expenses exceeds noncash
deductions, we may refinance our indebtedness to reduce principal payments and
may borrow funds for capital expenditures.
Under certain circumstances, we may be able to rectify a failure to meet
the distribution requirement for a year by paying "deficiency dividends" to
stockholders in a later year that may be included in our deduction for dividends
paid for the earlier year. Thus, we may avoid being taxed on amounts distributed
as deficiency dividends; however, we will be required to pay interest to the IRS
based upon the amount of any deduction taken for deficiency dividends.
FAILURE TO QUALIFY
If we fail to qualify for taxation as a REIT in any taxable year and no
relief provisions apply, we will be subject to tax (including any applicable
alternative minimum tax) on our taxable income at regular corporate rates.
Distributions to stockholders in any year in which we fail to qualify will not
be deductible by us, nor will such distributions be required to be made. In such
event, to the extent of current and accumulated earnings and profits, all
distributions to stockholders will be taxable as dividend income, and, subject
to certain limitations in the federal tax laws, corporate distributees may be
eligible for the dividends received deduction. Dividend income received by
non-corporate taxpayers after 2002 and before 2009 will be taxed at the same
federal income tax rates as capital gains are subject to tax for federal income
tax purposes. Unless entitled to
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relief under specific statutory provisions, we will also be disqualified from
taxation as a REIT for the four taxable years following the year during which
qualification was lost. It is not possible to state whether in all circumstances
we would be entitled to such statutory relief.
OUR DEPRECIATION METHOD AND LIFE
Since we intend to purchase properties which will be predominantly leased
on a long-term basis to governmental entities, we will likely have to depreciate
our assets leased to those entities on a straight-line basis and over a longer
time period than would otherwise be applicable to such property under the
federal tax laws.
TAXATION OF STOCKHOLDERS
Taxation of Taxable U.S. Stockholders. As used in the remainder of this
discussion, the term "U.S. Stockholder" means a beneficial owner of our common
stock that is for United States federal income tax purposes:
1. a citizen or resident, as defined in Section 7701(b) of the Code, of the
United States;
2. a corporation or partnership, or other entity treated as a corporation
or partnership for federal income tax purposes, created or organized in or under
the laws of the United States or any state or the District of Columbia;
3. an estate the income of which is subject to United States federal income
taxation regardless of its source; or
4. in general, a trust subject to the primary supervision of a United
States court and the control of one or more United States persons.
Generally, in the case of a partnership that holds our common stock, any
partner that would be a U.S. Stockholder if it held the common stock directly is
also a U.S. Stockholder. As long as we qualify as a REIT, distributions made to
our taxable U.S. Stockholders out of current or accumulated earnings and profits
(and not designated as capital gain dividends or retained capital gains) will be
taken into account by them as ordinary income, and corporate stockholders will
not be eligible for the dividends received deduction as to such amounts.
Distributions in excess of current and accumulated earnings and profits will not
be taxable to a stockholder to the extent that they do not exceed the adjusted
basis of such stockholder's common stock, but rather will reduce the adjusted
basis of such shares as a return of capital. To the extent that such
distributions exceed the adjusted basis of a stockholder's common stock, they
will be included in income as long-term capital gain (or short-term capital gain
if the shares have been held for one year or less), assuming the shares are a
capital asset in the hands of the stockholder. In addition, any dividend
declared by us in October, November or December of any year payable to a
stockholder of record on a specific date in any such month shall be treated as
both paid by us and received by the stockholder on December 31 of such year,
provided that the dividend is actually paid by us during January of the
following calendar year. For purposes of determining what portion of a
distribution is attributable to current or accumulated earnings and profits,
earnings and profits will first be allocated to distributions made to holders of
any shares of preferred stock. Stockholders may not include in their individual
income tax returns any net operating losses or capital losses of ours.
In general, any gain or loss realized upon a taxable disposition of shares
by a stockholder who is not a dealer in securities will be treated as a
long-term capital gain or loss if the shares have been held for more than one
year, otherwise as short-term capital gain or loss. However, any loss upon a
sale or exchange of common stock by a stockholder who has held such shares for
six months or less (after applying certain holding period rules) generally will
be treated as long-term capital loss to the extent of distributions from us
required to be treated by such stockholder as long-term capital gain.
Distributions that we properly designate as capital gain dividends will be
taxable to stockholders as gains (to the extent that they do not exceed our
actual net capital gain for the taxable year) from the sale or disposition of a
capital asset held for greater than one year. If we designate any portion of a
dividend as a
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capital gain dividend, a U.S. Stockholder will receive an Internal Revenue
Service Form 1099-DIV indicating the amount that will be taxable to the
stockholder as capital gain. However, stockholders that are corporations may be
required to treat up to 20% of certain capital gain dividends as ordinary
income. A portion of capital gain dividends received by noncorporate taxpayers
may be subject to tax at a 25% rate to the extent attributable to certain gains
realized on the sale of real property. In addition, noncorporate taxpayers are
generally taxed at a maximum rate of 15% on net long-term capital gain
(generally, the excess of net long-term capital gain over net short-term capital
loss) attributable to gains realized on the sale of property held for greater
that one year.
Distributions we make and gain arising from the sale or exchange by a
stockholder of shares of our stock will not be treated as passive activity
income, and, as a result, stockholders generally will not be able to apply any
"passive losses" against such income or gain. Distributions we make (to the
extent they do not constitute a return of capital) generally will be treated as
investment income for purposes of computing the investment interest limitation.
Gain arising from the sale or other disposition of our stock (or distributions
treated as such) will not be treated as investment income under certain
circumstances.
Upon any taxable sale or other disposition of our common stock, a U.S.
Stockholder will recognize gain or loss for federal income tax purposes on the
disposition of our stock in an amount equal to the difference between
- the amount of cash and the fair market value of any property received on
such disposition; and
- the U.S. Stockholder's adjusted basis in such stock for tax purposes.
Gain or loss will be capital gain or loss if the common stock has been held
by the U.S. Stockholder as a capital asset. The applicable tax rate will depend
on the stockholder's holding period in the asset (generally, if an asset has
been held for more than one year it will produce long-term capital gain) and the
stockholder's tax bracket. A U.S. Stockholder who is an individual or an estate
or trust and who has long-term capital gain or loss will be subject to a maximum
capital gain rate of 15%. However, to the extent that the capital gain realized
by a non-corporate stockholder on the sale of REIT stock corresponds to the
REIT's "unrecaptured Section 1250 gain," such gain would be subject to tax at a
rate of 25%. Stockholders are advised to consult with their own tax advisors
with respect to their capital gain tax liability.
Taxation of Tax-Exempt Stockholders. Provided that a tax-exempt
stockholder has not held our common stock as "debt financed property" within the
meaning of the federal tax laws, the dividend income from us will not be
unrelated business taxable income, referred to as UBTI, to a tax-exempt
stockholder. Similarly, income from the sale of our common stock will not
constitute UBTI unless the tax-exempt stockholder has held its stock as debt
financed property within the meaning of the federal tax laws or has used the
common stock in a trade or business. However, for a tax-exempt stockholder that
is a social club, voluntary employee benefit association, supplemental
unemployment benefit trust, or qualified group legal services plan exempt from
federal income taxation under Sections 501(c)(7), (c)(9), (c)(17) and (c)(20) of
the federal tax laws, respectively, or a single parent title-holding corporation
exempt under Section 501(c)(2) the income of which is payable to any of the
aforementioned tax-exempt organizations, income from an investment in us will
constitute UBTI unless the organization properly sets aside or reserves such
amounts for purposes specified in the federal tax laws. These tax exempt
stockholders should consult their own tax advisors concerning these "set aside"
and reserve requirements.
A "qualified trust" (defined to be any trust described in Code Section
401(a) and exempt from tax under Section 501(a) of the Code) that holds more
than 10% of the value of the shares of a REIT may be required, under certain
circumstances, to treat a portion of distributions from the REIT as UBTI. This
requirement will apply for a taxable year only if (i) the REIT satisfies the
requirement that not more than 50% of the value of its shares be held by five or
fewer individuals (the "five or fewer requirement") only by relying on a special
"look-through" rule under which shares held by qualified trust stockholders are
treated as held by the beneficiaries of such trusts in proportion to their
actuarial interests therein; and (ii) the REIT is "predominantly held" by
qualified trusts. A REIT is "predominantly held" by qualified trusts if either
(i) a single qualified trust holds more than 25% of the value of the REIT
shares, or (ii) one or more qualified trusts, each
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owning more than 10% of the value of the REIT shares, hold in the aggregate more
than 50% of the value of the REIT shares. If the foregoing requirements are met,
the percentage of any REIT dividend treated as UBTI to a qualified trust that
owns more than 10% of the value of the REIT shares is equal to the ratio of (i)
the UBTI earned by the REIT (computed as if the REIT were a qualified trust and
therefore subject to tax on its UBTI) to (ii) the total gross income (less
certain associated expenses) of the REIT for the year in which the dividends are
paid. A de minimis exception applies where the ratio set forth in the preceding
sentence is less than 5% for any year.
The provisions requiring qualified trusts to treat a portion of REIT
distributions as UBTI will not apply if the REIT is able to satisfy the five or
fewer requirement without relying on the "look-through" rule. The restrictions
on ownership of stock in our charter should prevent application of the foregoing
provisions to qualified trusts purchasing our stock, absent a waiver of the
restrictions by the board of directors.
Taxation of Non-U.S. Stockholders. The rules governing U.S. federal income
taxation of nonresident alien individuals, foreign corporations, foreign
partnerships and other foreign stockholders (collectively, "Non-U.S.
Stockholders") are complex, and no attempt will be made herein to provide more
than a limited summary of such rules. The discussion does not consider any
specific facts or circumstances that may apply to a particular Non-U.S.
Stockholder. Prospective Non-U.S. Stockholders should consult with their own tax
advisors to determine the impact of U.S. federal, state and local income tax
laws with regard to an investment in our common stock, including any reporting
requirements.
Distributions that are not attributable to gain from sales or exchanges by
us of U.S. real property interests and not designated by us as capital gain
dividends or retained capital gains will be treated as dividends of ordinary
income to the extent that they are made out of our current or accumulated
earnings and profits. Such distributions ordinarily will be subject to a
withholding tax equal to 30% of the gross amount of the distribution unless an
applicable tax treaty reduces such rate. However, if income from the investment
in our stock is treated as effectively connected with the Non-U.S. Stockholder's
conduct of a U.S. trade or business, the Non-U.S. Stockholder generally will be
subject to a tax at graduated rates in the same manner as U.S. stockholders are
taxed with respect to such dividends (and may also be subject to a branch
profits tax of up to 30% if the stockholder is a foreign corporation). We expect
to withhold U.S. income tax at the rate of 30% on the gross amount of any
dividends paid to a Non-U.S. Stockholder that are not designated as capital gain
dividends, unless (i) a lower treaty rate applies and the Non-U.S. Stockholder
files an IRS Form W-8BEN evidencing eligibility for that reduced rate is filed
with us or (ii) the Non-U.S. Stockholder files an IRS Form W-8ECI with us
claiming that the distribution is income treated as effectively connected to a
U.S. trade or business.
Distributions in excess of our current and accumulated earnings and profits
will not be taxable to a stockholder to the extent that they do not exceed the
adjusted basis of the stockholder's stock, but rather will reduce the adjusted
basis of such shares. To the extent that such distributions exceed the adjusted
basis of a Non-U.S. Stockholder's shares, they will give rise to tax liability
if the Non-U.S. Stockholder would otherwise be subject to tax on any gain from
the sale or disposition of his or her stock as described below. We may be
required to withhold U.S. income tax at the rate of at least 10% on
distributions to Non-U.S. Stockholders that are not paid out of current or
accumulated earnings and profits unless the Non-U.S. Stockholders provide us
with withholding certificates evidencing their exemption from withholding tax.
If it cannot be determined at the time that such a distribution is made whether
or not such distribution will be in excess of current and accumulated earnings
and profits, the distribution will be subject to withholding at the rate
applicable to dividends. However, the Non-U.S. Stockholder may seek a refund of
such amounts from the IRS if it is subsequently determined that such
distribution was, in fact, in excess of our current and accumulated earnings and
profits.
For any year in which we qualify as a REIT, distributions that are
attributable to gain from sales or exchanges by us of U.S. real property
interests will be taxed to a Non-U.S. Stockholder under the provisions of the
Foreign Investment in Real Property Tax Act of 1980 ("FIRPTA"). Under FIRPTA,
these distributions are taxed to a Non-U.S. Stockholder as if such gain were
effectively connected with a U.S. business. Thus, Non-U.S. Stockholders will be
taxed on such distributions at the normal capital gain rates applicable to
90
U.S. Stockholders (subject to applicable alternative minimum tax and a special
alternative minimum tax in the case of nonresident alien individuals). Also,
distributions subject to FIRPTA may be subject to a 30% branch profits tax in
the hands of a corporate Non-U.S. Stockholder not entitled to treaty relief or
exemption. We are required by applicable Treasury Regulations to withhold 35% of
any distribution that could be designated by us as a capital gain dividend. This
amount is creditable against the Non-U.S. Stockholder's FIRPTA tax liability.
Gain recognized by a Non-U.S. Stockholder upon the sale or exchange of our
stock generally would not be subject to United States taxation unless:
- the investment in our stock is effectively connected with the Non-U.S.
Stockholder's U.S. trade or business, in which case the Non-U.S.
Stockholder will be subject to the same treatment as domestic
stockholders with respect to any gain;
- the Non-U.S. Stockholder is a non-resident alien individual who is
present in the United States for 183 days or more during the taxable year
and has a tax home in the United States, in which case the non-resident
alien individual will be subject to a 30% tax on the individual's net
capital gains for the taxable year; or
- our stock constitutes a U.S. real property interest within the meaning of
FIRPTA, as described below.
Our common stock will not constitute a United States real property interest
if we are a domestically-controlled REIT. We will be a domestically-controlled
REIT if, at all times during a specified testing period, less than 50% in value
of our stock is held directly or indirectly by Non-U.S. Stockholders.
We believe that, currently, we are a domestically controlled REIT and,
therefore, that the sale of our common stock would not be subject to taxation
under FIRPTA. Because our common stock is publicly traded, however, we cannot
guarantee that we are or will continue to be a domestically-controlled REIT.
Even if we do not qualify as a domestically-controlled REIT at the time a
Non-U.S. Stockholder sells our common stock, gain arising from the sale still
would not be subject to FIRPTA tax if:
- the class or series of shares sold is considered regularly traded under
applicable Treasury regulations on an established securities market, such
as the NYSE; and
- the selling Non-U.S. Stockholder owned, actually or constructively, 5% or
less in value of the outstanding class or series of stock being sold
throughout the five-year period ending on the date of the sale or
exchange.
If gain on the sale or exchange of our common stock were subject to
taxation under FIRPTA, the Non-U.S. Stockholder would be subject to regular U.S.
income tax with respect to any gain in the same manner as a taxable U.S.
Stockholder, subject to any applicable alternative minimum tax and special
alternative minimum tax in the case of non-resident alien individuals.
State and Local Taxes. We and our stockholders may be subject to state or
local taxation in various state or local jurisdictions, including those in which
we or they transact business or reside (although U.S. Stockholders who are
individuals generally should not be required to file state income tax returns
outside of their state of residence with respect to our operations and
distributions). The state and local tax treatment of us and our stockholders may
not conform to the federal income tax consequences discussed above.
Consequently, prospective stockholders should consult their own tax advisors
regarding the effect of state and local tax laws on an investment in our common
stock.
BACKUP WITHHOLDING TAX AND INFORMATION REPORTING
U.S. Holders. In general, information-reporting requirements will apply to
certain U.S. holders with regard to payments of dividends on our stock, original
issue discount ("OID"), interest, and payments of the proceeds of the sale of
our common stock, unless an exception applies.
91
The payor will be required to withhold tax on such payments at the rate of
28% if (i) the payee fails to furnish a taxpayer identification number, or TIN,
to the payor or to establish an exemption from backup withholding, or (ii) the
IRS notifies the payor that the TIN furnished by the payor is incorrect.
In addition, a payor of dividends on our common stock will be required to
withhold tax at a rate of 28% if (i) there has been a notified payee
under-reporting with respect to interest, dividends or original issue discount
described in Section 3406(c) of the Code, or (ii) there has been a failure of
the payee to certify under the penalty of perjury that the payee is not subject
to backup withholding under the federal tax laws. The current backup withholding
rate of 28% could change in future years.
Some holders, including corporations, may be exempt from backup
withholding. Any amounts withheld under the backup withholding rules from a
payment to a holder will be allowed as a credit against the holder's United
States federal income tax and may entitle the holder to a refund, provided that
the required information is furnished to the IRS.
Non-U.S. Holders. Generally, information reporting will apply to payments
of dividends on our common stock, interest, including OID, and backup
withholding as described above for a U.S. holder, unless the payee certifies
that it is not a U.S. person or otherwise establishes an exemption.
The payment of the proceeds from the disposition of our common stock to or
through the U.S. office of a U.S. or foreign broker will be subject to
information reporting and backup withholding as described above for U.S. holders
unless the non-U.S. holder satisfies the requirements necessary to be an exempt
non-U.S. holder or otherwise qualifies for an exemption. The proceeds of a
disposition by a non-U.S. holder of stock to or through a foreign office of a
broker generally will not be subject to information reporting or backup
withholding. However, if the broker is a U.S. person, a controlled foreign
corporation for U.S. tax purposes, a foreign person 50% or more of whose gross
income from all sources for specified periods is from activities that are
effectively connected with a U.S. trade or business, a foreign partnership if
partners who hold more than 50% of the interests in the partnership are U.S.
persons, or a foreign partnership that is engaged in the conduct of a trade or
business in the U.S., then information reporting generally will apply as though
the payment was made through a U.S. office of a U.S. or foreign broker.
Applicable Treasury Regulations provide presumptions regarding the status
of holders when payments to the holders cannot be reliably associated with
appropriate documentation provided to the payor. Under these Treasury
Regulations, some holders are required to provide new certifications with
respect to payments made after December 31, 2000. Because the application of
these Treasury Regulations varies depending on the stockholder's particular
circumstances, you are advised to consult your tax advisor regarding the
information reporting requirements applicable to you.
92
UNDERWRITING
Subject to the terms and conditions in the underwriting agreement entered
in connection with the sale of our common stock described in this prospectus,
the underwriter named below has agreed to purchase the number of shares of
common stock set forth opposite its name.
UNDERWRITER NUMBER OF SHARES
----------- ----------------
Friedman, Billings, Ramsey & Co., Inc. .....................
BB&T Capital Markets, a Division of Scott & Stringfellow,
Inc. .....................................................
Flagstone Securities........................................
----------
Total..................................................... 10,000,000
The underwriting agreement provides that the obligations of the underwriter
to purchase and accept delivery of shares of common stock offered by this
prospectus are subject to approval by its counsel of legal matters and to other
conditions contained in the underwriting agreement. The underwriter is obligated
to purchase and accept delivery of all of the shares of common stock offered by
this prospectus other than those covered by the over-allotment option described
below.
The underwriter proposes to offer the shares of common stock directly to
the public at the public offering price indicated on the cover page of this
prospectus and to various dealers at that price less a concession not to exceed
$ per share, of which $ may be reallowed to other dealers. After this
offering, the public offering price, concession and reallowance to dealers may
be reduced by the underwriter. No reduction shall change the amount of proceeds
to be received by us as indicated on the cover page of this prospectus. The
common stock is offered by the underwriter as stated in this prospectus, subject
to receipt and acceptance by it and subject to its right to reject any order in
whole or in part.
We have granted to the underwriter an option, exercisable within 30 days
after the date of this prospectus, to purchase from time to time up to an
aggregate of additional shares of our common stock to cover
over-allotments, if any, at the public offering price less the underwriting
discount. If the underwriter exercises its over-allotment option to purchase any
of the additional shares of common stock, the underwriter, subject to
certain conditions, will become obligated to purchase these additional shares
based on the underwriter's percentage purchase commitment in the offering as
indicated in the table above. If purchased, these additional shares will be sold
by the underwriter on the same terms as those on which the shares offered by
this prospectus are being sold. The underwriter may exercise the over-allotment
option to cover over-allotments made in connection with the sale of the shares
of common stock offered in this offering.
The following table summarizes the underwriting compensation to be paid to
the underwriter by us. These amounts assume both no exercise and full exercise
of the underwriter's over-allotment option to purchase additional shares.
WITHOUT WITH
OVER-ALLOTMENT OVER-ALLOTMENT
-------------- --------------
Per share................................................. $ $
Total..................................................... $ $
We have agreed to reimburse Friedman, Billings, Ramsey & Co., Inc. for
certain expenses in connection with this offering, which we estimate to be
approximately $ . An affiliate of Friedman, Billings, Ramsey & Co., Inc. has
provided us with a line of credit in the amount of $1,000,000, of which $250,000
has been drawn. The outstanding balance under the line of credit accrues
interest at an annual rate of 20% and will be paid at the closing of this
offering with a portion of the proceeds from this offering. As partial
consideration for providing the line of credit, we have issued to such affiliate
of Friedman, Billings, Ramsey & Co., Inc. a warrant to purchase 1.5% of the
shares of common stock issued in this offering or any other equity offering
resulting in net proceeds to us of at least $50 million at an exercise price of
$0.01 per share. The warrant is exercisable only upon the successful completion
of this offering or such other equity offering, which occurs on or before
September 30, 2004. The common stock to be issued upon exercise of the warrant
will be restricted from sale, transfer, assignment or hypothecation for a period
of one year from the effective date of this
93
offering. Other than underwriting discounts and commissions, the restricted
shares of common stock, up to $ of expense reimbursement and the interest
payments described above, there are no other items of compensation being
received by the underwriter or related persons in this offering. In addition to
the items of compensation to be paid to the underwriter in connection with this
offering, until the first anniversary of the date of this prospectus we have
appointed Friedman, Billings, Ramsey & Co., Inc. to act as lead underwriter or
placement agent in connection with any public or private offerings in our equity
securities and to act as our financial advisor in connection with any purchase
or sale of stock, merger, corporate acquisition, business combination or other
strategic combination in which we may engage. Other than with respect to this
offering, Friedman, Billings, Ramsey & Co., Inc. is not providing us with any
financial advisory services.
We estimate that the total expenses payable by us in connection with this
offering, other than the items referred to above, will be approximately
$750,000.
We have agreed to indemnify the underwriter against various liabilities,
including liabilities under the Securities Act of 1933, or to contribute to
payments the underwriter may be required to make because of any of those
liabilities.
The underwriter has informed us that it does not intend to confirm sales to
any accounts over which it exercises discretionary authority.
We have applied and expect to list the shares of our common stock on the
New York Stock Exchange, subject to approval and official notice of issuance,
under the symbol "GPP." In connection with the listing of our common stock on
the New York Stock Exchange, the underwriter will undertake to sell round lots
of 100 shares or more to a minimum of 2,000 beneficial owners.
Prior to the offering, there has been no public market for our common
stock. The initial public offering price has been determined through
negotiations between the underwriter and us. Among the factors considered in
such determination were prevailing market conditions, dividend yields and
financial characteristics of publicly traded REITs that we and the underwriter
believe to be comparable to us, the present state of our financial and business
operations, our management, estimates of our business and earnings potential and
the prospects for the industry in which we operate.
Each of our executive officers and directors has agreed, subject to
specified exceptions, not to:
- offer, sell, agree to offer or sell, solicit offers to purchase, grant
any call option or purchase any put option with respect to, pledge,
borrow or otherwise dispose of any shares of common stock, any of our or
our subsidiaries' other equity securities or any securities convertible
into or exercisable or exchangeable for shares of our common stock or any
such equity securities; or
- establish or increase any "put equivalent position" or liquidate or
decrease any "call equivalent position" or otherwise enter into any swap,
derivative or other transaction or arrangement that transfers to another,
in whole or in part, any of the economic consequences associated with the
ownership of any shares of our common stock or of our or our
subsidiaries' other equity securities (regardless of whether any of these
transactions are to be settled by the delivery of common stock, other
securities, cash or otherwise)
for a period of 180 days after the date of this prospectus without the prior
written consent of Friedman, Billings, Ramsey & Co., Inc. This restriction
terminates after the close of trading of the common stock on and including the
180th day after the date of this prospectus. However, Friedman, Billings, Ramsey
& Co., Inc. may, in its sole discretion and at any time or from time to time
before the termination of the 180-day period, without notice, release all or any
portion of the securities subject to lock-up agreements. There are no other
existing agreements between the underwriter and any officer or director who has
executed a lock-up agreement providing consent to the sale of shares prior to
the expiration of the lock-up period.
In addition, we have agreed that, for 180 days after the date of this
prospectus, we will not, without the prior written consent of Friedman,
Billings, Ramsey & Co., Inc., issue, sell, contract to sell, or otherwise
dispose of, any shares of common stock, any options or warrants to purchase any
shares of common stock or any securities convertible into, exercisable for or
exchangeable for shares of common stock other than our sale
94
of shares in this offering, the issuance of options or shares of common stock
upon the exercise of outstanding options or warrants, the issuance of options or
shares of common stock under existing stock option and incentive plans, or the
issuance of common stock or other securities convertible into common stock
issued in connection with the acquisition of properties. We also have agreed
that we will not consent to the disposition of any shares held by officers or
directors subject to lock-up agreements prior to the expiration of their
respective lock-up periods unless pursuant to an exception to those agreements
or with the consent of Friedman, Billings, Ramsey & Co., Inc.
The underwriter has advised us that, pursuant to the Regulation M under the
Securities Exchange Act of 1934, some participants in the offering may engage in
transactions, including stabilizing bids, syndicate covering transactions or the
imposition of penalty bids, that may have the effect of stabilizing or
maintaining the market price of the shares of commons stock at a level above
that which might otherwise prevail in the open market. A "stabilizing bid" is a
bid for or the purchase of shares of common stock on behalf of the underwriter
for the purpose of fixing or maintaining the price of the common stock. A
"syndicate covering transaction" is the bid or purchase of common stock on
behalf of the underwriter to reduce a short position incurred by the underwriter
in connection with the offering. A "penalty bid" is an arrangement permitting
the underwriter to reclaim the selling concession otherwise accruing to an
underwriter in connection with this offering if the common stock originally sold
by that underwriter is purchased by the underwriter in a syndicate covering
transaction and has therefore not been effectively placed by such underwriter.
The underwriter has advised us that these transactions may be effected on the
New York Stock Exchange or otherwise and, if commenced, may be discontinued at
any time.
Certain representatives of the underwriter or its affiliates may from time
to time perform investment banking and other financial services for us and our
affiliates for which they will receive advisory or transaction fees, as
applicable, plus out-of-pocket expenses, of the nature and in amounts customary
in the industry for these financial services.
EXPERTS
Ernst & Young LLP, independent auditors, have audited our consolidated
financial statements at December 31, 2002 and 2001, and for the years then
ended, and our Statement of Revenue and Certain Expenses of the Harahan Fed-Ex
Property for the period from January 1, 2002 through December 26, 2002, our
Statement of Revenue and Certain Expenses of United States Border Patrol
Station -- Harlingen, Texas for the year ended December 31, 2002 and our
Statement of Revenue and Certain Expenses of United States Immigration and
Naturalization Services District Office -- Harlingen, Texas for the year ended
December 31, 2002 as set forth in their reports. We have included our
consolidated financial statements and the statements of revenue and certain
expenses described above in this prospectus and elsewhere in the registration
statement in reliance on Ernst & Young LLP's report, given on their authority as
experts in accounting and auditing.
Zwick & Steinberger, P.L.L.C., independent auditors, have audited the
Statements of Revenue and Direct Operating Expenses for the year ended December
31, 2002, for each of our Kingsport, Clarksburg, Charleston and Bakersfield
properties as set forth in their reports. We have included these financial
statements in this prospectus and elsewhere in the registration statement in
reliance on Zwick & Steinberger P.L.L.C.'s reports, given on their authority as
experts in accounting and auditing
LEGAL MATTERS
Certain legal matters in connection with this offering will be passed upon
for us by Blackwell Sanders Peper Martin LLP, Omaha, Nebraska. In addition, the
description of federal income tax consequences contained in the section of the
prospectus entitled "Federal Income Tax Consequences of our Status as a REIT" is
based on the opinion of Blackwell Sanders Peper Martin LLP. Certain legal
matters related to this offering will be passed upon for the underwriter by
Winston & Strawn LLP, Chicago, Illinois. Blackwell Sanders Peper Martin LLP and
Winston & Strawn LLP will rely on the opinion of Miles & Stockbridge P.C.,
Baltimore, Maryland as to all matters of Maryland law.
95
WHERE YOU CAN FIND MORE INFORMATION
We have filed with the SEC a registration statement on Form S-11 with
respect to our common stock to be sold in this offering. This prospectus does
not contain all of the information set forth in the registration statement and
exhibits and schedules to the registration statement. For further information
with respect to our company and our common stock to be sold in this offering,
you should review the registration statement, including the exhibits and
schedules to the registration statement.
Statements contained in this prospectus as to the contents of any contract
or other document referred to in this prospectus are not necessarily complete
and, where that contract is an exhibit to the registration statement, each
statement is qualified in all respects by reference to the exhibit to which the
reference relates. Copies of the registration statement, including the exhibits
and schedules to the registration statement, may be examined without charge at
the public reference room of the SEC, 450 Fifth Street, N.W., Room 1024,
Washington, DC 20549. Information about the operation of the public reference
room may be obtained by calling the SEC at 1-800-SEC-0300. Copies of all or a
portion of the registration statement can be obtained from the public reference
room of the SEC upon payment of prescribed fees. Our SEC filings, including our
registration statement, are also available on the SEC's Web site at www.sec.gov.
As a result of this offering, we will become subject to the information and
reporting requirements of the Securities Exchange Act. We will file periodic
reports and proxy statements containing annual audited financial information for
each year and quarterly unaudited interim financial information.
96
INDEX TO FINANCIAL STATEMENTS
Consolidated Financial Statements:
Report of Independent Auditors.............................. F-2
Consolidated Balance Sheets as of September 30, 2003
(unaudited) and December 31, 2002 and 2001................ F-3
Consolidated Statements of Operations for the nine months
ended September 30, 2003 and 2002 (unaudited) and for the
years ended December 31, 2002 and 2001.................... F-4
Consolidated Statements of Changes in Shareholders' Equity
for the nine months ended September 30, 2003 (unaudited)
and for the years ended December 31, 2002 and 2001........ F-5
Consolidated Statements of Cash Flows for the nine months
ended September 30, 2003 and 2002 (unaudited) and for the
years ended December 31, 2002 and 2001.................... F-6
Notes to Consolidated Financial Statements.................. F-7
Initial Portfolio:
Kingsport Property Statement of Revenue and Direct Operating
Expenses for the period from January 1, 2003 through April
30, 2003 (unaudited) and for the year ended December 31,
2002...................................................... F-17
Clarksburg Property Statement of Revenue and Direct
Operating Expenses for the period from January 1, 2003
through April 25, 2003 (unaudited) and for the year ended
December 31, 2002......................................... F-21
Charleston Property Statement of Revenue and Direct
Operating Expenses for the period from January 1, 2003
through April 22, 2003 (unaudited) and for the year ended
December 31, 2002......................................... F-24
Bakersfield Property Statement of Revenue and Direct
Operating Expenses for the year ended December 31, 2002... F-27
Harahan Property Statement of Revenue and Certain Operating
Expenses for the period from January 1, 2002 through
December 26, 2002......................................... F-30
Acquisitions Under Contract:
Harlingen Border Patrol Property Statements of Revenue and
Certain Operating Expenses for the nine months ended
September 30, 2003 (unaudited) and for the year ended
December 31, 2002......................................... F-33
Harlingen INS Properties Statements of Revenue and Certain
Operating Expenses for the nine months ended September 30,
2003 (unaudited) and for the year ended December 31,
2002...................................................... F-36
F-1
REPORT OF INDEPENDENT AUDITORS
Board of Directors
Gen-Net Lease Income Trust, Inc.
We have audited the accompanying consolidated balance sheets of Gen-Net Lease
Income Trust, Inc., as of December 31, 2002 and 2001, and the related
consolidated statements of operations, changes in shareholders' equity and cash
flows for the years then ended. These financial statements are the
responsibility of the management of Gen-Net Lease Income Trust, Inc. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Gen-Net Lease
Income Trust, Inc. at December 31, 2002 and 2001 and the consolidated results of
its operations and its cash flows for the years then ended in conformity with
accounting principles generally accepted in the United States.
ERNST & YOUNG LLP
Chicago, Illinois
September 5, 2003
F-2
GEN-NET LEASE INCOME TRUST, INC.
CONSOLIDATED BALANCE SHEETS
DECEMBER 31,
SEPTEMBER 30, ---------------------
2003 2002 2001
------------- ---------- --------
(Unaudited)
ASSETS
Real estate at cost:
Land................................................... $ 5,304,888 $ 759,251 $ -
Buildings and improvements............................. 27,278,286 3,149,042 --
Tenant origination costs............................... 3,022,778 177,439 --
Lease intangibles...................................... 3,657,682 302,578 --
Furniture and equipment................................ 13,500 -- --
----------- ---------- --------
39,277,134 4,388,310 --
Accumulated depreciation............................... (631,142) (4,220) --
----------- ---------- --------
38,645,992 4,384,090 --
Cash and cash equivalents................................ 571,140 2,314,319 956
Restricted cash escrows.................................. 490,920 -- --
Tenant receivables....................................... 332,649 -- --
Deferred costs, net...................................... 120,249 -- 180,145
Real estate deposits..................................... -- 135,238 --
Other assets............................................. 25,311 45,948 --
----------- ---------- --------
Total assets............................................. $40,186,261 $6,879,595 $181,101
=========== ========== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Accounts payable and accrued expenses.................. $ 355,472 $ 180,395 $ 5,374
Dividends payable...................................... 147,620 -- --
Lines of credit........................................ 2,397,655 337,867 --
Mortgage notes payable................................. 27,892,521 3,202,333 --
Mortgage note payable -- affiliate..................... 1,639,219 -- --
Advances from affiliate................................ 95,525 196,462 75,112
----------- ---------- --------
Total liabilities........................................ 32,528,012 3,917,057 80,486
Shareholders' equity:
Common stock ($10 par value; 10,000,000 shares
authorized, 975,552, 371,923 and 10,000 shares
issued and outstanding at September 30, 2003,
December 31, 2002 and 2001, respectively)........... 8,371,988 2,967,008 100,000
Retained earnings (deficit)............................ (713,739) (4,470) 615
----------- ---------- --------
Total shareholders' equity............................... 7,658,249 2,962,538 100,615
----------- ---------- --------
Total liabilities and shareholders' equity............... $40,186,261 $6,879,595 $181,101
=========== ========== ========
See accompanying notes.
F-3
GEN-NET LEASE INCOME TRUST, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
NINE MONTHS ENDED YEAR ENDED
SEPTEMBER 30, DECEMBER 31,
-------------------- -----------------
2003 2002 2002 2001
---------- ------- ------- -------
(Unaudited)
REVENUE
Rental income....................................... $2,112,377 $ -- $ 4,885 $ --
Amortization of lease intangible costs.............. (148,997) -- -- --
---------- ------- ------- -------
Total net revenue................................... 1,963,380 -- 4,885 --
EXPENSES
Property operations................................. 380,110 -- -- --
Real estate taxes................................... 185,369 -- -- --
Depreciation and amortization....................... 477,925 -- 4,220 --
General and administrative.......................... 398,824 51 8,836 --
---------- ------- ------- -------
Total expenses...................................... 1,442,228 51 13,056 --
---------- ------- ------- -------
Operating income (loss)............................. 521,152 (51) (8,171) --
Other income........................................ 39,356 133 3,183 1,340
Interest expense:
Expense........................................... (885,572) (177) (822) --
Amortization of deferred financing fees........... (14,461) -- -- --
---------- ------- ------- -------
Income (loss) before income taxes................... (339,525) (95) (5,810) 1,340
Income taxes (expense) benefit...................... -- -- 725 (725)
---------- ------- ------- -------
Net income (loss)................................... $ (339,525) $ (95) $(5,085) $ 615
========== ======= ======= =======
Net income (loss) per share (basic and diluted)..... $ (0.43) $ (0.01) $ (0.24) $ 0.06
========== ======= ======= =======
Weighted average number of shares outstanding....... 794,590 10,000 21,182 10,000
========== ======= ======= =======
See accompanying notes.
F-4
GEN-NET LEASE INCOME TRUST, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
NINE MONTHS ENDED SEPTEMBER 30, 2003 AND THE
YEARS ENDED DECEMBER 31, 2002 AND 2001
COMMON STOCK RETAINED
-------------------- EARNINGS
SHARES AMOUNT (DEFICIT) TOTAL
------- ---------- --------- ----------
Initial issuance of common stock................ 10,000 $ 100,000 $ -- $ 100,000
Net income...................................... -- -- 615 615
------- ---------- --------- ----------
Balance at December 31, 2001.................... 10,000 100,000 615 100,615
Issuance of common stock........................ 361,923 2,867,008 -- 2,867,008
Net loss........................................ -- -- (5,085) (5,085)
------- ---------- --------- ----------
Balance at December 31, 2002.................... 371,923 2,967,008 (4,470) 2,962,538
Issuance of common stock (unaudited)............ 603,629 5,404,980 -- 5,404,980
Dividends declared and paid (unaudited)......... -- -- (369,744) (369,744)
Net loss (unaudited)............................ -- -- (339,525) (339,525)
------- ---------- --------- ----------
Balance at September 30, 2003 (unaudited)....... 975,552 $8,371,988 $(713,739) $7,658,249
======= ========== ========= ==========
See accompanying notes.
F-5
GEN-NET LEASE INCOME TRUST, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
NINE MONTHS ENDED
SEPTEMBER 30, YEAR ENDED DECEMBER 31,
----------------------- -----------------------
2003 2002 2002 2001
------------ -------- ----------- ---------
(Unaudited)
OPERATING ACTIVITIES
Net income (loss)........................... $ (339,525) $ (95) $ (5,085) $ 615
Adjustments to reconcile net income (loss)
to net cash provided by (used in)
operating activities:
Amortization of intangible lease costs
(included in rental revenue)........... 148,997 -- -- --
Depreciation and amortization............. 477,925 -- 4,220 --
Amortization of deferred financing fees... 14,461 -- -- --
Changes in assets and liabilities:
Increase in restricted cash escrows.... (490,920) -- -- --
Increase in tenant receivable.......... (332,649) -- -- --
Increase in other assets............... 20,637 -- (20,948) --
Increase in accounts payable and
accrued expenses..................... 175,077 14,757 175,021 5,374
------------ -------- ----------- ---------
Net cash provided by (used in) operating
activities................................ (325,997) 14,662 153,208 5,989
INVESTING ACTIVITIES
Expenditures for real estate................ (32,256,934) -- (4,388,310) --
Deposit on future real estate purchases..... -- -- (135,238) --
------------ -------- ----------- ---------
Cash used in investing activities........... (32,256,934) -- (4,523,548) --
FINANCING ACTIVITIES
Financing fees.............................. (134,710) -- -- --
Net borrowing under lines of credit......... 2,059,788 38,660 337,867 --
Proceeds from mortgage notes payable........ 22,320,041 -- 3,202,333 --
Proceeds from mortgage note
payable -- affiliate...................... 1,645,000 -- -- --
Proceeds (repayments) of advances from
affiliate................................. (100,937) (74,935) 121,350 75,112
Repayment of mortgage notes payable......... (126,505) -- -- --
Repayment of mortgage note
payable -- affiliate...................... (5,781) -- -- --
Net proceeds from sale of common stock...... 5,404,980 20,669 3,022,153 100,000
Deferred offering costs..................... -- -- (180,145)
Dividends paid.............................. (222,124) -- -- --
------------ -------- ----------- ---------
Net cash provided by (used in) financing
activities................................ 30,839,752 (15,606) 6,683,703 (5,033)
------------ -------- ----------- ---------
Net (decrease) increase in cash............. (1,743,179) (944) 2,313,363 956
Cash, beginning of period................... 2,314,319 956 956 --
------------ -------- ----------- ---------
Cash, end of period......................... $ 571,140 $ 12 $ 2,314,319 $ 956
============ ======== =========== =========
See accompanying notes.
F-6
GEN-NET LEASE INCOME TRUST, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. NATURE OF BUSINESS AND OPERATIONS
Gen-Net Lease Income Trust, Inc. (the "Company") was incorporated in Michigan on
September 28, 1998 and had no operations prior to 2001. The Company intends to
make an election to operate as a real estate investment trust ("REIT") under the
Internal Revenue Code of 1986, as amended, for federal income tax purposes,
beginning in 2003. The Company began formal operations with its first property
acquisition in December 2002 and, as of September 30, 2003, the Company owned
five properties located throughout the United States (four properties acquired
in 2003 and one property acquired in 2002 -- see Note 7). The Company acquires
properties through various operating limited liability companies (one for each
property), which are wholly-owned by the Company. The Company currently operates
in only one segment.
Genesis Financial Group, Inc. ("Genesis"), a shareholder of the Company,
provides property management, administrative and other services to the Company
(see Note 6). The Company had no full-time employees during 2002, 2001 and the
first nine months of 2003.
Pursuant to a registration statement on Form S-11 declared effective on October
10, 2002 (the "Registration Statement"), the Company sold shares of its common
stock (the "Offering") at $10 per share. On August 13, 2003, the Company's Board
of Directors terminated the Offering.
During the nine months ended September 30, 2003, the Company declared dividends
of $0.45 per common share for the shares outstanding at the date of declaration,
of which $0.30 per common share were paid. During the year ended December 31,
2002, the Company declared a dividend of $0.075 per common share for the shares
outstanding at the date of declaration that was paid in January 2003.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
Property holding entities and other subsidiaries of which the Company owns 100%
of the equity are consolidated (currently the Company only has 100% equity owned
subsidiaries). All intercompany balances and transaction have been eliminated.
For entities in which the Company may own less than 100% of the equity interest,
the Company may consolidate the property if it has the direct or indirect
ability to make decisions about the entities' activities based upon the terms of
the respective entities' ownership agreements which specify the sharing of
participating and protective rights such as decisions regarding major leases,
encumbering the entities with debt and whether to dispose of the entities. The
Company would also consolidate certain property holding entities and other
subsidiaries if it owns less than 100% equity interest if it is deemed to be the
primary beneficiary in a variable interest entity (as defined in FASB
Interpretation No. 46 Consolidation of Variable Interest Entities -- "FIN 46").
The Company intends to adopt FIN 46 in the fourth quarter of 2003 and does not
anticipate the adoption having any effect on its consolidated financial position
or results of operations.
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
The accompanying unaudited consolidated financial statements as of September 30,
2003 and for the nine months ended September 30, 2003 and 2002, have been
prepared in accordance with accounting principles generally accepted in the
United States for interim financial information. Accordingly, they do not
include all of the information and footnotes required by accounting principles
generally accepted in the United States for complete financial statements. In
the opinion of management, all adjustments (consisting of normal recurring
accruals) considered necessary for a fair presentation have been included. All
amounts included in the
F-7
GEN-NET LEASE INCOME TRUST, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
footnotes to the consolidated financial statement, referring to September 30,
2003 and for the nine months ended September 30, 2003 and 2002 are unaudited.
Operating results for the nine month period ended September 30, 2003 are not
necessarily indicative of the results that may be expected for the year ending
December 31, 2003.
Significant intercompany accounts and transactions have been eliminated in
consolidation.
Certain amounts in the prior period consolidated financial statements have been
reclassified to conform to the current period presentation, with no effect on
the Company's consolidated financial position or results of operations.
REAL ESTATE
The Company allocates the purchase price of properties to net tangible and
identified intangible assets acquired based on their fair values in accordance
with the provisions Statement of Financial Accounting Standards ("SFAS") No. 141
"Business Combinations" ("SFAS 141"). In making estimates of fair values for
purposes of allocating purchase price, the Company utilizes a number of sources,
including independent appraisals that may be obtained in connection with the
acquisition or financing of the respective property and other market data. The
Company also considers information obtained about each property as a result of
its pre-acquisition due diligence, marketing and leasing activities in
estimating the fair value of the tangible and intangible assets acquired.
The Company allocates a portion of the purchase price to above-market and
below-market in-place lease values for acquired properties based on the present
value (using an interest rate which reflects the risks associated with the
leases acquired) of the difference between (i) the contractual amounts to be
paid pursuant to the in-place leases and (ii) management's estimate of fair
market lease rates for the corresponding in-place leases, measured over the
remaining non-cancelable term of the lease. In the case of below market leases,
the Company considers the remaining contractual lease period and renewal
periods, taking into consideration the likelihood of the tenant exercising its
renewal options. The capitalized above-market lease values (presented as lease
intangibles in consolidated balance sheet) are amortized as a reduction of
rental income over the remaining non-cancelable terms of the respective leases.
The capitalized below-market lease values (presented as deferred income) are
amortized as an addition to rental income over the remaining contractual lease
period including any renewal periods included in the valuation analysis. Should
a tenant terminate its lease, the unamortized portion of the lease intangibles
would be charged to expense.
The Company allocates a portion of the purchase price to the value of leases
acquired based on the difference between (i) the property valued with existing
in-place leases adjusted to market rental rates and (ii) the property valued as
if vacant. The Company utilizes independent appraisals or its estimates to
determine the respective in-place lease values. The Company's estimates of value
are made using methods similar to those used by independent appraisers. Factors
management considers in its analysis include an estimate of carrying costs
during the expected lease-up periods considering current market conditions, and
costs to execute similar leases. In estimating carrying costs, management
includes real estate taxes, insurance and other operating expenses and estimates
of lost rentals at market rates during the expected lease-up periods. The
Company also estimates costs to execute similar leases including tenant
improvements, leasing commissions, legal and other related expenses.
The Company also considers an allocation of purchase price to in-place lease
that have a related customer relationship intangible values. Characteristics
management considers in allocating these values include the nature and extent of
existing business relationships with the tenant, growth prospects for developing
new business with the tenant, the tenant's credit quality and expectations of
lease renewals, among other factors. The Company currently has the U.S.
Government as its major tenant, but has not yet developed a relationship that it
would consider to have any current intangible value.
F-8
GEN-NET LEASE INCOME TRUST, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The value of in-place leases (presented as tenant origination costs in
consolidated balance sheet) is amortized to expense over the remaining initial
term of the respective leases. The value of customer relationship intangibles is
amortized to expense over the remaining initial term, including any renewal
periods included in the valuation analysis for the respective leases, but in no
event does the amortization period for intangible assets exceed the remaining
depreciable life of the building. Should a tenant terminate its lease, the
unamortized portion of the tenant origination costs and customer relationship
intangibles would be charged to expense.
Amounts allocated to tangible land, building, tenant improvements, equipment and
fixtures are based on independent appraisals or our own analysis of comparable
properties in the existing portfolio.
Depreciation is calculated on the straight-line method over the estimated useful
lives of the related assets, which are as follows:
Building and improvements................ 39 years
Tenants origination costs................ Remaining term of the related lease
Lease intangibles........................ Remaining term of the related lease
(included as a reduction of rental
revenue)
Tenant improvements...................... Term of related leases
Furniture and equipment.................. 3-7 years
Real estate is carried at depreciated cost. Expenditures for ordinary
maintenance and repairs are expensed to operations as incurred. Significant
renovations and improvements which improve and/or extend the useful life of the
asset are capitalized and depreciated over their estimated useful life. In
accordance with Statement of Financial Accounting Standards ("SFAS") No. 144,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
Be Disposed Of" ("SFAS 144"), the Company records impairment losses on
long-lived assets used in operations when events and circumstances indicate that
the assets might be impaired and the undiscounted cash flows estimated to be
generated by those assets during the expected hold period are less than the
carrying amounts of those assets. Impairment losses are measured as the
difference between carrying value and fair value of assets. For assets held for
sale, impairment is measured as the difference between carrying value and fair
value, less costs to dispose. Fair value is based on estimated cash flows
discounted at a risk-adjusted rate of interest.
CASH AND CASH EQUIVALENTS
Certificates of deposit and short-term investments with remaining maturities of
three months or less when acquired are considered cash equivalents.
Other income primarily consists of interest income earned on cash equivalents.
ALLOWANCE FOR DOUBTFUL ACCOUNTS
Allowance for doubtful accounts is maintained for estimated losses resulting
from the inability of certain tenants to meet the contractual obligations under
their lease agreements. The Company had no allowance for doubtful accounts as of
September 30, 2003.
CONCENTRATION OF CREDIT RISK
Financial instruments that potentially subject the Company to a concentration of
credit risk are primarily cash investments and accounts receivable from tenants.
Cash is generally invested in investment-grade short-term instruments and the
amount of credit exposure to any one commercial issuer is limited. The Company
has cash in financial institutions, which is insured by the Federal Deposit
Insurance Corporation ("FDIC") up to
F-9
GEN-NET LEASE INCOME TRUST, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
$100,000 per institution. At December 31, 2002, the Company had cash in the
amount of $60,000 in excess of FDIC insured limits.
REAL ESTATE DEPOSITS
The Company makes deposits on proposed property purchases. At December 31,
2002 the deposits were $135,238, of which $85,438, were not refundable. The
deposits were made on properties acquired in 2003 (see Note 7).
DEFERRED COSTS
Costs incurred in connection with financings, refinancings or debt
modifications are capitalized as deferred financing costs and are amortized on
the straight-line method over the lives of the related loans. Leasing
commissions and other leasing costs directly attributable to tenant leases are
capitalized as deferred leasing costs and are amortized on the straight-line
method over the terms of the related lease agreements. Costs incurred prior to
the completion of the Offering that directly related to the Offering were
deferred and then netted against proceeds received from the Offering.
COMMON STOCK
In completing sales of common stock, the Company may have a delay in receiving
the cash proceeds. In these cases, the Company will record a receivable related
to these sales as the cash proceeds will be collected within a short period. At
December 31, 2002, the Company had a $25,000 receivable related to a stock sale
(included in other assets in the consolidated balance sheet) that was collected
in early January 2003.
RENTAL REVENUE
Rental revenue is recorded on the straight-line method over the terms of the
related lease agreements for new leases and the remaining terms of existing
leases for acquired properties. Differences between rental revenue earned and
amounts due per the respective lease agreements are credited or charged, as
applicable, to deferred rent receivable. Rental payments received prior to their
recognition as income are classified as rent received in advance.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The Company believes that the interest rates associated with its lines-of credit
and mortgages notes payable approximate the market interest rates for these
types of debt instruments and as such, the carrying amount of the mortgages
payable approximate their fair value.
The carrying amount of notes receivable, cash and cash equivalents, escrows and
deposits, accounts receivable, and accounts payable and accrued expenses,
approximate fair value because of the relatively short maturity of these
instruments.
INCOME TAXES
Beginning in 2003, the Company intends to elect to be taxed as a REIT under the
Internal Revenue Code of 1986, as amended. As a REIT, the Company generally will
not be subject to federal income tax to the extent that it distributes at least
90% of the Company's taxable REIT income to its shareholders. REITs are subject
to a number of organizational and operational requirements. If the Company fails
to qualify as a REIT in any taxable year, the Company will be subject to federal
income tax (including any applicable alternative minimum tax) on its taxable
income at regular corporate tax rates. No federal income taxes have been
recorded in 2003.
F-10
GEN-NET LEASE INCOME TRUST, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
For 2002 and 2001, the Company accounted for income taxes payable in accordance
with SFAS No. 109, "Accounting for Income Taxes" ("SFAS 109"), which requires
that deferred tax assets and liabilities be recognized using enacted tax rates
for the effect of temporary differences between the book and tax bases of
recorded assets and liabilities. SFAS 109 also requires that deferred tax assets
be reduced by a valuation allowance if it is more likely than not that some
portion or all of the deferred tax asset will not be realized. During 2002, the
Company recorded a deferred income tax benefit and a deferred tax asset of $725
related to a carry back of 2002 net operating losses to offset 2001 taxable
income (included in other assets in the consolidated balance sheet at September
30, 2003 and December 31, 2002). During 2001, the Company recorded a current
income tax provision and a current income tax liability of $725 (included in
accounts payable and accrued expenses at December 31, 2001 in the consolidated
balance sheet). No other provisions for income tax were required for 2002 or
2001.
The Company paid income taxes of $725 for the year ended December 31, 2002
related to 2001 income taxes. The Company made no other income tax payments in
any other period presented.
EARNINGS PER SHARE
The Company reports earnings per share pursuant to Statement of Financial
Accounting Standards No. 128, "Earnings Per Share". Basic loss per share
attributable for all periods presented in computed by dividing the loss to
common stockholders by the weighted average number of common shares and
potential common stock outstanding during the period. The Company had no common
stock equivalents outstanding in 2003, 2002 and 2001.
3. DEFERRED COSTS
Deferred costs consist of the following:
DECEMBER 31
SEPTEMBER 30 ---------------
2003 2002 2001
------------ ---- --------
(Unaudited)
Financing costs......................................... $134,710 $-- $ --
Offering costs.......................................... -- -- 180,145
-------- ---- --------
134,710 180,145
Accumulated amortization................................ (14,461) -- --
-------- ---- --------
$120,249 $-- $180,145
======== ==== ========
F-11
GEN-NET LEASE INCOME TRUST, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
4. LINES-OF-CREDIT, MORTGAGE NOTES PAYABLE AND MORTGAGE NOTE
PAYABLE -- AFFILIATE
Lines-of-credit, mortgage notes payable, and mortgage note payable -- affiliate
consisted of the following:
SEPTEMBER 30 DECEMBER 31
2003 2002
------------ -----------
(Unaudited)
LINES OF CREDIT
Line-of-credit with a financial institution for property
acquisitions (maximum borrowing level of $5,000,000 and
available through April 15, 2005), interest at the
financial institution's prime rate (4.0% at September 30,
2003), plus 50 basis points per annum. Advances are
payable 180 days after the advance (current outstanding
balance due December 2003) and are secured by a
subordinated mortgage on the acquired property............ $ 2,287,510 $ --
Unsecured line-of-credit with a financial, institution
(maximum borrowing $150,000), interest at prime rate (4.0%
at September 30, 2003 and 4.25% at December 31, 2002),
principal and interest due October 31, 2003 (See Note
9)........................................................ 110,145 148,867
Unsecured line-of-credit with a financial, institution,
interest at prime rate (4.25% at December 31, 2002),
principal and interest were repaid and the line retired in
January 2003.............................................. -- 189,000
----------- ----------
Total lines of credit....................................... $ 2,397,655 $ 337,867
=========== ==========
MORTGAGE NOTES PAYABLE(A),(B)
Mortgage notes payable to various financial institutions,
collateralized by various properties, interest at fixed
rates ranging from 8.3% to 5.7% per annum, with principal
and interest payable monthly through 2013. The weighted
average rate at September 30, 2003 and December 31, 2002
was 5.9% and 5.7%, respectively........................... $27,892,521 $3,202,333
=========== ==========
MORTGAGE NOTE PAYABLE -- AFFILIATE(B)
Mortgage notes payable to Genesis collateralized by a
subordinated mortgage on one property, interest at LIBOR
(1.14% at September 30, 2003) plus 250 basis points per
annum payable monthly and principal due December 30, 2003.
(See Note 9).............................................. $ 1,639,219 $ --
=========== ==========
---------------
(A) The mortgages notes payable are subject to various operating and financial
covenants. In addition, the Company must periodically fund and maintain
escrow accounts, to make future real estate taxes, repairs and maintenance
and insurance payments, as well as to fund certain tenant releasing costs.
These are included in restricted cash escrows.
(B) All of the Company's real estate assets have been pledged as collateral for
its mortgages notes payable, certain lines of credit and mortgage note
payable -- affiliate.
Total interest paid on the lines-of-credit and mortgage notes payable was
$821,331 for the nine months ended September 30, 2003. During the nine months
ended September 30, 2003 and the year ended December 31, 2002, the Company
incurred interest expense of $830,402 and $822, respectively. During the nine
months ended September 30, 2003, the Company paid and incurred interest expense
of $44,180 on its mortgage note payable -- affiliate.
F-12
GEN-NET LEASE INCOME TRUST, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following represents future minimum principal payments due on the Company's
lines-of-credit, mortgage notes payable, and mortgage note payable -- affiliate,
outstanding at September 30, 2003 and December 31, 2002:
SEPTEMBER 30, DECEMBER 31,
2003 2002
------------- ------------
(Unaudited)
Year ending December 31
2003....................................................... $ 4,278,961 $ 376,316
2004....................................................... 353,105 53,511
2005....................................................... 392,103 56,642
2006....................................................... 416,466 59,956
2007....................................................... 459,428 63,465
Thereafter................................................. 26,029,332 2,930,310
----------- ----------
$31,929,395 $3,540,200
=========== ==========
5. FUTURE MINIMUM LEASE PAYMENTS
The Company has lease agreements with tenants with lease terms ranging from 10
years to 20 years at lease inception. The leases generally provide for increases
in base rent based upon inflation and for tenants to pay their share of real
estate taxes over specified base amounts. Approximately 13% and 100% of rental
revenue for the nine months ended September 30, 2003 and the year ended December
31, 2002, respectively, was received from one tenant. The remaining 87% of the
Company's rental revenue for the nine months ended September 30, 2003 was
received from the U.S. government.
The total future minimum rents to be received by us under such noncancelable
operating leases in effect at September 30, 2003 and December 31, 2002,
exclusive of inflation increases and real estate tax reimbursements, are as
follows:
SEPTEMBER 30, DECEMBER 31,
2003 2002
------------- ------------
(Unaudited)
Year ending December 31
2003....................................................... $ 1,086,769 $ 363,432
2004....................................................... 4,347,076 363,432
2005....................................................... 4,347,076 363,432
2006....................................................... 4,347,076 363,432
2007....................................................... 4,347,076 363,432
Thereafter................................................. 42,693,228 2,937,742
----------- ----------
$61,168,301 $4,754,902
=========== ==========
F-13
GEN-NET LEASE INCOME TRUST, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
6. RELATED PARTY TRANSACTIONS
Pursuant to a service agreement, Genesis provides various services to the
Company as follows:
FEE COMPENSATION
--- ------------
Acquisition Fees......................... For acquisition of properties -- up to 3%
of property purchase price (actual rates
incurred were 1%), plus out-of-pocket
costs up to 6% of property purchase
price, including the Acquisition Fees
Property Management Fees................. For day-to-day property management -- 3%
of gross rental revenue
Administrative Fees...................... For day-to-day administrative support to
the Company -- 3% of gross rental revenue
The following is a summary of the fees incurred and payable:
SEPTEMBER 30, 2003 DECEMBER 31, 2002
------------------ ------------------
PAYABLE INCURRED PAYABLE INCURRED
------- -------- ------- --------
Acquisition fees(A)........................... $ -- $342,700 $42,600 $42,600
Property management fees(B)................... 58,782 80,456 -- --
Administrative fees(C)........................ 988 79,859 -- --
---------------
(A) Amounts included in real estate, at cost in the Consolidated Balance Sheets
(no fees were incurred for the nine months ended September 30, 2002, or for
the year ended December 31, 2001).
(B) Amounts included in property operations expense in the Consolidated
Statements of Operations (no fees were incurred for the nine months ended
September 30, 2002, or for the year ended December 31, 2001).
(C) Amounts included in general and administrative expense in the Consolidated
Statements of Operations (no fees were incurred for the nine months ended
September 30, 2002, or for the year ended December 31, 2001).
On June 2, 2003, Genesis and the Company amended the above mentioned service
agreement. Pursuant to the amendment, Genesis agreed to provide us with property
acquisition services, property disposition services, administration services and
property management services. For acquisition services, Genesis receives
compensation for services actually rendered, which compensation may not exceed
1% of the purchase price of the property being acquired. For property
disposition services, Genesis receives a real estate commission upon the sale of
properties if Genesis provided substantial brokerage services in connection with
such sale, provided, however, that such commissions may not exceed an amount
equal to 3% of sale price of the property. For administration services, Genesis
receives its actual out-of-pocket expenses for providing the services and an
overhead factor to cover utilities allocable to us used in providing the
services. For property management services, Genesis receives a monthly fee of 3%
of the gross rental revenues of the properties for which such services were
provided and received reimbursement for its costs actually incurred in
connection with the performance of such services. During the nine months ended
September 30, 2003, we paid Genesis an aggregate of $503,015 for all such
services.
Advances from Genesis total $95,525, $196,462 and $75,112 at September 30, 2003,
December 31, 2002 and 2001, respectively. The amounts are non-interest bearing
and payable upon demand.
The Company has made an advance to an owner of Genesis with a balance of $10,000
at December 31, 2002, respectively, (included in other assets in the
consolidated balance sheets). The advance is unsecured, non-interest-bearing and
is payable on demand.
F-14
GEN-NET LEASE INCOME TRUST, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Before the commencement of the Offering, Genesis purchased 20,346 shares (10,346
shares in 2002 and 10,000 shares in 2001) of Company common stock at the price
of $10 per share.
In connection with the Offering, Genesis agreed to fund any costs of the
Offering in excess of 11% of the gross proceeds from the Offering. Through
September 30, 2003, the offering costs have not exceeded 11%.
7. PROPERTY ACQUISITIONS
The Company acquired the following properties in 2003 and 2002. The results of
their operations are included in the Company's consolidated statements of
operations from their respective dates of acquisition.
ACQUISITION MONTH
PROPERTY LOCATION COST ACQUIRED
-------- -------- ----------- --------
2003 acquisitions(A):
USDEA Building (Bakersfield Property).... Bakersfield, $ 2,393,816 January
CA
Social Security Administration Offices
(Charleston Property)................. Charleston, WV 18,443,635 April
General Services Administration Office
(Clarksburg Property)................. Clarksburg, WV 10,989,117 April
Social Security Administration Office
(Kingsport Property)(B)............... Kingsport, TN 2,992,130 April
-----------
$34,818,698
===========
2002 acquisition(A):
Federal Express Corporation Distribution
Center (Harahan, Property)............ Harahan, LA $ 4,388,310 December
===========
---------------
(A) In accordance with SFAS 141, the Company allocated the purchase price for
these properties to net tangible and identified intangible assets acquired
based on their fair values (including land, buildings, tenant improvements,
acquired above and below market leases and the origination cost of acquired
in-place leases) and acquired liabilities, and allocated the purchase price
based on these assessments, including land at appraised value and buildings
at replacement costs. The Company assessed fair value based on estimated
cash flow projections that utilize discount and capitalization rates deemed
appropriate by management and available market information. As part of the
allocation of purchase prices, the Company recorded tenant origination
costs of $3,022,778 and $177,439 at September 30, 2003 and December 31,
2002, respectively, and intangible lease costs (representing the value of
acquired in-place "above Market" leases) of $3,657,682 and $302,578 at
September 30, 2003 and December 31, 2002, respectively. The value of tenant
origination costs and intangible lease costs are amortized over the
remaining term of the respective leases, primarily ranging from seven to
fifteen years. For the period ended September 30, 2003, the Company
recognized $148,997 as a reduction to rental revenue to reflect the
amortization of the intangible lease costs.
(B) In connection with the purchase of this property, the Company assumed a
first mortgage note and an unsecured note payable totaling $2,496,652.
8. UNAUDITED PRO FORMA CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
The accompanying unaudited Pro Forma Condensed Consolidated Statements of
Operations are presented as if, at January 1, 2002, the Company acquired the
properties described in Note 7 -- Property Acquisitions and
F-15
GEN-NET LEASE INCOME TRUST, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
the shares outstanding at September 30, 2003 were also outstanding at January 1,
2002. In management's opinion, all adjustments necessary to reflect the effects
of the above transactions have been made.
The unaudited Pro Forma Condensed Consolidated Statements of Operations are not
necessarily indicative of what the actual results of operations would have been
assuming the above mentioned transaction had occurred at the dates indicated
above, nor do they purport to represent our future results of operations.
PRO FORMA CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
NINE MONTHS
ENDED YEAR ENDED
SEPTEMBER 30, DECEMBER 31,
2003 2002
------------- ------------
Total revenue............................................... $3,070,694 $4,085,130
========== ==========
Net loss.................................................... $ (356,405) $ (164,766)
========== ==========
Loss per diluted common share............................... $ (0.37) $ (0.18)
========== ==========
9. SUBSEQUENT EVENTS
On October 17, 2003, the mortgage note payable -- affiliate was assigned by the
affiliate to the third-party lender that the affiliate had borrowed the funds
from to make the loan to the Company. The terms of the mortgage note payable
remained the same.
On November 20, 2003, the maturity date of the unsecured line-of-credit due
October 31,2003 was extended to January 31, 2004 under the same terms.
F-16
GEN-NET LEASE INCOME TRUST, INC.
KINGSPORT PROPERTY STATEMENT OF REVENUE
AND DIRECT OPERATING EXPENSES
FOR THE PERIOD FROM JANUARY 1, 2003 THROUGH APRIL 30, 2003
AND FOR THE YEAR ENDED DECEMBER 31, 2002
INDEPENDENT ACCOUNTANTS' AUDIT REPORT
Board of Directors
Gen-Net Lease Income Trust, Inc.
Grosse Ile, Michigan
We have audited the accompanying historical statement of revenues and direct
operating expenses (the "historical statement") of the Kingsport, Tennessee
property (the "Property") for the year ended December 31, 2002. This historical
statement is the responsibility of the Property's management. Our responsibility
is to express an opinion on this historical statement based on our audit.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatements. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the historical
statement. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
historical statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
The accompanying historical statements are prepared for the purpose of complying
with the rules and regulations of the Securities and Exchange Commission, and
are not intended to be a complete presentation of the Property's revenue and
expenses.
In our opinion, the December 31, 2002 historical statement presents fairly, in
all material respects, the revenues and direct operating expenses, as described
in Note 1, of the Property for the year ended December 31, 2002, in conformity
with accounting principles generally accepted in the United States of America.
ZWICK & STEINBERGER, P.L.L.C.
Southfield, Michigan
September 26, 2003
F-17
GEN-NET LEASE INCOME TRUST, INC.
KINGSPORT, TENNESSEE PROPERTY
HISTORICAL STATEMENT OF REVENUES AND
DIRECT OPERATING EXPENSES
PERIOD FROM
JANUARY 1, 2003
THROUGH YEAR ENDED
APRIL 30, 2003 DECEMBER 31, 2002
--------------- -----------------
(Unaudited)
Revenues:
Rental income, net........................................ $133,343 $400,029
Property Tax Reimbursement................................ -- 1,380
-------- --------
133,343 401,409
Direct Operating Expenses:
Utilities................................................. 11,783 35,346
Management fees........................................... 5,307 15,922
Administrative............................................ 464 4,584
Property taxes............................................ 7,539 22,617
Taxes -- Other............................................ -- 7,038
Insurance................................................. 710 2,131
Repairs and maintenance................................... 14,645 33,707
-------- --------
Total direct operating expenses........................ 40,448 121,345
-------- --------
Excess of revenues over direct operating expenses........... $ 92,895 $280,064
======== ========
See accompanying notes to historical statements of revenues and direct operating
expenses
F-18
GEN-NET LEASE INCOME TRUST, INC.
KINGSPORT, TENNESSEE PROPERTY
NOTES TO HISTORICAL STATEMENT OF REVENUES AND
DIRECT OPERATING EXPENSES
(SEE INDEPENDENT ACCOUNTANTS' AUDIT REPORT)
1. BASIS OF PRESENTATION:
The historical statements of revenues and direct operating expenses relate to
the Kingsport, Tennessee property (the "Property") which was acquired by Gen-Net
Lease Income Trust, Inc. on April 30, 2003 from an unaffiliated third party. The
Property is located in Kingsport, Tennessee and is leased by the United States
General Services Administration.
Revenues and direct operating expenses are presented on the accrual basis of
accounting. The accompanying historical statement of revenue and direct
operating expenses relates to the operations of the Property and has been
prepared for the purpose of complying with the rules and regulations of the
Securities and Exchange Commission.
Certain revenues, costs and expenses that are dependent on the ownership,
management and carrying value of the Property have been excluded from the
accompanying historical statements. The excluded expenses consist primarily of
interest and depreciation. Consequently, the excess of revenues over direct
operating expenses as presented is not intended to be either a complete
presentation of the Property's historical revenues and expenses or comparable to
the proposed future operations of the property.
The Property contains approximately 20,539 net rentable square feet. As of
December 31, 2002, United States General Services Administration occupied 100%
of the total square footage and its annual rental income of approximately
$394,106 represents 100% of the Property's annual rental income. The lease is
through October 31, 2014. The government may terminate this lease, in whole or
in part, at any time on or after October 31, 2009, by giving the Lessor at least
90 days notice in writing. The lessee is responsible to reimburse the Company
for expenses above the base year expenses of the lease subject to the consumer's
price index. This is done via an increase in rent. Property taxes are to be
raised or decreased each year subject to that year's amount of assessed tax.
Management Fees was paid to the owner.
2. FUTURE MINIMUM RENTAL INCOME:
Future minimum rents (with estimated consumer price index increase of .30% per
year) to be received under noncancellable operating leases with the tenant for
the years ended December 31:
YEAR RENT
---- ----------
2003........................................................ $ 395,291
2004........................................................ 396,479
2005........................................................ 397,671
2006........................................................ 398,867
2007........................................................ 400,066
Thereafter(a)............................................... 2,732,199
----------
$4,720,573
==========
---------------
(a) Assuming renewal of the lease.
F-19
GEN-NET LEASE INCOME TRUST, INC.
KINGSPORT, TENNESSEE PROPERTY
NOTES TO HISTORICAL STATEMENT OF REVENUES AND
DIRECT OPERATING EXPENSES -- (CONTINUED)
3. INTERIM PERIOD (UNAUDITED):
The unaudited statement of revenues and direct operating expenses for the period
from January 1, 2003 through April 30, 2003 has been prepared in accordance with
accounting principles generally accepted in the United States for interim
financial information. In the opinion of management, all adjustments (consisting
of normal recurring accruals) considered necessary for a fair presentation have
been included. Operating results for the period ended April 30, 2003 are not
necessarily indicative of the results that may be expected for the year ending
December 31, 2003.
F-20
GEN-NET LEASE INCOME TRUST, INC.
CLARKSBURG PROPERTY STATEMENT OF REVENUE
AND DIRECT OPERATING EXPENSES
FOR THE PERIOD FROM JANUARY 1, 2003 THROUGH APRIL 25, 2003 (UNAUDITED)
AND FOR THE YEAR ENDED DECEMBER 31, 2002
INDEPENDENT ACCOUNTANTS' AUDIT REPORT
Board of Directors
Gen-Net Lease Income Trust, Inc.
Grosse Ile, Michigan
We have audited the accompanying historical statement of revenues and direct
operating expenses (the "historical statement") of the Clarksburg, West Virginia
property (the "Property") for the year ended December 31, 2002. This historical
statement is the responsibility of the Property's management. Our responsibility
is to express an opinion on this historical statement based on our audit.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatements. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the historical
statement. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
historical statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
The accompanying historical statements are prepared for the purpose of complying
with the rules and regulations of the Securities and Exchange Commission, and
are not intended to be a complete presentation of the Property's revenue and
expenses.
In our opinion, the December 31, 2002 historical statement presents fairly, in
all material respects, the revenues and direct operating expenses, as described
in Note 1, of the Property for the year ended December 31, 2002, in conformity
with accounting principles generally accepted in the United States of America.
ZWICK & STEINBERGER, P.L.L.C.
Southfield, Michigan
June 30, 2003
F-21
GEN-NET LEASE INCOME TRUST, INC.
CLARKSBURG, WEST VIRGINIA PROPERTY
HISTORICAL STATEMENT OF REVENUES AND
DIRECT OPERATING EXPENSES
PERIOD FROM
JANUARY 1, 2003
THROUGH YEAR ENDED
APRIL 25, 2003 DECEMBER 31, 2002
--------------- -----------------
(Unaudited)
Revenues:
Rental income, net........................................ $427,762 $1,280,345
-------- ----------
Direct Operating Expenses:
Utilities................................................. 24,986 79,032
Repairs and maintenance................................... 25,979 80,612
Management fees........................................... 23,089 73,039
Property taxes............................................ 36,370 116,647
Insurance................................................. 2,475 7,828
Cleaning.................................................. 19,556 61,846
Legal and accounting...................................... -- 35,685
Other..................................................... 18,790 23,748
-------- ----------
Total direct operating expenses........................ 151,245 478,437
-------- ----------
Excess of revenues over direct operating expenses........... $276,517 $ 801,908
======== ==========
See accompanying notes to historical statements of revenues and direct operating
expenses
F-22
GEN-NET LEASE INCOME TRUST, INC.
CLARKSBURG, WEST VIRGINIA PROPERTY
NOTES TO HISTORICAL STATEMENT OF REVENUES AND DIRECT OPERATING EXPENSES
(SEE INDEPENDENT ACCOUNTANTS' AUDIT REPORT)
1. BASIS OF PRESENTATION:
The historical statements of revenues and direct operating expenses relate to
the Clarksburg, West Virginia property (the "Property") which was acquired by
Gen-Net Lease Income Trust, Inc. on April 25, 2003 from an unaffiliated third
party. The Property is located in Clarksburg, West Virginia and is leased by the
United States General Services Administration.
Revenues and direct operating expenses are presented on the accrual basis of
accounting. The accompanying historical statement of revenue and direct
operating expenses relates to the operations of the Property and has been
prepared for the purpose of complying with the rules and regulations of the
Securities and Exchange Commission.
Certain revenues, costs and expenses that are dependent on the ownership,
management and carrying value of the Property have been excluded from the
accompanying historical statements. The excluded expenses consist primarily of
interest and depreciation. Consequently, the excess of revenues over direct
operating expenses as presented is not intended to be either a complete
presentation of the Property's historical revenues and expenses or comparable to
the proposed future operations of the property.
The Property contains approximately 55,000 net rentable square feet. As of
December 31, 2002, United States General Services Administration occupied 100%
of the total square footage and its annual rental income of approximately
$1,260,000 represents 100% of the Property's annual rental income. The lease is
through January 2019, with the lessee having termination rights after January
2016. The lessee is responsible to reimburse the Company for expenses above the
base year expenses of the lease subject to the consumer's price index. Property
taxes are to be raised or decreased each year subject to that year's amount of
assessed tax.
2. FUTURE MINIMUM RENTAL INCOME:
Future minimum rents (with estimated consumer price index increase of .22% per
year every January, the January 2002 increase was .22%) to be received under
noncancellable operating leases with the tenant for the years ended December 31:
YEAR RENT
---- -----------
2003........................................................ $ 1,283,602
2004........................................................ 1,286,426
2005........................................................ 1,289,256
2006........................................................ 1,292,092
2007........................................................ 1,294,935
Thereafter.................................................. 10,462,564
-----------
$16,908,875
===========
3. INTERIM PERIOD (UNAUDITED):
The unaudited statement of revenues and direct operating expenses for the
period from January 1, 2003 through April 25, 2003 has been prepared in
accordance with accounting principles generally accepted in the United States
for interim financial information. In the opinion of management, all adjustments
(consisting of normal recurring accruals) considered necessary for a fair
presentation have been included. Operating results for the period ended April
25, 2003 are not necessarily indicative of the results that may be expected for
the year ending December 31, 2003.
F-23
GEN-NET LEASE INCOME TRUST, INC.
CHARLESTON PROPERTY STATEMENT OF REVENUE AND
DIRECT OPERATING EXPENSES
FOR THE PERIOD FROM JANUARY 1, 2003 THROUGH APRIL 22, 2003 (UNAUDITED)
AND FOR THE YEAR ENDED DECEMBER 31, 2002
INDEPENDENT ACCOUNTANTS' AUDIT REPORT
Board of Directors
Gen-Net Lease Income Trust, Inc.
Grosse Ile, Michigan
We have audited the accompanying historical statement of revenues and direct
operating expenses (the "historical statement") of the Charleston, West Virginia
property (the "Property") for the year ended December 31, 2002. This historical
statement is the responsibility of the Property's management. Our responsibility
is to express an opinion on this historical statement based on our audit.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatements. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the historical
statement. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
historical statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
The accompanying historical statements are prepared for the purpose of complying
with the rules and regulations of the Securities and Exchange Commission, and
are not intended to be a complete presentation of the Property's revenue and
expenses.
In our opinion, the December 31, 2002 historical statement presents fairly, in
all material respects, the revenues and direct operating expenses, as described
in Note 1, of the Property for the year ended December 31, 2002, in conformity
with accounting principles generally accepted in the United States of America.
ZWICK & STEINBERGER, P.L.L.C.
Southfield, Michigan
June 30, 2003
F-24
GEN-NET LEASE INCOME TRUST, INC.
CHARLESTON, WEST VIRGINIA PROPERTY
HISTORICAL STATEMENT OF REVENUES AND
DIRECT OPERATING EXPENSES
PERIOD FROM
JANUARY 1, 2003
THROUGH YEAR ENDED
APRIL 22, 2003 DECEMBER 31, 2002
--------------- -----------------
(Unaudited)
Revenues:
Rental income............................................. $622,148 $1,994,322
Property tax reimbursement................................ -- 112,252
-------- ----------
Total revenue............................................. 622,148 2,106,574
Direct Operating Expenses:
Utilities................................................. 25,367 90,487
Repairs and maintenance................................... 35,495 142,708
Management fees........................................... 31,770 113,329
Property taxes............................................ 66,130 219,804
Insurance................................................. 4,785 17,069
Cleaning.................................................. 24,511 87,433
Other..................................................... 8,674 30,941
-------- ----------
Total direct operating expenses........................ 196,732 701,771
-------- ----------
Excess of revenues over direct operating expenses........... $425,416 $1,404,803
======== ==========
See accompanying notes to historical statements of revenues and direct operating
expenses
F-25
GEN-NET LEASE INCOME TRUST, INC.
CHARLESTON, WEST VIRGINIA PROPERTY
NOTES TO HISTORICAL STATEMENT OF REVENUES AND
DIRECT OPERATING EXPENSES
(SEE INDEPENDENT ACCOUNTANTS' AUDIT REPORT)
1. BASIS OF PRESENTATION:
The historical statements of revenues and direct operating expenses relate to
the Charleston, West Virginia property (the "Property") which was acquired by
Gen-Net Lease Income Trust, Inc. on April 22, 2003 from an unaffiliated third
party. The Property is located in Charleston, West Virginia and is leased by the
United States General Services Administration.
Revenues and direct operating expenses are presented on the accrual basis of
accounting. The accompanying historical statement of revenue and direct
operating expenses relates to the operations of the Property and has been
prepared for the purpose of complying with the rules and regulations of the
Securities and Exchange Commission.
Certain revenues, costs and expenses that are dependent on the ownership,
management and carrying value of the Property have been excluded from the
accompanying historical statements. The excluded expenses consist primarily of
interest and depreciation. Consequently, the excess of revenues over direct
operating expenses as presented is not intended to be either a complete
presentation of the Property's historical revenues and expenses or comparable to
the proposed future operations of the property.
The Property contains approximately 90,000 net rentable square feet. As of
December 31, 2002, United States General Services Administration occupied 100%
of the total square footage and its annual rental income of approximately
$1,990,000 represents 100% of the Property's annual rental income. The lease is
through December 2019, without any termination rights. The lessee is responsible
to reimburse the Company for expenses above the base year expenses of the lease
subject to the consumer's price index. Property taxes are to be raised or
decreased each year subject to that year's amount of assessed tax.
2. FUTURE MINIMUM RENTAL INCOME:
Future minimum rents (with estimated consumer price index increase of .22% per
year every January, the January 2002 increase was .22%) to be received under
noncancellable operating leases with the tenant for the years ended December 31:
YEAR RENT
---- -----------
2003........................................................ $ 1,988,170
2004........................................................ 2,003,565
2005........................................................ 2,008,975
2006........................................................ 2,014,399
2007........................................................ 2,019,838
Thereafter.................................................. 24,503,821
-----------
$34,538,768
===========
3. INTERIM PERIOD (UNAUDITED):
The unaudited statement of revenues and direct operating expenses for the period
from January 1, 2003 through April 22, 2003 has been prepared in accordance with
accounting principles generally accepted in the United States for interim
financial information. In the opinion of management, all adjustments (consisting
of normal recurring accruals) considered necessary for a fair presentation have
been included. Operating results for the period ended April 22, 2003 are not
necessarily indicative of the results that may be expected for the year ending
December 31, 2003.
F-26
GEN-NET LEASE INCOME TRUST, INC.
BAKERSFIELD PROPERTY STATEMENT OF REVENUE
AND DIRECT OPERATING EXPENSES
FOR THE YEAR ENDED DECEMBER 31, 2002
INDEPENDENT ACCOUNTANTS' AUDIT REPORT
Board of Directors
Gen-Net Lease Income Trust, Inc.
Grosse Ile, Michigan
We have audited the accompanying historical statement of revenues and direct
operating expenses (the "historical statement") of the Bakersfield, California
property (the "Property") for the year ended December 31, 2002. This historical
statement is the responsibility of the Property's management. Our responsibility
is to express an opinion on this historical statement based on our audit.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatements. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the historical
statement. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
historical statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
The accompanying historical statements are prepared for the purpose of complying
with the rules and regulations of the Securities and Exchange Commission, and
are not intended to be a complete presentation of the Property's revenue and
expenses.
In our opinion, the December 31, 2002 historical statement presents fairly, in
all material respects, the revenues and direct operating expenses, as described
in Note 1, of the Property for the year ended December 31, 2002, in conformity
with accounting principles generally accepted in the United States of America.
ZWICK & STEINBERGER, P.L.L.C.
Southfield, Michigan
March 20, 2003
F-27
GEN-NET LEASE INCOME TRUST, INC.
BAKERSFIELD, CALIFORNIA PROPERTY
HISTORICAL STATEMENT OF REVENUES AND
DIRECT OPERATING EXPENSES
FOR THE YEAR ENDED DECEMBER 31, 2002
Revenues:
Rental income, net........................................ $311,519
--------
Direct Operating Expenses:
Utilities................................................. 28,808
Repairs & maintenance..................................... 31,444
Property taxes............................................ 22,692
Insurance................................................. 4,713
Other..................................................... 3,649
--------
Total direct operating expenses........................ 91,306
--------
Excess of revenues over direct operating expense............ $220,213
========
See accompanying notes to historical statements of revenues and direct operating
expenses
F-28
GEN-NET LEASE INCOME TRUST, INC.
BAKERSFIELD, CALIFORNIA PROPERTY
NOTES TO HISTORICAL STATEMENT OF REVENUES AND
DIRECT OPERATING EXPENSES
(SEE INDEPENDENT ACCOUNTANTS' AUDIT REPORT)
1. BASIS OF PRESENTATION:
The historical statements of revenues and direct operating expenses relate to
the Bakersfield, California property (the "Property") which was acquired by
Gen-Net Lease Income Trust, Inc. on January 3, 2003 from an unaffiliated third
party. The Property is located in Bakersfield, California and is leased by the
United States General Services Administration.
Revenues and direct operating expenses are presented on the accrual basis of
accounting. The accompanying historical statements of revenues and direct
operating expenses relate to the operations of the Property and have been
prepared for the purpose of complying with the rules and regulations of the
Securities and Exchange Commission.
Certain revenues, costs and expenses that are dependent on the ownership,
management and carrying value of the Property have been excluded from the
accompanying historical statements. The excluded expenses consist primarily of
interest and depreciation. Consequently, the excess of revenues over direct
operating expenses as presented is not intended to be either a complete
presentation of the Property's historical revenues and expenses or comparable to
the proposed future operations of the property.
The Property contains approximately 9,700 net rentable square feet. As of
December 31, 2002, United States General Services Administration occupied 100%
of the total square footage and its annual rental income of approximately
$310,660 represents 100% of the Property's annual rental income. The lease is
through November 2010, with the lessee having termination rights after November
2008. The lessee is responsible to reimburse the Company for expenses above the
base year expenses of the lease subject to the consumer's price index. Property
taxes are to be raised or decreased each year subject to that year's amount of
assessed tax.
2. FUTURE MINIMUM RENTAL INCOME:
Future minimum rents (with estimated consumer price index increase of .27% per
year every November, the November 2002 increase was .27%) to be received under
noncancellable operating leases with the tenant for the years ended December 31:
YEAR RENT
---- ----------
2003........................................................ $ 312,408
2004........................................................ 313,252
2005........................................................ 314,098
2006........................................................ 314,946
2007........................................................ 315,796
Thereafter.................................................. 290,196
----------
$1,860,696
==========
F-29
GEN-NET LEASE INCOME TRUST, INC.
HARAHAN PROPERTY STATEMENT OF REVENUE AND CERTAIN OPERATING EXPENSES
FOR THE YEAR ENDED DECEMBER 31, 2002
REPORT OF INDEPENDENT AUDITORS
The Board of Directors of
Gen-Net Lease Income Trust, Inc.
We have audited the accompanying Statement of Revenue and Certain Expenses of
Harahan Fed-Ex Property (the Property) for the period January 1, 2002 through
December 26, 2002. This Statement of Revenue and Certain Expenses is the
responsibility of the Property's management. Our responsibility is to express an
opinion on the Statement of Revenue and Certain Expenses based on our audit.
We conducted our audit in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the Statement of Revenue and
Certain Expenses is free of material misstatement. An audit includes examining,
on a test basis, evidence supporting the amounts and disclosures made in the
Statement of Revenue and Certain Expenses. An audit also includes assessing the
accounting principles used and significant estimates made by management, as well
as evaluating the overall presentation of the Statement of Revenue and Certain
Expenses. We believe that our audit provides a reasonable basis for our opinion.
The accompanying Statement of Revenue and Certain Expenses was prepared for the
purpose of complying with the rules and regulations of the Securities and
Exchange Commission for inclusion in Gen-Net Lease Income Trust, Inc.'s Form
S-11 as described in Note 1, and is not intended to be a complete presentation
of the Property's revenue and expenses.
In our opinion, the Statement of Revenue and Certain Expenses referred to above
presents fairly, in all material respects, the revenue and certain expenses
described in Note 2 for the period January 1, 2002 through December 26, 2002 in
conformity with accounting principles generally accepted in the United States.
ERNST & YOUNG LLP
Chicago, Illinois
September 22, 2003
F-30
GEN-NET LEASE INCOME TRUST, INC.
HARAHAN FED-EX PROPERTY
STATEMENT OF REVENUE AND CERTAIN EXPENSES
FOR THE PERIOD FROM JANUARY 1, 2002 THROUGH DECEMBER 26, 2002
REVENUE
Rental income............................................. $358,555
--------
CERTAIN EXPENSES
Insurance................................................. 2,437
Management fees........................................... 9,084
Other expenses............................................ 2,339
--------
13,860
--------
Revenue in excess of certain expenses....................... $344,695
========
See accompanying notes.
F-31
GEN-NET LEASE INCOME TRUST, INC.
HARAHAN FED-EX PROPERTY
NOTES TO STATEMENT OF REVENUE AND CERTAIN EXPENSES
1. DESCRIPTION OF THE PROPERTY
The Harahan Fed-Ex Property (the Property), located at 621 Humphrey Street,
Harahan, Louisiana, was purchased by Gen-Net Lease Income Trust, Inc. (the
Company) on December 26, 2002. The Property is a warehouse/distribution center
that is 100% leased to the Federal Express Corporation under a triple-net lease
(operating expense and real estate taxes are the responsibility of the tenant)
expiring in February 2016.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The accompanying statement of revenue and certain expenses for the period
January 1, 2002 through December 26, 2002 was prepared for purposes of complying
with the rules and regulations of the Securities and Exchange Commission. The
accompanying financial statement is not representative of the actual operations
of the Property for the period presented nor indicative of future operations as
certain expenses, primarily depreciation, amortization and interest expense,
which may not be comparable to the expenses expected to be incurred by the
Company in future operations of Property, have been excluded.
In the preparation of the statement of revenues and certain expenses in
conformity with accounting principles generally accepted in the United States,
management makes estimates and assumptions that affect the reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from these estimates.
Rental income is recorded when due from the tenant under the terms of the lease.
The current lease requires monthly rental payments of $30,287 through the term
of the lease.
The Property was managed by an affiliated management company through the
acquisition date to maintain and manage the operations of the Property.
Management fees were based on 2 1/2% of total income.
F-32
GEN-NET LEASE INCOME TRUST, INC.
HARLINGEN BORDER PATROL PROPERTY STATEMENTS OF
REVENUE AND CERTAIN OPERATING EXPENSES
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003 (UNAUDITED)
AND FOR THE YEAR ENDED DECEMBER 31, 2002
REPORT OF INDEPENDENT AUDITORS
The Board of Directors of
Gen-Net Lease Income Trust, Inc.
We have audited the accompanying Statement of Revenue and Certain Expenses of
United States Border Patrol Station -- Harlingen, Texas (the Property) for the
year ended December 31, 2002. This Statement of Revenue and Certain Expenses is
the responsibility of the Property's management. Our responsibility is to
express an opinion on the Statement of Revenue and Certain Expenses based on our
audit.
We conducted our audit in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the Statement of Revenue and
Certain Expenses is free of material misstatement. An audit includes examining,
on a test basis, evidence supporting the amounts and disclosures made in the
Statement of Revenue and Certain Expenses. An audit also includes assessing the
accounting principles used and significant estimates made by management, as well
as evaluating the overall presentation of the Statement of Revenue and Certain
Expenses. We believe that our audit provides a reasonable basis for our opinion.
The accompanying Statement of Revenue and Certain Expenses was prepared for the
purpose of complying with the rules and regulations of the Securities and
Exchange Commission for inclusion in Gen-Net Lease Income Trust, Inc.'s Form
S-11 as described in Note 1, and is not intended to be a complete presentation
of the Property's revenue and expenses.
In our opinion, the Statement of Revenue and Certain Expenses referred to above
presents fairly, in all material respects, the revenue and certain expenses
described in Note 2 for the year ended December 31, 2002 in conformity with
accounting principles generally accepted in the United States.
ERNST & YOUNG LLP
Chicago, Illinois
September 24, 2003
F-33
UNITED STATES BORDER PATROL STATION -- HARLINGEN, TEXAS
STATEMENTS OF REVENUE AND CERTAIN EXPENSES
NINE MONTHS YEAR ENDED
ENDED DECEMBER 31,
SEPTEMBER 30, 2003 2002
------------------ ------------
(UNAUDITED)
REVENUE
Rental income............................................. $1,295,417 $1,726,245
---------- ----------
CERTAIN EXPENSES
Utilities................................................. 146,913 200,797
Repairs and maintenance................................... 51,489 43,634
Real estate taxes......................................... 98,799 137,882
Cleaning.................................................. 38,144 51,028
Insurance................................................. 35,629 45,832
Other expenses............................................ 7,514 6,938
---------- ----------
378,488 486,111
---------- ----------
Revenue in excess of certain expenses....................... $ 916,929 $1,240,134
========== ==========
See accompanying notes.
F-34
GEN-NET LEASE INCOME TRUST, INC.
UNITED STATES BORDER PATROL STATION -- HARLINGEN, TEXAS
NOTES TO STATEMENTS OF REVENUE AND CERTAIN EXPENSES
1. DESCRIPTION OF THE PROPERTY
The United States Border Patrol Station -- Harlingen, Texas (the Property),
located at 3902 South Expressway 77/83, Harlingen, Texas, is an office building
that is 100% leased to the United States Border Patrol Station expiring in
August 2015 with an optional early termination date of October 2014.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The accompanying statement of revenue and certain expenses was prepared for
purposes of complying with the rules and regulations of the Securities and
Exchange Commission. The accompanying financial statement is not representative
of the actual operations of the Property for the period presented nor indicative
of future operations as certain expenses, primarily depreciation, amortization
and interest expense, which may not be comparable to the expenses expected to be
incurred by the Company in future operations of Property, have been excluded.
In the preparation of the statement of revenues and certain expenses in
conformity with accounting principles generally accepted in the United States,
management makes estimates and assumptions that affect the reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from these estimates.
Rental income is recorded when due from the tenant under the terms of the lease.
The current lease requires monthly rental payments of $144,043 through the term
of the lease subject to annual rent increases based on the Consumer Price Index,
as defined.
3. INTERIM PERIOD (UNAUDITED)
The unaudited statement of revenue and certain expenses for the nine months
ended September 30, 2003, has been prepared in accordance with accounting
principles generally accepted in the United States for interim financial
information. In the opinion of management, all adjustments (consisting of normal
recurring accruals) considered necessary for a fair presentation have been
included. Operating results for the nine-month period ended September 30, 2003
are not necessarily indicative of the results that may be expected for the year
ending December 31, 2003.
F-35
GEN-NET LEASE INCOME TRUST, INC.
HARLINGEN IMMIGRATION AND NATURALIZATION SERVICES PROPERTY
STATEMENTS OF REVENUE AND CERTAIN OPERATING EXPENSES
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003 AND FOR THE YEAR ENDED DECEMBER 31,
2002
REPORT OF INDEPENDENT AUDITORS
The Board of Directors of
Gen-Net Lease Income Trust, Inc.
We have audited the accompanying Statement of Revenue and Certain Expenses of
United States Immigration and Naturalization Services District
Office -- Harlingen, Texas (the Property) for the year ended December 31, 2002.
This Statement of Revenue and Certain Expenses is the responsibility of the
Property's management. Our responsibility is to express an opinion on the
Statement of Revenue and Certain Expenses based on our audit.
We conducted our audit in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the Statement of Revenue and
Certain Expenses is free of material misstatement. An audit includes examining,
on a test basis, evidence supporting the amounts and disclosures made in the
Statement of Revenue and Certain Expenses. An audit also includes assessing the
accounting principles used and significant estimates made by management, as well
as evaluating the overall presentation of the Statement of Revenue and Certain
Expenses. We believe that our audit provides a reasonable basis for our opinion.
The accompanying Statement of Revenue and Certain Expenses was prepared for the
purpose of complying with the rules and regulations of the Securities and
Exchange Commission for inclusion in Gen-Net Lease Income Trust, Inc.'s Form
S-11 as described in Note 1, and is not intended to be a complete presentation
of the Property's revenue and expenses.
In our opinion, the Statement of Revenue and Certain Expenses referred to above
presents fairly, in all material respects, the revenue and certain expenses
described in Note 2 for the year ended December 31, 2002 in conformity with
accounting principles generally accepted in the United States.
ERNST & YOUNG LLP
Chicago, Illinois
September 24, 2003
F-36
UNITED STATES IMMIGRATION AND NATURALIZATION SERVICES
DISTRICT OFFICE -- HARLINGEN, TEXAS
STATEMENTS OF REVENUE AND CERTAIN EXPENSES
NINE MONTHS
ENDED YEAR ENDED
SEPTEMBER 30, DECEMBER 31,
2003 2002
------------- ------------
(UNAUDITED)
REVENUE
Rental income............................................. $2,047,530 $806,561
---------- --------
CERTAIN EXPENSES
Utilities................................................. 388,106 129,474
Repairs and maintenance................................... 38,160 14,669
Real estate taxes......................................... 195,103 229,050
Cleaning.................................................. 97,755 14,470
Insurance................................................. 75,195 75,387
Other expenses............................................ 1,839 13,908
---------- --------
796,158 476,958
---------- --------
Revenue in excess of certain expenses....................... $1,251,372 $329,603
========== ========
See accompanying notes.
F-37
GEN-NET LEASE INCOME TRUST, INC.
UNITED STATES IMMIGRATION AND NATURALIZATION SERVICES DISTRICT OFFICE --
HARLINGEN, TEXAS
NOTES TO STATEMENTS OF REVENUE AND CERTAIN EXPENSES
1. DESCRIPTION OF THE PROPERTY
The United States Immigration and Naturalization Services District
Office -- Harlingen, Texas (the Property), located at 1709 and 1717 Zoy Street,
Harlingen, Texas, consists of various office buildings that is 100% leased to
the United States Immigration and Naturalization Services with two leases
expiring in October 2022 and January 2018, respectively, with optional early
termination dates of February 2021 and January 2013, respectively.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The accompanying statement of revenue and certain expenses was prepared for
purposes of complying with the rules and regulations of the Securities and
Exchange Commission. The accompanying financial statement is not representative
of the actual operations of the Property for the period presented nor indicative
of future operations as certain expenses, primarily depreciation, amortization
and interest expense, which may not be comparable to the expenses expected to be
incurred by the Company in future operations of Property, have been excluded.
In the preparation of the statement of revenues and certain expenses in
conformity with accounting principles generally accepted in the United States,
management makes estimates and assumptions that affect the reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from these estimates.
Rental income is recorded when due from the tenant under the terms of the
respective leases. The current leases require monthly rental payments of
$202,445 and $25,113, respectively, through the term of the leases subject to
annual rent increases based on the Consumer Price Index, as defined.
3. INTERIM PERIOD (UNAUDITED)
The unaudited statement of revenue and certain expenses for the nine months
ended September 30, 2003, has been prepared in accordance with accounting
principles generally accepted in the United States for interim financial
information. In the opinion of management, all adjustments (consisting of normal
recurring accruals) considered necessary for a fair presentation have been
included. Operating results for the nine-month period ended September 30, 2003
are not necessarily indicative of the results that may be expected for the year
ending December 31, 2003.
F-38
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NO PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY
REPRESENTATION OTHER THAN THOSE CONTAINED IN THIS PROSPECTUS. IF GIVEN OR MADE,
SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN
AUTHORIZED BY US OR THE UNDERWRITERS. THIS PROSPECTUS DOES NOT CONSTITUTE AN
OFFER TO SELL OR A SOLICITATION OF AN OFFER TO BUY ANY SECURITIES IN ANY
JURISDICTION IN WHICH SUCH AN OFFER OR SOLICITATION IS NOT AUTHORIZED OR IN
WHICH THE PERSON MAKING SUCH OFFER OR SOLICITATION IS NOT QUALIFIED TO DO SO, OR
TO ANY PERSON TO WHOM IT IS UNLAWFUL TO MAKE SUCH OFFER OR SOLICITATION. NEITHER
THE DELIVERY OF THIS PROSPECTUS NOR ANY SALE MADE HEREUNDER SHALL, UNDER ANY
CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THERE HAS BEEN NO CHANGE IN OUR
AFFAIRS OR THAT INFORMATION CONTAINED HEREIN IS CORRECT AS OF ANY TIME
SUBSEQUENT TO THE DATE OF THIS PROSPECTUS.
---------------------
TABLE OF CONTENTS
PAGE
----
Summary............................... 1
Risk Factors.......................... 10
Forward-Looking Statements............ 21
Use of Proceeds....................... 22
Capitalization........................ 24
Dilution.............................. 25
Dividend Policy and Distributions..... 26
Selected Financial Information........ 27
Unaudited Pro Forma Consolidated
Financial Information............... 29
Management's Discussion and Analysis
of Financial Condition and Results
of Operations....................... 38
Our Business and Properties........... 46
Management............................ 61
Related Party Transactions............ 70
Principal Stockholders................ 72
Description of Capital Stock.......... 73
Material Provisions of Maryland Law
and of Our Charter and Bylaws....... 77
Shares Available for Future Sale...... 81
Material United States Federal Income
Tax Consequences.................... 81
Underwriting.......................... 93
Experts............................... 95
Legal Matters......................... 95
Where You Can Find More Information... 96
Financial Statements.................. F-1
UNTIL , 2003, ALL DEALERS THAT BUY, SELL OR TRADE OUR COMMON
STOCK, WHETHER OR NOT PARTICIPATING IN THIS OFFERING, MAY BE REQUIRED TO DELIVER
A PROSPECTUS. THIS REQUIREMENT IS IN ADDITION TO THE DEALERS' OBLIGATION TO
DELIVER A PROSPECTUS WHEN ACTING AS UNDERWRITERS AND WITH RESPECT TO THEIR
UNSOLD ALLOTMENTS OR SUBSCRIPTIONS.
------------------------------------------------------
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10,000,000 SHARES
(LOGO)
COMMON STOCK
-------------------------
PROSPECTUS
-------------------------
FRIEDMAN BILLINGS RAMSEY
BB&T CAPITAL MARKETS
FLAGSTONE SECURITIES
, 2003
------------------------------------------------------
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PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 31. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION.
The following table itemizes the expenses incurred by us in connection with
the issuance and registration of the securities being registered hereunder. All
amounts shown are estimates except the SEC registration fee.
SEC Registration Fee........................................ $9,304
NYSE Listing Fee............................................ *
Printing and Engraving Expenses............................. *
Legal Fees and Expenses (other than Blue Sky)............... *
Reimbursement of Underwriter Expenses....................... *
Accounting and Fees and Expenses............................ *
Blue Sky Fees and Expenses.................................. *
Miscellaneous............................................... *
------
Total.................................................. $ *
======
---------------
* To be filed by amendment.
We will pay all of the costs identified above.
ITEM 32. SALES TO SPECIAL PARTIES
None.
ITEM 33. RECENT SALES OF UNREGISTERED SECURITIES.
Genesis Financial Group, Inc. purchased 20,346 shares of our common stock
(10,346 shares on August 30, 2002 and 10,000 shares on January 23, 2001) at $10
per share, for an aggregate purchase price of approximately $203,460. These
shares were offered and sold in reliance on Section 4(2) of the Securities Act
because the offers and sales were made to a single sophisticated, accredited
investor and did not involve any general solicitation or advertising. No
underwriters or placement agents were engaged in connection with these
transactions.
ITEM 34. INDEMNIFICATION OF DIRECTORS AND OFFICERS.
The Maryland General Corporation Law (the "MGCL") requires a corporation
(unless its charter provides otherwise, which our company's charter does not) to
indemnify a director or officer who has been successful, on the merits or
otherwise, in the defense of any proceeding to which he or she is made a party
by reason of his or her service in that capacity. The MGCL permits a corporation
to indemnify its present and former directors and officers, among others,
against judgments, penalties, fines, settlements and reasonable expenses,
including attorney's fees, actually incurred by them in connection with any
proceeding to which they may be made a party by reason of their service in those
capacities unless it is established that:
- an act or omission of the director or officer was material to the matter
giving rise to the proceeding and
- was committed in bad faith; or
- was the result of active and deliberate dishonesty;
- the director or officer actually received an improper personal benefit in
money, property or services; or
- in the case of any criminal proceeding, the director or officer had
reasonable cause to believe that the act or omission was unlawful.
II-1
However, under the MGCL, a Maryland corporation may not indemnify for an adverse
judgment in a suit by or in the right of the corporation or for a judgment of
liability on the basis that personal benefit was improperly received, unless in
either case a court orders indemnification and then only for expenses. The
termination of any proceeding by conviction or upon a plea of nolo contender a
or its equivalent or an entry of an order of probation prior to judgment creates
a rebuttable presumption that the director or officer did not meet the requisite
standard of conduct required for permitted indemnification. The termination of
any proceeding by judgment, order or settlement, however, does not create a
presumption that the director or officer did not meet the requisite standard of
conduct for permitted indemnification.
In addition, the MGCL permits a corporation to advance reasonable expenses
to a director or officer upon the corporation's receipt of:
- a written affirmation by the director or officer of his good faith belief
that he has met the standard of conduct necessary for indemnification by
the corporation; and
- a written undertaking by the director or on the director's behalf to
repay the amount paid or reimbursed by the corporation if it is
ultimately determined that the director did not meet the standard of
conduct.
The MGCL permits a Maryland corporation to include in its charter a
provision limiting the liability of its directors and officers to the
corporation and its stockholders for money damages except for liability
resulting from actual receipt of an improper benefit or profit in money,
property or services or active and deliberate dishonesty established by a final
judgment as being material to the cause of action. Our charter contains such a
provision which eliminates such liability to the maximum extent permitted by
Maryland law.
Our bylaws obligate us, to the fullest extent permitted by Maryland law, to
indemnify any director or former director and to pay or reimburse, in advance of
final disposition of a proceeding, reasonable expenses incurred by a director or
former director, if such person is or is threatened to be made a party to a
proceeding by reason of his or her position as a director. In addition, our
bylaws permit us, to the fullest extent permitted by Maryland law, to similarly
provide indemnification and reimbursement of reasonable expenses to:
- any present or former officer, employee or agent who is made a party to
the proceeding by reason of his or her service in that capacity; or
- any person who serves or has served at our request as a director,
officer, employee or agent of another corporation or entity.
Our bylaws also permit us to indemnify and advance expenses to any person
who served a predecessor of ours in any of the capacities described above and to
any employee or agent of our company or a predecessor of our company.
We intend to enter into indemnification agreements with our directors and
executive officers which will require, among other things, that we indemnify our
directors to the fullest extent permitted by Maryland law, and advance to such
persons all related expenses, subject to reimbursement if it is subsequently
determined that indemnification is not permitted. Under these agreements, we
must also indemnify and advance all expenses incurred by such persons seeking to
enforce their rights under the indemnification agreement. Although the form of
indemnification agreement offers substantially the same scope of coverage
afforded by law, it provides greater assurance to the registrant's directors and
executive officers and such other persons that indemnification will be
available.
Insofar as the foregoing provisions permit indemnification of directors,
officers or persons controlling us for liability arising under the Securities
Act of 1933, as amended, we have been informed that in the opinion of the
Securities and Exchange Commission, this indemnification is against public
policy as expressed in the Securities Act of 1933, as amended and is therefore
unenforceable.
We intend to carry liability insurance for the benefit of our directors and
executive. This insurance will generally cover claims made against our directors
and officers based on their actions and omissions in connection with the
carrying out of our business affairs, including claims based on state or federal
securities laws.
II-2
ITEM 35. TREATMENT OF PROCEEDS FROM STOCK BEING REGISTERED.
None
ITEM 36. FINANCIAL STATEMENTS AND EXHIBITS.
(a) Financial Statements. See Index to Financial Statements
(b) Exhibits. The following exhibits are filed as part of this
registration statement on Form S-11:
EXHIBIT INDEX
EXHIBIT DESCRIPTION OF DOCUMENT
------- -----------------------
1.1* Underwriting Agreement
3.1** Charter
3.2** Bylaws
5.1* Opinion of Miles & Stockbridge P.C. with respect to legality
of the shares being registered
8.1* Opinion of with Blackwell Sanders Peper Martin LLP with
respect to tax matters
10.1** 2003 Equity Incentive Plan
10.2* Form of Indemnification Agreement
10.3** Chief Executive Officer Employment Agreement
10.4** Amended and Restated Omnibus Services Agreement, dated June
2, 2003, with Genesis Financial Group, Inc.
10.5** Property Acquisition Services Agreement, dated September 30,
2003, with Genesis Financial Group, Inc.
16.1 Letter regarding change in certifying accountant
23.1* Consent of Miles & Stockbridge, P.C. (included in Exhibit
5.1)
23.2* Consent of Blackwell Sanders Peper Martin LLP (included in
Exhibit 8.1)
23.3 Consent of Ernst & Young LLP
23.4 Consent of Zwick & Steinberger, P.L.L.C.
24.1** Power of Attorney (included in the signature page to the
Registration Statement)
---------------
* To be filed by amendment
** Previously filed
ITEM 37. UNDERTAKINGS.
The undersigned registrant hereby undertakes that:
(1) For purposes of determining any liability under the Securities Act of
1933, as amended, the information omitted from the form of prospectus filed as
part of this registration statement in reliance upon Rule 430A and contained in
a form of prospectus filed by the registrant pursuant to Rule 424(b)(1) or (4),
or 497(h) under the Securities Act shall be deemed to be part of this
registration statement as of the time it was declared effective.
(2) For the purpose of determining any liability under the Securities Act
of 1933, as amended, each post-effective amendment that contains a form of
prospectus shall be deemed to be a new registration statement relating to the
securities offered therein, and the offering of such securities at that time
shall be deemed to be the initial bona fide offering thereof.
The undersigned registrant hereby further undertakes to provide to the
underwriter at the closing specified in the underwriting agreements certificates
in such denominations and registered in such names as required by the
underwriter to permit prompt delivery to each purchaser.
II-3
SIGNATURES AND POWERS OF ATTORNEY
Pursuant to the requirements of the Securities Act of 1933, as amended, the
undersigned registrant certifies that it has reasonable grounds to believe that
it meets all of the requirements for filing on Form S-11 and has duly caused
this amendment Number 1 to be signed on its behalf by the undersigned, thereunto
duly authorized, in Omaha, Nebraska, on November 21, 2003.
GOVERNMENT PROPERTIES, TRUST, INC.
By: /s/ THOMAS D. PESCHIO
------------------------------------
Thomas D. Peschio
President and Chief Executive
Officer
Pursuant to the requirements of the Securities Act of 1933, as amended,
this amendment number 1 has been signed below by the following persons in the
capacities and on the dates indicated.
SIGNATURE TITLE DATE
--------- ----- ----
/s/ THOMAS D. PESCHIO President, Chief Executive November 21, 2003
------------------------------------------------ Officer and Director
Thomas D. Peschio
* Chief Financial Officer and November 21, 2003
------------------------------------------------ Treasurer
Nancy D. Olson
* Chairman of the Board of November 21, 2003
------------------------------------------------ Directors
Jerry D. Bringard
* Director November 21, 2003
------------------------------------------------
Robert M. Ames
* Director November 21, 2003
------------------------------------------------
Robert A. Peck
* Director November 21, 2003
------------------------------------------------
Richard H. Schwachter
* Director November 21, 2003
------------------------------------------------
David C. Wood
*By: /s/ THOMAS D. PESCHIO
------------------------------------------
Thomas D. Peschio
Attorney-in-Fact
II-4
EXHIBIT INDEX
EXHIBIT DESCRIPTION OF DOCUMENT
------- -----------------------
1.1* Underwriting Agreement
3.1** Charter
3.2** Bylaws
5.1* Opinion of Miles & Stockbridge P.C. with respect to legality
of the shares being registered
8.1* Opinion of Blackwell Sanders Peper Martin LLP with respect
to tax matters
10.1** 2003 Equity Incentive Plan
10.2* Form of Indemnification Agreement
10.3** Chief Executive Officer Employment Agreement
10.4** Amended and Restated Omnibus Services Agreement, dated June
2, 2003, with Genesis Financial Group, Inc.
10.5** Property Acquisition Services Agreement, dated September 30,
2003, with Genesis Financial Group, Inc.
16.1 Letter regarding change in certifying accountant
23.1* Consent of Miles & Stockbridge P.C. (included in Exhibit
5.1)
23.2* Consent of Blackwell Sanders Peper Martin LLP (included in
Exhibit 8.1)
23.3 Consent of Ernst & Young LLP
23.4 Consent of Zwick & Steinberger, P.L.L.C.
24.1** Power of Attorney (included in the signature page to the
Registration Statement)
---------------
* To be filed by amendment
** Previously filed