UNITED STATES SECURITIES AND EXCHANGE COMMISSION

 

Washington, D.C. 20549

 

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Form 10-K

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                                       x              ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)

 OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2004
OR

                                        o            TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from            to           
Commission file number 1-11533

Parkway Properties, Inc.

(Exact name of registrant as specified in its charter)

 

Maryland	74-2123597
(State or other jurisdiction	(I.R.S. Employer
of incorporation or organization)	Identification No.)

 

One Jackson Place Suite 1000
188 East Capitol Street
Jackson, Mississippi 39201-2195
(Address of principal executive offices) (Zip Code)
(601) 948-4091
Registrant's telephone number:

www.pky.com
Registrant's website:

Securities registered pursuant to Section 12(b) of the Act:
Common Stock, $.001 Par Value
8.00% Series D Cumulative Redeemable Preferred Stock $.001 Par Value
New York Stock Exchange

Securities registered pursuant to Section 12(g) of the Act:
None

      Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x   No  o

      Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.o     

      Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act).    Yes  x   No  o

      State the aggregate market value of the voting and non-voting common equity held by non-affiliates computed by reference to the price at which the common equity was last sold, or the average bid and asked price of such common equity, as of the last business day of the registrant's most recently completed second fiscal quarter:  $468,316,000.

      The number of shares outstanding in the registrant's class of common stock as of March 1, 2005 was 14,066,954.

DOCUMENTS INCORPORATED BY REFERENCE

      Portions of the Registrant's Proxy Statement for the 2005 Annual Meeting of Shareholders are incorporated by reference into Part III.

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PARKWAY PROPERTIES, INC.

TABLE OF CONTENTS

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PART I

ITEM 1.  Business.

Overview

       Parkway Properties, Inc. ("Parkway" or the "Company") is a real estate investment trust ("REIT") specializing in the operations, acquisition, ownership, management, and leasing of office properties.  The Company is self-administered, in that it provides its own investment and administrative services internally through its own employees.  The Company is also self-managed, as it internally provides the management, maintenance and other real estate services that its properties require through its own employees, such as property managers and engineers and in some cases, leasing professionals.  In addition Parkway is self-leased for renewal leases for the majority of its office property portfolio.  The Company is geographically focused on the Southeastern and Southwestern United States and Chicago.  Parkway and its predecessors have been public companies engaged in the real estate business since 1971, and its present senior management has been with Parkway since the 1980's.  The management team has had experience managing a public real estate company through all phases of the real estate business cycle.  At January 1, 2005, Parkway owned or had an interest in 62 office properties located in 11 states with an aggregate of approximately 11.6 million square feet of leasable space.

       Parkway evaluates individual office assets for purchase considering a number of factors such as current market rents, vacancy rates and capitalization rates.  As part of this strategy, since July 1995, the Company has (i) completed the acquisition of 69 office properties, encompassing 12.2 million net rentable square feet, for a total purchase price of $1.2 billion; (ii) sold or is in the process of selling all of its non-core assets; (iii) sold 12 office properties, encompassing approximately 1.3 million net rentable square feet primarily in markets that posed increasing risks and redeployed these funds; (iv) sold joint venture interests in seven office properties encompassing 2.3 million net rentable square feet; and (v) implemented self-management and self-leasing at most of its properties to promote a focus on customer retention and superior service in meeting the needs of its customers.  Parkway defines total investment in office properties as purchase price plus estimated closing costs and anticipated capital expenditures during the first 24 months of ownership for tenant improvements, commissions, upgrades and capital improvements to bring the building up to the Company's standards.

Industry Segments

       Parkway's primary business is the ownership and operation of office properties. The Company accounts for each office property or groups of related office properties as an individual operating segment.  Parkway has aggregated its individual operating segments into a single reporting segment due to the fact that the individual operating segments have similar operating and economic characteristics.  

       The individual operating segments exhibit similar economic characteristics such as being leased by the square foot, sharing the same primary operating expenses and ancillary revenue opportunities and being cyclical in the economic performance based on current supply and demand conditions.  The individual operating segments are also similar in that revenues are derived from the leasing of office space to customers and each office property is managed and operated consistently in accordance with Parkway's standard operating procedures.  The range and type of customer uses of our properties is similar throughout our portfolio regardless of location or class of building and the needs and priorities of our customers do not vary from building to building.  Therefore, Parkway's management responsibilities do not vary from location to location based on the size of the building, geographic location or class.

Operating Properties

       Parkway generally seeks to acquire and operate well-located Class A, A- or B+ (as classified within their respective markets) multi-story office buildings which are located in primary or secondary markets in the Southeastern and Southwestern United States and Chicago, ranging in size from 100,000 to 1,500,000 net rentable square feet and which have current and projected occupancy levels in excess of 70% and adequate parking to accommodate full occupancy  The Company targets buildings which are occupied by a major customer that accounts for at least 30% of the building's total rental revenue and has at least five years remaining on its lease.  Parkway's focus on new property acquisitions is on higher barrier-to-entry sub-markets in both central business districts and suburban markets.  Parkway strives to purchase office buildings at minimum initial unleveraged annual yields on its total investment of 8%.  The Company defines initial unleveraged yield as net operating

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income ("NOI") divided by total investment (as previously defined), where NOI represents budgeted cash operating income for the current year at current occupancy rates and at rental rates currently in place with no adjustments for anticipated expense savings, increases in rental rates, additional leasing or straight line rent.  The Company also generally seeks to acquire properties whose total investment per net rentable square foot is at least 20% below estimated replacement cost.  Although the Company seeks to acquire properties which meet all of the acquisition criteria, specific property acquisitions are evaluated individually and may fail to meet one or more of the acquisition criteria at the date of purchase.

       During 2004, the Company acquired three office properties with approximately 897,000 net rentable square feet for a total purchase price of $150 million, or approximately $167 per net rentable square foot.  The properties purchased are located in Orlando, Atlanta and Phoenix.  Consistent with the qualification requirements of a REIT, the Company intends to hold and operate its portfolio of office buildings for investment purposes, but may determine to sell properties that no longer meet its investment criteria.

Dispositions

       Parkway has also pursued a strategy of liquidating its non-core assets and office building investments that no longer meet the Company's investment criteria and/or the Company has determined value will be maximized by selling and redeploying the proceeds. The Company routinely evaluates changes in market conditions that indicate an opportunity or need to sell properties within those markets in order to maximize shareholder value and allocate capital judiciously.

       Since January 1, 1995, Parkway has sold non-core assets with a book value of approximately $45 million for approximately $68 million, resulting in an aggregate gain for financial reporting purposes of approximately $23 million.  The book value of all remaining non-office building real estate assets, all of which are available for sale, was $3.5 million as of December 31, 2004.

       Since January 1, 1998, the Company has sold 12 office properties, encompassing approximately 1.3 million net rentable square feet for net proceeds of $128 million, resulting in aggregate gains for financial reporting purposes of $18 million.  Currently, the Company is considering the sale of its property in Greenville, South Carolina, primarily because the Company does not own sufficient office space in this market to justify self-management and self-leasing.  This investment decision will be based upon the Company's analysis of existing markets and competing investment opportunities.

Joint Ventures and Discretionary Fund

       Parkway intends to continue forming joint ventures or partnerships with select investors.  Under the terms of the joint venture agreements, Parkway will operate, manage, and lease the properties on a day-to-day basis, provide acquisition and construction management services to the joint venture, and receive fees for providing these services.  The joint venture will arrange first mortgage financing which will be non-recourse, property specific debt.  To date, Parkway has entered into four joint venture agreements of this nature.

       On December 14, 2004, Parkway sold an 80% interest in three assets to Rubicon America Trust, an Australian listed trust, which is advised by the Greenwich Group International (the "Rubicon Joint Venture").  The properties included in the 550,000 square foot venture are Lakewood and Falls Pointe in Atlanta and Carmel Crossing in Charlotte. The sale values the properties at a total of $66.7 million, which equates to $121 per square foot. Parkway recognized a net acquisition fee of approximately $2 million in addition to the sales price and recorded a gain on the sale of $3.5 million in the fourth quarter. Parkway Realty Services will continue to manage, lease and operate the buildings.  The joint venture is accounted for using the equity method of accounting.

       Simultaneous with closing the Rubicon Joint Venture, the entity that owns the properties closed a $52 million mortgage secured by the properties.  The non-recourse first mortgage has a fixed interest rate of 4.86%, is interest only for the first four years, amortizes over 30 years thereafter and matures in seven years. Greenwich Group International acted as placement agent for the debt. Parkway received net cash proceeds from the sale and the financing of approximately $58 million, which was used to reduce short-term borrowings under the Company's lines of credit.  Parkway's share of the venture's debt is 13.85%, which is included in the calculation of the ratio of debt to total market capitalization. Also, simultaneous with closing, the Company repaid the outstanding $4.5 million first mortgage on its Lakewood asset at a prepayment premium of $381,000.

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       The Company has begun efforts to form a discretionary fund, which would acquire office properties similar to those currently held in the portfolio. The targeted size of the fund is $500 million comprised of $300 million in debt and $200 million of equity. The Company may contribute approximately $50 million to the equity of the fund. Targeted potential investors are institutions, pension funds, state retirement systems and endowments. The Company would generate additional economic returns through the asset, property and construction management fees and the leasing commissions. There is no assurance that the Company will be successful in its efforts to raise a fund, and even if it is successful, the economic benefits will most likely not be realized until 2006 or beyond.

Self-Management, Self-Leasing and Third Party Management

       The Company self-manages approximately 99.3% of its current portfolio on a net rentable square footage basis.  In addition, the Company self-leases for renewals and currently self-leases approximately 87.6% of its portfolio on a net rentable square footage basis.  For new tenant leasing, which is a smaller portion of our business, we fully cooperate with the third party brokerage community.  The Company benefits from a fully integrated management infrastructure, provided by its wholly-owned management subsidiary, Parkway Realty Services LLC ("Parkway Realty").  The Company believes self-management and self-leasing results in better customer service, higher customer retention and allows the Company to enhance stockholder value through the application of its hands-on operating style.  In order to provide exceptional customer service, Parkway is focused on hiring, training and retaining talented employees.  The Company believes that its focus on customer retention will benefit the Company and its stockholders by maintaining a stabilized revenue stream and avoiding higher capital expenditures and leasing commissions associated with new leases.  In order to self-manage properties, the Company seeks to reach critical mass in terms of square footage. Critical mass varies from market to market and is generally defined by the Company as owning or managing a minimum of 250,000 square feet.  The Company is considering the sale of its properties that are not self-managed because the inability to self-manage these properties limits the Company's ability to apply its hands-on operating strategy. In addition to its owned properties, Parkway Realty currently manages and/or leases approximately 2.8 million net rentable square feet for third-party owners (including joint venture interests).  The Company intends to expand its third party fee business through the joint ventures and the proposed fund(s).

Financing Strategy

       The Company expects to continue seeking fixed rate, non-recourse mortgage financing with maturities from five to ten years typically amortizing over 25 to 30 years on select office building investments as additional capital is needed.  The Company targets a debt to total market capitalization ratio at a percentage in the mid-40's.  This ratio may vary at times pending the timing of acquisitions, sales and/or sales of equity securities.  In addition, volatility in the price of the Company's common stock may affect the debt to total market capitalization ratio.  However, over time the Company plans to maintain a percentage in the mid-40's.  The Company monitors interest and fixed charge coverage ratios.  See Item 7.  "Management's Discussion and Analysis of Financial Condition and Results of Operations - Financial Condition."  Parkway has no present plans to issue senior securities.  Should the opportunity present itself, Parkway has the ability to issue common stock periodically through its dividend reinvestment plan.

       Parkway may, in appropriate circumstances, acquire one or more properties in exchange for Parkway's equity securities.  Parkway may provide financing in connection with sales of property if market conditions so require, but it does not presently intend to make other loans.  Parkway has no set policy as to the amount or percentage of its assets which may be invested in any specific property.  Rather than a specific policy, Parkway evaluates each property in terms of whether and to what extent the property meets Parkway's investment criteria and strategic objectives.  Parkway has no present intentions of underwriting securities of other issuers.  The strategies and policies set forth above were determined, and are subject to review by, Parkway's Board of Directors which may change such strategies or policies based upon their evaluation of the state of the real estate market, the performance of Parkway's assets, capital and credit market conditions, and other relevant factors.  Parkway provides annual reports to its stockholders that contain financial statements audited by Parkway's independent public accountants.

Management Team

       Parkway's management team consists of experienced office property specialists with proven capabilities in office property (i) operations; (ii) leasing; (iii) management; (iv) acquisition/disposition; (v) financing; (vi) capital allocation; and (vii) re-positioning.  Parkway's eleven senior officers have an average of over 21 years of real estate industry experience, and have worked together at Parkway for an average of over 14 years.  Management has developed a highly service-oriented operating

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 culture and believes that its focus on operations, proactive leasing, property management and asset management activities will result in higher customer retention and occupancy and will continue to translate into enhanced stockholder value.

Administration

       The Company is self-administered and self-managed and maintains its principal executive offices in Jackson, Mississippi.  As of January 1, 2005, the Company had 252 employees.  The operations of the Company are conducted from approximately 13,000 square feet of office space located at 188 East Capitol Street, One Jackson Place, Suite 1000, Jackson, Mississippi.  The building is owned by Parkway and is leased by Parkway at market rental rates.

Available Information

       Parkway makes available free of charge on the "Investor Relations" page of its web site, www.pky.com, its filed and furnished reports on Form 10-K, 10-Q and 8-K and all amendments thereto, as soon as reasonably practicable after Parkway electronically files such material with, or furnishes it to, the Securities and Exchange Commission.

       The Company's Corporate Governance Guidelines, Code of Business Conduct and Ethics and the Charters of the Audit Committee, Nominating and Corporate Governance Committee and Compensation Committee of the Board of Directors are available on the "Investor Relations" page of Parkway's web site.  Copies of these documents are also available free of charge in print upon written request addressed to Investor Relations, Parkway Properties, Inc., One Jackson Place Suite 1000, 188 East Capitol Street, Jackson, Mississippi 39201-2195.

Recent Developments

       On January 5, 2005, the Company entered into an agreement to purchase the 70% interest held by Investcorp International, Inc., its joint venture partner, in the property known as 233 North Michigan Avenue in Chicago, Illinois. The terms of the agreement place total building value at $194.3 million or $182 per square foot. The Company will close the investment in two stages. The Company closed 90% of the purchase on January 14, 2005. The second closing for the remainder of Investcorp's interest will occur following lender and rating agency approval, which is expected within ninety days. At closing, the Company earned a $400,000 incentive fee from Investcorp based upon the economic returns generated over the life of the partnership. The purchase was funded with proceeds from the sale of 1.6 million shares of common stock to Citigroup Global Markets, Inc. on January 10, 2005 and the assumption of an existing first mortgage on the property.

       The 70% interest in 233 North Michigan Avenue was acquired subject to an existing non-recourse first mortgage with an outstanding balance of approximately $100 million, which matures July 2011 and carries a fixed interest rate of 7.21%. In accordance with generally accepted accounting principles, the mortgage will be recorded at approximately $112 million to reflect the fair value of the financial instrument based on the market rate of 4.94% on the date of purchase.

       On January 10, 2005, the Company sold 1,600,000 shares of common stock to Citigroup Global Markets, Inc. The Company used the net proceeds of approximately $76 million towards the acquisition of the 70% interest held by its joint venture partner in the property known as 233 North Michigan Avenue in Chicago, IL and to reduce outstanding variable rate debt.

       In early March 2005, the Company expects, subject to the completion of due diligence, to purchase for approximately $29.3 million two adjacent buildings in downtown Jacksonville, Florida. In addition to the purchase price the Company expects to invest an additional $4.3 million in improvements.  The buildings, which total 305,000 square feet, are approximately 93% leased. The purchase will be funded via the remaining proceeds from the Company's January 2005 equity offering as well as its existing line of credit.

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ITEM 2.  Properties.

General

       The Company operates and invests principally in office properties in the Southeastern and Southwestern United States and Chicago, but is not limited to any specific geographical region or property type.  As of January 1, 2005, the Company owned or had an interest in 62 office properties comprising approximately 11.6 million square feet of office space located in 11 states.

       Property acquisitions in 2004, 2003 and 2002 were funded through a variety of sources, including:

a.         Cash reserves and cash generated from operating activities,

b.         Sales of non-core assets,

c.         Sales of office properties,

d.         Sales of joint venture interests,

e.         Fixed rate, non-recourse mortgage financing with maturities ranging from five to ten years,

f.          Assumption of existing fixed rate, non-recourse mortgages on properties purchased,

g.         Sales of Parkway preferred and common stock,

h.         Advances on bank lines of credit, and

i.          Issuances of preferred membership interests to sellers.

Office Buildings

       Other than as discussed under "Item 1. Business", the Company intends to hold and operate its portfolio of office buildings for investment purposes.  The Company does not propose any program for the renovation, improvement or development of any of the office buildings, except as called for under the renewal of existing leases or the signing of new leases or improvements necessary to upgrade recent acquisitions to the Company's operating standards.  During 2004, the Company began development of a $6.9 million, 517 space parking facility to accommodate building customers at City Centre in Jackson, Mississippi.  All such improvements are expected to be financed by cash flow from the portfolio of office properties and advances on bank lines of credit.   

       In the opinion of management, all properties are adequately covered by insurance. 

       All office building investments compete for customers with similar properties located within the same market primarily on the basis of location, rent charged, services provided and the design and condition of the improvements.  The Company also competes with other REITs, financial institutions, pension funds, partnerships, individual investors and others when attempting to acquire office properties.

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       The following table sets forth certain information about office properties the Company owned or had an interest in as of January 1, 2005:

(1)    Includes 54 office properties owned directly; a 32,000 square foot office property in which the Company owns a 50% interest located in New Orleans, Louisiana; a 1,070,000 square foot office property in which the Company owns a 30% interest located in Chicago, Illinois; a 481,000 square foot office property in which the Company owns a 30% interest located in Phoenix, Arizona; two office properties totaling 170,000 square feet in which the Company owns a 20% interest located in Jackson, Mississippi; and three office properties totaling 550,000 square feet in which the Company owns a 20% interest located in Atlanta, Georgia and Charlotte, North Carolina.

(2)    Average rent per square foot is defined as the weighted average current gross rental rate including expense escalations for leased office space in the building as of January 1, 2005.

(3)    Estimated average market rent per square foot is based upon information obtained from (i) the Company's own experience in leasing space at the properties; (ii) leasing agents in the relevant markets with respect to quoted rental rates and completed leasing transactions for comparable properties in the relevant markets; and (iii) publicly available data with respect thereto.  Estimated average market rent is weighted by the net rentable square feet expiring in each property.

(4)    The percentage of leases expiring in 2005 represents the ratio of square feet under leases expiring in 2005 divided by total net rentable square feet.

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       The following table sets forth scheduled lease expirations for properties owned as of January 1, 2005 on leases executed as of January 1, 2005, assuming no customer exercises renewal options:

(1)    Annualized rental amount expiring is defined as net rentable square feet expiring multiplied by the weighted average expiring annual rental rate per net rentable square foot.

(2)    Weighted average expiring gross rental rate is the weighted average rental rate including expense escalations for office space.

(3)    Estimated average market rent is based upon information obtained from (i) the Company's own experience in leasing space at the properties: (ii) leasing agents in the relevant markets with respect to quoted rental rates and completed leasing transactions for comparable properties in the relevant markets; and (iii) publicly available data with respect thereto.  Estimated average market rent is weighted by the net rentable square feet expiring in each property.

       Fixed-rate mortgage notes payable total $353,975,000 at December 31, 2004 and are secured by 32 properties in various markets with interest rates ranging from 3.67% to 8.25%.  Maturity dates on these mortgage notes payable range from August 2007 to October 2019 on 14 to 30 year amortizations.  See Note E - "Notes Payable" to the consolidated financial statements.

       The majority of the Company's fixed rate secured debt contains prepayment provisions based on the greater of a yield maintenance penalty or 1.0% of the outstanding loan amount.  The yield maintenance penalty essentially compensates the lender for the difference between the fixed rate under the loan and the yield that the lender would receive if the lender reinvested the prepaid loan balance in U.S. Treasury Securities with a similar maturity as the loan.

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Customers

       The office properties are leased to approximately 1,317 customers, which are in a wide variety of industries including government agencies, banking, professional services (including legal, accounting, and consulting), energy, financial services and telecommunications.  The following table sets forth information concerning the 25 largest customers of the properties owned directly or through joint ventures as of January 1, 2005 (in thousands, except square foot data):