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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 1998
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 1-12675
KILROY REALTY CORPORATION
(Exact name of registrant as specified in its charter)
Maryland 95-4598246
(State or other jurisdiction (I.R.S. Employer Identification Number)
of incorporation or organization)
2250 East Imperial Highway, Suite 1200 90245
El Segundo, California (Zip Code)
(Address of principal executive offices)
Registrant's telephone number, including area code: (310) 563-5500
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which registered
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Common Stock, $.01 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 [_]
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. [_]
The aggregate market value of the shares of common stock held by non-
affiliates of the registrant was approximately $564,582,505 based on the
closing price on the New York Stock Exchange for such shares on March 23,
1999.
As of March 23, 1999, 27,639,210 shares of common stock, par value $.01 per
share, were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Company's Proxy Statement with respect to its 1999 Annual
Meeting of Stockholders to be filed not later than 120 days after the end of
the registrant's fiscal year are incorporated by reference into Part III
hereof.
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TABLE OF CONTENTS
Page
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PART I
Item 1. Business....................................................... 1
Item 2. Properties..................................................... 13
Item 3. Legal Proceedings.............................................. 23
Item 4. Submission of Matters to a Vote of Security Holders............ 23
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder
Matters........................................................ 24
Item 6. Selected Financial Data........................................ 26
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations.......................................... 28
Item 7A. Quantitative and Qualitative Disclosures About Market Risks.... 47
Item 8. Financial Statements and Supplementary Data.................... 49
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure........................................... 49
PART III
Item 10. Directors and Executive Officers of the Registrant............. 49
Item 11. Executive Compensation......................................... 49
Item 12. Security Ownership of Certain Beneficial Owners and Management. 49
Item 13. Certain Relationships and Related Transactions................. 49
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-
K.............................................................. 50
i
PART I
ITEM 1. BUSINESS
General
Kilroy Realty Corporation (the "Company") was incorporated in September 1996
and commenced operations upon the completion of its initial public offering in
January 1997. The Company, which develops, owns, and operates office and
industrial properties, primarily in Southern California, operates qualifies,
and intends to continue to qualify as a self-administered and self-managed
real estate investment trust ("REIT") for federal and state income tax
purposes beginning with the year ended December 31, 1997. The Company is the
successor to the real estate business of Kilroy Industries, a California
corporation ("KI"), and certain of its affiliated corporations, partnerships
and trusts (collectively, the "Kilroy Group"). Since 1947, the Kilroy Group
has been engaged in the business of owning, acquiring, developing, managing
and leasing principally Class A suburban office and industrial buildings in
select locations in key suburban submarkets, primarily in Southern California.
As of December 31, 1998, the Company's portfolio of properties (including
properties owned by Kilroy Realty, L.P. (the "Operating Partnership") and
Kilroy Realty Finance Partnership, L.P., a Delaware limited partnership (the
"Finance Partnership")) included 80 office buildings encompassing
approximately 5.6 million rentable square feet (the "Office Properties") and
84 industrial buildings encompassing approximately 6.2 million rentable square
feet (the "Industrial Properties" and, together with the Office Properties,
the "Properties"). All but 15 of the Properties are located in Southern
California. As of December 31, 1998, the Office Properties were approximately
95.7% leased to 420 tenants and the Industrial Properties were approximately
96.0% leased to 253 tenants. In addition, as of December 31, 1998, the Company
had under development six office buildings and two industrial buildings which
when completed are expected to encompass approximately 544,000 and 390,000
rentable square feet, respectively.
The Company conducts substantially all of its activities through the
Operating Partnership in which, as of December 31, 1998, it owned an
approximate 86.8% general partnership interest. The remaining 13.2% limited
partnership interest in the Operating Partnership was owned by certain of the
Company's executive officers and directors, certain of their affiliates, and
other outside investors. As the sole general partner of the Operating
Partnership, the Company has control over the management of the Operating
Partnership, which owns 147 of the Company's 164 Properties. The remaining 17
properties are owned by the Finance Partnership in which the Company (through
a wholly-owned subsidiary) owns a 1.0% sole general partnership interest and
the Operating Partnership owns a 99.0% limited partnership interest.
The Company's strategy has been to own, develop, acquire, lease and manage
Class A suburban office and industrial properties in select locations in key
suburban submarkets, primarily in Southern California, which the Company
believes have strategic advantages compared to neighboring submarkets.
At December 31, 1998, the Company's ten largest office tenants represented
approximately 26.2% of total annual base rent rental revenue, defined as
annualized monthly contractual rents from existing tenants at December 31,
1998, determined in accordance with generally accepted accounting principles,
and its ten largest industrial tenants represented approximately 10.2% of
total annual base rental revenue. Of this amount, its largest tenant, Hughes
Electronics Corporation's Space & Communications Company ("Hughes Space &
Communications"), currently leases approximately 412,000 rentable square feet
of office space, representing approximately 7.4% of the Company's total annual
base rental revenues at December 31, 1998. The base periods of the Hughes
Space & Communications leases expire in January and July 2004.
The Company's five largest office tenants, based on annual rental revenues,
include: Hughes Space & Communications, a tenant since 1984, which is engaged
in high-technology commercial activities including satellite development and
related applications such as DirecTV; The Boeing Company; the State of
California (Caltrans); Sony Music Entertainment, Inc. and Unisys Corporation.
The Company's five largest industrial tenants, based on annualized rental
revenues, include: Mattel, Inc.; Celestica, Inc.; Kraft Foods, Inc.; Omni-Pack
and Mazda Motor of America, Inc. (See Item 2: Properties--Tenant Information
for further discussion on the Company's tenant base.)
1
Business and Growth Strategies
Growth Strategies. The Company believes that a number of factors will enable
it to achieve its business objectives, including: (i) the opportunity to lease
available space at attractive rental rates because of high demand and
frictional vacancy levels in the Southern California submarkets in which most
of the Properties are located; (ii) the quality and location of the
Properties; (iii) the Company's ability to efficiently manage its assets as a
low cost provider of commercial real estate due to its core capabilities in
all aspects of real estate ownership including property management, leasing,
marketing, financing, accounting, legal, construction management and new
development; (iv) the Company's substantial development pipeline established
over the past several years; and (v) the Company's access to development and
leasing opportunities as a result of its significant relationship with large
Southern California corporate tenants, municipalities and landowners and the
Company's 50-year presence in the Southern California market. Management
believes that the Company is well positioned to capitalize on existing
opportunities because of its extensive experience in certain of its
submarkets, its seasoned management team and its proven ability to acquire,
develop, lease and efficiently manage office and industrial properties.
Operating Strategies. The Company focuses on enhancing growth in funds from
operations from its Properties by: (i) maximizing cash flow from the
Properties through active leasing and early renewals, increasing contractual
base rent to current market levels as leases expire and effective property
management; (ii) managing operating expenses through the use of internal
management, leasing, marketing, financing, accounting, legal administration
and construction management functions; (iii) maintaining and developing long-
term relationships with a diverse tenant group; (iv) attracting and retaining
motivated employees by providing financial and other incentives to meet the
Company's operating and financial goals; and (v) continuing to emphasize
capital improvements to enhance the Properties' competitive advantages in
their respective markets and improve the efficiency of building systems.
Development Strategies. The Company and its predecessors have developed
office and industrial properties, including high technology facilities,
primarily located in Southern California, for its own portfolio and for third
parties, since 1947. Over the past several years, the Company has established
a substantial development pipeline in its three target market regions, Los
Angeles, Orange and San Diego Counties. The Company's land inventory
(including land held through joint venture arrangements) can support future
development of over 3.0 million rentable square feet at a total budgeted cost
of over $500 million over the next four to five years. The Company's strategy
is to maintain a disciplined approach to development by focusing on pre-
leasing, phasing and cost control. The Company completed five office and
industrial projects during 1998 at an aggregate cost of $70.7 million. In
addition, as of December 31, 1998, the Company had approximately 934,000
rentable square feet under construction at a total budgeted cost of
approximately $118 million.
The Company may engage in the development of additional office and/or
industrial properties, primarily in Southern California, when market
conditions support a favorable risk-adjusted return on such development. The
Company's activities with third-party owners in Southern California are
expected to give the Company further access to development opportunities.
There can be no assurance, however, that the Company will be able to
successfully develop any of the properties.
Financing Policies. The Company's financing policies and objectives are
determined by the Company's Board of Directors. The Company presently intends
to maintain a conservative ratio of debt to total market capitalization (total
debt of the Company as a percentage of the market value of issued and
outstanding shares of common stock, including interests exchangeable therefor,
plus total debt). This ratio may be increased or decreased without the consent
of the Company's stockholders and the Company's organizational documents do
not limit the amount of indebtedness that the Company may incur. At December
31, 1998, total debt constituted approximately 32.5% of the total market
capitalization of the Company. The Company intends to utilize one or more
sources of capital for future growth, which may include undistributed cash
flow, borrowings under the Company's unsecured credit facility (the "Credit
Facility"), the issuance of debt or equity securities and other bank and/or
institutional borrowings. There can be no assurance, however, that the Company
will be able to obtain capital for any such developments or improvements on
terms favorable to the Company.
2
Government Regulations
Many laws and governmental regulations are applicable to the Company's
Properties and changes in these laws and regulations, or their interpretation
by agencies and the courts, occur frequently.
Costs of Compliance with the Americans with Disabilities Act. Under the
Americans with Disabilities Act of 1990 (the "ADA"), all public accommodations
must meet certain federal requirements related to access and use by disabled
persons. Compliance with the ADA might require removal of structural barriers
to handicapped access in certain public areas where such removal is "readily
achievable." Noncompliance with the ADA could result in the imposition of
fines or an award of damages to private litigants. Although the Company
believes that its Properties substantially comply with present requirements of
the ADA, audits or investigations of all of its Properties have not been
conducted to determine compliance. The Company may incur additional costs of
complying with the act. A number of additional federal, state and local laws
also may require modifications to the Company's Properties, or restrict its
ability to renovate the Properties. The Company cannot predict the ultimate
amount of the cost of compliance with the act or other legislation. Although
management does not expect such costs to have a material effect, such costs
could be substantial.
Environmental Matters. Environmental laws and regulations hold the Company
liable for the costs of removal or remediation of certain hazardous or toxic
substances released on its Properties. These laws could impose liability
without regard to whether the Company is responsible for, or even knew of, the
presence of the hazardous materials. Government investigations and remediation
actions may have substantial costs and the presence of hazardous wastes on a
property could result in personal injury or similar claims by private
plaintiffs. For instance, third parties may seek recovery from for personal
injuries associated with asbestos-containing materials and other hazardous or
toxic substances if found on the Company's Properties. Moreover, the presence
of these substances on the Company's Properties may hinder its ability to rent
or sell these Properties, or to borrow using these Properties as collateral.
As of December 31, 1998, 26 of the Company's Properties contained asbestos-
containing materials. Various laws also impose liability on persons who
arrange for the disposal or treatment of hazardous or toxic substances for the
cost of removal or remediation of hazardous substances at the disposal or
treatment facility. These laws often impose liability whether or not the
person arranging for the disposal ever owned or operated the disposal
facility. As the owner and operator of its Properties, the Company may be
considered to have arranged for the disposal or treatment of hazardous or
toxic substances.
Some of the Company's tenants routinely handle hazardous substances and
wastes on its Properties as part of their routine operations. Environmental
laws and regulations subject these tenants, and potentially the Company, to
liability resulting from such activities. The Company requires its tenants, in
their leases, to comply with these environmental laws and regulations and to
indemnify the Company for any related liabilities. As of December 31, 1998,
less than 5% of the Company's tenants routinely handled hazardous substances
and/or wastes on the Company's properties as part of their routine operations.
These tenants were primarily involved in the light industrial and warehouse
business and more specifically the light electronics assembly business.
Management does not believe that these activities will have any material
adverse effect on the Company's operations. Furthermore, management is unaware
of any material noncompliance, liability or claim relating to hazardous or
toxic substances or petroleum products in connection with any of the Company's
Properties.
Independent environment consultants conducted Phase I or similar
environmental site assessments on all of the Company's Properties. Site
assessments generally include a historical review, a public records review, an
investigation of the surveyed site and surrounding properties, and the
issuance of a written report. These assessments do not generally include soil
samplings or subsurface investigations. The Company's site assessments
revealed that some of its Properties contain asbestos-containing materials and
that historical operations at or near some of its Properties, including the
operation of underground storage tanks, may have caused soil or groundwater
contamination. Prior owners of the affected Properties conducted clean-up of
contamination in the soils on the properties. The Company does not believe
that further clean up of the soils is required. The Company carries what it
believes to be sufficient environmental insurance to cover any potential
liability for soil and groundwater contamination at the affected sites. The
Company cannot assure stockholders that its insurance coverage will be
sufficient or whether the Company's liability, if any, will have a material
adverse effect on its financial condition, results of operations, cash flow,
quoted per share trading price of its common stock and ability to pay
distributions to stockholders.
3
None of the Company's site assessments revealed any environmental liability
that management believes would have a material adverse effect on the Company's
business, assets or results of operations. Management is not aware of any such
condition, liability, or concern by any other means. However, the assessments
may have failed to reveal all environmental conditions, liabilities, or
compliance concerns; there may be material environmental conditions,
liabilities, or compliance concerns that arose at a property after the review
was completed; future laws, ordinances or regulations may impose material
additional environmental liability; and current environmental conditions at
the Company's Properties may be affected in the future by tenants, third
parties, or the condition of land or operations near its Properties (such as
the presence of underground storage tanks). If the costs of environmental
compliance exceed the Company's budgeted limits, it may be unable to make
distributions to its stockholders.
Other federal, state and local regulations. The Company's Properties are
subject to various federal, state and local regulatory requirements, such as
state and local fire and life safety requirements. If the Company failed to
comply with these various requirements, it might incur governmental fines or
private damage awards. Management believes that the Company's Properties are
currently in material compliance with all of these regulatory requirements.
However, management does not know whether existing requirements will change or
whether future requirements will require the Company to make significant
unanticipated expenditures that will affect its ability to make distributions
to its stockholders. The City of Los Angeles adopted regulations relating to
the repair of welded steel movement frames located in certain areas damaged as
a result of the January 17, 1994 Northridge earthquake in Southern California.
Currently, these regulations apply to only one of the Company's Properties
representing approximately 78,000 square feet. Management believes that this
property complies with these regulations. Management does not know, however,
whether other regulatory agencies will adopt similar regulations or whether
the Company will acquire additional properties which may be subject to these
or similar regulations. Management believes, based in part on engineering
reports, that all of its Properties are in good condition. However, if
required to make significant expenditures under applicable regulations, the
Company's financial condition, results of operations, cash flow, quoted per
share trading price of its common stock and ability to pay distributions to
stockholders could be adversely affected.
Employees
As of March 10, 1999, the Company (primarily through the Operating
Partnership and Kilroy Services, Inc., an unconsolidated subsidiary of the
Company ("KSI")), employed 126 persons. The Company, the Operating Partnership
and KSI employ substantially all of the professional employees of the Kilroy
Group that are engaged in asset management and administration. As of March 10,
1999, the Operating Partnership employed 31 on-site building employees who
provided services for the Properties. The Company, the Operating Partnership
and KSI believe that relations with their employees are good.
Business Risks
This document contains certain forward-looking statements (as such term is
defined in Section 27A of the Securities Act of 1933, as amended (the "1933
Act"), and Section 21E of the Exchange Act of 1934, as amended (the "1934
Act")) pertaining to, among other things, the Company's future results of
operations, cash available for distribution, property acquisitions, lease
renewals, increases in base rent, fee development activities, sources of
growth, planned development and expansion of owned or leased property, capital
requirements, compliance with contractual obligations and general business,
industry and economic conditions applicable to the Company. These statements
are based largely on the Company's current expectations and are subject to a
number of risks and uncertainties. Actual results could differ materially from
these forward-looking statements. Factors that can cause actual results to
differ materially include, but are not limited to, those discussed below.
Readers are cautioned not to place undue reliance on these forward-looking
statements, which speak only as of the date hereof. The following factors
should be considered in addition to the other information contained herein in
evaluating the Company and its business:
Most of the Company's Properties are dependent upon the Southern California
economy. As of December 31, 1998, 85.5% of the Company's aggregate square
footage and 88.4% of the Company's annualized
4
base rent, excluding expense reimbursements and rental abatements, came from
properties located in Southern California. The Company's ability to make
expected distributions to stockholders depends on its ability to generate
funds from operations in excess of scheduled principal payments on debt,
payments on the cumulative redeemable preferred units issued by the Operating
Partnership, and capital expenditure requirements. Events and conditions
beyond the Company's control may decrease funds available for distribution and
the value of the Company's Properties. These events include: local oversupply
or reduction in demand of office, industrial or other commercial space;
ability to collect rent from tenants; vacancies or inability to rent available
space on favorable terms; ability to finance property development and
acquisitions on favorable terms; changes in interest rate levels; increased
operating costs, including insurance premiums, utilities, and real estate
taxes; costs of complying with changes in governmental regulation; changes in
the tax laws; the relative illiquidity of real estate investments; submarket
demographics and property damage resulting from seismic activity. The
geographical concentration of the Company's Properties may expose it to
greater economic risks than if it owned properties in several geographic
regions.
The Company's significant debt level reduces cash available for distribution
and may expose the Company to the risk of default. Payments of principal and
interest on borrowings may leave the Company with insufficient cash resources
to operate its Properties or to pay distributions necessary to maintain its
REIT qualification. The Company's level of debt and the limitations imposed by
existing debt agreements may have important consequences on the Company,
including the following: cash flow may be insufficient to meet required
principal and interest payments; the Company may be unable to refinance its
indebtedness at maturity or the refinancing terms may be less favorable than
the terms of its original indebtedness; the Company may be forced to dispose
of one or more of its Properties, possibly on disadvantageous terms; the
Company may default on its obligations and the lenders or mortgagees may
foreclose on the properties that secure the loans and receive an assignment of
rents and leases; and the Company's default under one mortgage loan with cross
default provisions could result in a default on other indebtedness.
Foreclosures could create taxable income without accompanying cash proceeds, a
circumstance which could hinder the Company's ability to meet the strict REIT
distribution requirements imposed by the Internal Revenue Code of 1986, as
amended. As of December 31, 1998, the Company had $405 million aggregate
principal amount of indebtedness, $2.3 million of which is due prior to
December 31, 1999. The Company's debt to total market capitalization ratio at
December 31, 1998 was 32.5%.
The Company faces significant competition which may result in decreases in
occupancy and rental rates. The Company competes with several developers,
owners and operators of office, industrial and other commercial real estate.
Substantially all of the Company's Properties are located in areas with
similar properties as its competitors, many of which have higher vacancy rates
and, as a result, charge rental rates below the rates charged by the Company.
Competition from these other properties may affect the Company's ability to
attract and retain tenants and may reduce rental income. For instance,
occupancy rates in the Company's El Segundo and Long Beach office property
portfolios at December 31, 1998 were 99.1% and 96.8%, respectively, in
comparison to 94.8% and 94.8%, respectively for the El Segundo and Long Beach
office property submarkets in total. In addition, the occupancy rate in the
Company's Anaheim industrial property portfolio at December 31, 1998 was 94.4%
in comparison to 93.2% for the Anaheim industrial property submarket in total.
Potential losses may not be covered by insurance. The Company carries
comprehensive liability, fire, extended coverage and rental loss insurance
covering all of its Properties. Management believes the policy specifications
and insured limits are appropriate given the relative risk of loss, the cost
of the coverage and industry practice. The Company does not carry insurance
for generally uninsured losses such as loss from riots or acts of war. Some of
the Company's insurance policies, like those covering losses due to floods,
are insured subject to limitations involving large deductibles or co-payments
and policy limits. In addition, the Company carries earthquake insurance on
properties located in areas known to be subject to earthquakes in an amount
and with deductions which management believes are commercially reasonable. As
of December 31, 1998, 77 of the Office Properties aggregating 5.1 million
square feet (representing 43.1% of the Company's Properties based on aggregate
square footage and 66.3% based on annualized base rent) were located in areas
known to be subject to earthquakes. As of December 31, 1998, 72 of the
Company's Industrial Properties aggregating 5.0 million square feet
(representing 42.4% of the Company's properties based on aggregate square
footage and 24.5% based on
5
annualized base rent) were located in areas known to be subject to
earthquakes. While the Company presently carries earthquake insurance on these
properties, the amount of our earthquake insurance coverage may not be
sufficient to cover losses from earthquakes. In addition, the Company may
discontinue earthquake insurance on some or all of its Properties in the
future if the cost of premiums for earthquake insurance exceeds the value of
the coverage discounted for the risk of loss. If the Company experiences a
loss which is uninsured or which exceeds policy limits, it could lose the
capital invested in the damaged properties as the well as the anticipated
future revenue from those properties. In addition, if the damaged properties
are subject to recourse indebtedness, the Company would continue to be liable
for the indebtedness, even if the properties were unrepairable.
The Company may be unable to complete acquisitions and successfully operate
acquired properties. The Company intends to continue to acquire office and
industrial properties when strategic opportunities exist. The Company's
ability to acquire properties on favorable terms and successfully operate them
is subject to the following risks: the potential inability to acquire a
desired property because of competition from other real estate investors with
significant capital, including both publicly traded REITs and institutional
investment funds; even if the Company enters into agreements for the
acquisition of office and industrial properties, these agreements are subject
to customary conditions to closing, including completion of due diligence
investigations to management's satisfaction; the Company may be unable to
finance the acquisition on favorable terms; the Company may spend more than
budgeted amounts to make necessary improvements or renovations to acquired
properties; and the Company may lease the acquired properties at below
expected rates. If the Company cannot finance property acquisitions on
favorable terms, or operate acquired properties to meet financial
expectations, its financial position, results of operations, cash flow, quoted
per share trading price of its common stock and ability to pay distributions
to stockholders could be adversely affected.
The Company may be unable to complete development projects and successfully
operate developed properties. Property development involves the following
significant risks: the Company may be unable to obtain construction financing
on favorable terms; the Company may be unable to obtain permanent financing at
all or on advantageous terms if development projects are financed through
construction loans; the Company may not complete development projects on
schedule or within budgeted amounts; the Company may encounter delays or
refusals in obtaining all necessary zoning, land use, building, occupancy, and
other required governmental permits and authorizations; the Company may expend
funds on and devote management's time to projects which the Company may not
complete; and the Company may lease the developed properties at below expected
rental rates. If any one of these events were to occur, the Company's
financial position, results of operations, cash flow, quoted per share trading
price of its common stock and ability to pay distributions to stockholders
could be adversely affected. While the Company primarily develops office and
industrial properties in Southern California markets, it may in the future
develop properties for retail or other use and expand its business to other
geographic regions where the development of property could result in more
favorable risk-adjusted returns. Presently, the Company does not possess the
same level of familiarity with development of other property types or outside
markets which could adversely affect its ability to develop properties or to
achieve expected performance.
The Company could default on leases for land on which some of its properties
are located. The Company owns ten office buildings located on land which the
Company leases on a long-term basis. If the Company defaults under the terms
of a lease, it may lose the property subject to the lease. The Company may not
be able to renegotiate a new lease, on favorable terms, if at all, upon
expiration of the lease and all its options. The leases for the land under the
Kilroy Airport Center, Long Beach expire in 2035. The leases for the land
under the SeaTac Office Center, including renewal options, expire in 2062. The
lease for the land under 12312 West Olympic Boulevard in Santa Monica expires
in January 2065. The lease for the land under 9455 Towne Center in San Diego
expires in October 2043.
The Company depends on significant tenants. At December 31, 1998, the
Company's ten largest office tenants represented approximately 26.2% of total
annual base rental revenue and its ten largest industrial tenants represented
approximately 10.2% of total annual base rental revenue. Of this amount, its
largest tenant, Hughes Space & Communications currently leases approximately
412,000 rentable square feet of office space,
6
representing approximately 7.4% of the Company's total annual base rental
revenues. The Company's revenue and cash available for distribution to
stockholders would be disproportionately and materially adversely affected if
any of its significant tenants were to become bankrupt or insolvent, or suffer
a downturn in their business, or fail to renew their leases at all or on terms
less favorable to the Company than their current terms.
Downturns in tenants' businesses may reduce the Company's cash flow. The
Company derives 86.1% of its revenues from rents from tenants. A tenant may
experience a downturn in its business, which may weaken its financial
condition and result in its failure to make timely rental payments. In the
event of default by a lessee, the Company may experience delays in enforcing
its rights as lessor and may incur substantial costs in protecting its
investment.
The bankruptcy or insolvency of a major tenant also may adversely affect the
income produced by the Company's Properties. If any tenant becomes a debtor in
a case under the Bankruptcy Code, the Company cannot evict the tenant solely
because of the bankruptcy. On the other hand, the bankruptcy court might
authorize the tenant to reject and terminate its lease. The Company's claim
against such a tenant for unpaid, future rent would be subject to a statutory
cap that might be substantially less than the remaining rent actually owed
under the lease. Even so, the Company's claim for unpaid rent would likely not
be paid in full. This shortfall could adversely affect the Company's cash flow
and its ability to make distributions to stockholders. Although the Company
has not experienced material losses from tenant bankruptcies, its tenants
could file for bankruptcy protection in the future.
The Company may be unable to renew leases or re-let space as leases
expire. Leases representing 13.2% and 11.3% of the square footage of the
Company's Properties will expire in 1999 and 2000. Above market rental rates
on some of the Company's Properties may force it to renew or re-lease some
expiring leases at lower rental rates. While the Company believes that the
average rental rates for most of its Properties are below quoted market rates
in each of its respective submarkets, the Company cannot assure that leases
will be renewed or that its Properties will be re-leased at rental rates equal
to or above the current rental rates. If the rental rates for the Company's
Properties decrease, existing tenants do not renew their leases or the Company
does not re-lease a significant portion of its available space, its financial
position, results of operations, cash flow, quoted per share trading price of
its common stock and ability to pay distributions to its stockholders would be
adversely affected.
Real estate assets are illiquid and the Company may not be able to sell its
Properties at the appropriate time. The Company's investments in its
Properties are relatively illiquid and therefore limits the Company's ability
to sell its Properties quickly in response to changes in economic or other
conditions. Limitations in the Internal Revenue Code and related Treasury
Regulations applicable to REITs may also limit the Company's ability to sell
its Properties.
KSI is subject to tax liabilities on net income which reduces the Company's
cash flow. KSI is subject to federal and state income tax on its taxable
income at regular corporate rates. Any federal, state or local income taxes
that KSI must pay will reduce the cash available for distribution to the
Operating Partnership and, ultimately, to the Company's stockholders.
The Company cannot depend upon distributions from KSI because its business
is not controlled by the Company. The Company has set up the following
structure to comply with the REIT asset tests that restrict its ability to own
shares of other corporations: the Operating Partnership owns 100% of the non-
voting preferred stock of KSI, representing approximately 95.0% of its
economic value; and John B. Kilroy, Sr. and John B. Kilroy, Jr., the Company's
Chairman of the Board of Directors and President and Chief Executive Officer,
respectively, own all of the outstanding voting common stock of KSI,
representing approximately 5.0% of its economic value. The Company receives
substantially all of the economic benefit derived from KSI's business by
virtue of the dividends that the Company receives from the preferred stock.
However, the Company cannot influence KSI's operations, elect its directors or
officers, or require its Board of Directors to declare and pay a cash dividend
on the nonvoting preferred stock owned the Operating Partnership. As a result,
KSI may make decisions or pursue business policies which could have an adverse
effect on the Company's financial position,
7
results of operations, cash flow, quoted per share trading price of its common
stock and ability to pay distributions to stockholders.
KSI may be adversely affected by the Company's REIT status. Changes in the
requirements for REIT qualification may in the future limit the Company's
ability to receive increased distributions from the fee development operations
and related services offered by KSI.
Common limited partners of the Operating Partnership have limited approval
rights which may prevent the Company from taking actions that are in the best
interests of stockholders. The Company may not withdraw from the Operating
Partnership or transfer its general partnership interest or admit another
general partner without the approval of a majority of the common limited
partnership unitholders except in the case of a "termination transaction"
described under in the section entitled "Description of Material Provisions of
the Partnership Agreement of Kilroy Realty, L.P.--Transferability of
partnership interests" which requires the approval of 60% of the common
unitholders, including the Company because of the common units it holds in its
capacity as general partner. The right of common limited partners to vote on
the transactions described above could limit the Company's ability to complete
a change of control transaction that might otherwise be in the best interest
of its stockholders.
For as long as limited partners own at least 5% of all of the common units
of the Operating Partnership, the Company must obtain the approval of limited
partners holding a majority of the common units before it may dissolve the
partnership or sell the property located at 2260 East Imperial Highway at
Kilroy Airport Center in El Segundo prior to January 31, 2004. In addition,
the Company may not sell 11 of its properties prior to October 31, 2002
without the consent of the limited partners that contributed the properties to
the Operating Partnership, except in connection with the sale or transfer of
all or substantially all of its assets or those of the Operating Partnership
or in connection with a transaction which does not cause the limited partners
that contributed the property to recognize taxable income. The Company's
unitholding directors and officers may seek to influence it, as sole general
partner of the Operating Partnership, not to carry out a sale of these
properties, even though it might be otherwise financially advantageous to the
Company, the Operating Partnership, stockholders and the other partners. In
addition, the Operating Partnership agreed to use commercially reasonable
efforts to minimize the tax consequences to common limited partners resulting
from the repayment, refinancing, replacement or restructuring of debt, or any
sale, exchange or other disposition of any of its other assets.
The Company's Chairman of the Board of Directors and its President and Chief
Executive Officer each have potential conflicts of interest with the
Company.
The Company's Chairman of the Board of Directors and its President and Chief
Executive Officer each are engaged in competitive real estate activities. The
Company owns four office buildings and four industrial buildings in the El
Segundo submarket. John B. Kilroy, Sr. and John B. Kilroy, Jr., the Company's
Chairman of the Board of Directors and President and Chief Executive Officer,
respectively, own controlling interests in partnerships which own a complex of
three office buildings in the same submarket. The Operating partnership
manages the complex pursuant to a management agreement on market terms.
Policies adopted by the Company's Board of Directors to minimize this
conflict, including the requirement that John B. Kilroy, Sr. and John B.
Kilroy, Jr. enter into non-competition agreements with the Company, may not
eliminate their influence over transactions involving these competing
properties.
The Company's Chairman of the Board of Directors and its President and Chief
Executive Officer each have substantial influence over the Company's
affairs. John B. Kilroy, Sr. and John B. Kilroy, Jr., the Company's Chairman
of the Board of Directors and President and Chief Executive Officer,
respectively, together hold two of the seven seats on the Company's Board of
Directors. They also beneficially own common limited partnership units
exchangeable for an aggregate of 2,598,639 shares of the Company's common
stock and currently vested options to purchase an aggregate of 176,666 shares
of common stock, representing a total of 10.0% of the total outstanding shares
of common stock as of December 31, 1998. Pursuant to the Company's
8
charter no other stockholder may own, actually or constructively, more than
7.0% of the Company's common stock. Consequently, Messrs. Kilroy have
substantial influence on the Company and could exercise their influence in a
manner that is not in the best interest or the Company's stockholders. Also,
they may, in the future, have a substantial influence on the outcome of any
matters submitted to the Company's stockholders for approval.
There are limits on the ownership of the Company's capital stock which limit
the opportunities for a change of control at a premium to existing
stockholders. Certain provisions of the Maryland General Corporation Law, the
Company's charter, the Company's bylaws, and the Operating Partnership's
partnership agreement may delay, defer, or prevent a change in control over
the Company or the removal of existing management. Any of these actions might
prevent the stockholders from receiving a premium for their shares of stock
over the then prevailing market prices.
The Internal Revenue Code sets forth stringent ownership limits on the
Company as a result of its decision to be taxed as a REIT, including: no more
than 50% in value of the Company's capital stock may be owned, actually or
constructively, by five or fewer individuals, including certain entities,
during the last half of a taxable year; subject to certain exceptions, the
Company's common stock shares must be held by a minimum of 100 persons for at
least 335 days of a 12-month taxable year, or a proportionate part of a short
taxable year; and if the Company, or any entity which owns 10% or more of its
capital stock, actually or constructively owns 10% or more of one of the
Company's tenants, or a tenant of any partnership in which the Company is a
partner, then any rents that the Company receives from that tenant in question
will not be qualifying income for purposes of the Internal Revenue Code's REIT
gross income tests regardless of whether the Company receives the rents
directly or through a partnership.
The Company's charter establishes clear ownership limits to protect its REIT
status. No single stockholder may own, either actually or constructively, more
than 7.0% of the Company's common stock outstanding. Similarly, no single
holder of the Company's Series A Preferred Stock and Series C Preferred Stock
may actually or constructively own any class or series of its preferred stock,
so that their total capital stock ownership would exceed 7.0% by value of the
Company's total capital stock, and no single holder of Series B Preferred
Stock, if issued, may actually or constructively own more than 7.0% of the
Company's Series B Preferred Stock.
The Board of Directors may waive the ownership limits if it is satisfied
that the excess ownership would not jeopardize the Company's REIT status and
if it believes that the waiver would be in the Company's best interests. The
Board of Directors has already waived the ownership limits with respect to
John B. Kilroy, Sr., John B. Kilroy, Jr., members of their families and
certain affiliated entities. These named individuals and entities may own
either actually or constructively, in the aggregate, up to 19.6% of the
outstanding common stock.
If anyone acquires shares in excess of any ownership limits: the transfer to
the transferee will be void with respect to these excess shares; the excess
shares will be automatically transferred from the transferee or owner to a
trust for the benefit of a qualified charitable organization; the purported
transferee or owner will have no right to vote those excess shares; and the
purported transferee or owner will have no right to receive dividends or other
distributions from these excess shares.
The Company's charter contains provisions that may delay, defer, or prevent
a change of control transaction.
The Company's Board of Directors is divided into classes that serve
staggered terms. The Company's Board of Directors is divided into three
classes with staggered terms. The staggered terms for directors may reduce the
possibility of a tender offer or an attempt to complete a change of control
transaction even if a tender offer or a change in control was in the Company's
stockholders' interest.
The Company could issue preferred stock without stockholder approval. The
Company's charter authorizes its Board of Directors to issue up to 30,000,000
shares of preferred stock, including convertible preferred stock, without
stockholder approval. The board of directors may establish the preferences,
rights and other terms
9
including the right to vote and the right to convert into common stock of any
shares issued. The issuance of preferred stock could delay or prevent a tender
offer or a change of control even if a tender offer or a change of control was
in the Company's stockholders' interest. The Operating Partnership has issued
1,500,000 Series A Preferred Units which in the future may be exchanged one-
for-one into shares of Series A Preferred Stock, and 700,000 Series C
Preferred Units which in the future may be exchanged one for one into shares
of Series C Preferred Stock. In addition, the Company has designated and
authorized the issuance of up to 400,000 shares of Series B Preferred Stock.
However, no shares of preferred stock are currently issued or outstanding.
The Company has a stockholders' rights plan. On October 2, 1998, the
Company's Board of Directors adopted a stockholders' rights plan and declared
a distribution of one preferred share purchase right for each outstanding
share of common stock. The rights were issued on October 15, 1998, to each
common stockholder of record on that date. The rights have certain anti-
takeover effects. The rights would cause substantial dilution to a person or
group that attempts to acquire the Company on terms that the Company's Board
of Directors does not approve. The Company may redeem the shares for $.01 per
right, prior to the time that a person or group has acquired beneficial
ownership of 15% or more of its common stock. Therefore, the rights should not
interfere with any merger or business combination approved by the Company's
Board of Directors.
The staggered terms for directors, the future issuance of additional common
or preferred stock and the Company's stockholders; rights plan may: delay or
prevent a change of control, even if a change of control might be beneficial
to the Company's stockholders; deter tender offers that may beneficial to the
Company's stockholders; or limit stockholders' opportunity to receive a
potential premium for their shares if an investor attempted to gain shares
beyond the Company's ownership limits or otherwise to effect a change of
control.
Loss of the Company's REIT status would have significant adverse
consequences to it and the value of the Company's stock. The Company currently
operates and has operated since 1997 in a manner that is intended to allow it
to qualify as a REIT for federal income tax purposes under the Internal
Revenue Code. If the Company was to lose its REIT status, it would face
serious tax consequences that would substantially reduce the funds available
for distribution to stockholders for each of the years involved because: the
Company would not be allowed a deduction for distributions to stockholders in
computing its taxable income and would be subject to federal income tax at
regular corporate rates; the Company could be subject to the federal
alternative minimum tax and possibly increased state and local taxes; unless
entitled to relief under statutory provisions, the Company could not elect to
be subject to tax as a REIT for four taxable years following the year during
which it was disqualified; and all distributions to stockholders will be
subject to tax as ordinary income to the extent of the Company's current and
accumulated earnings and profits. In addition, if the Company fails to qualify
as a REIT, it will not be required to make distributions to stockholders. As a
result of all these factors, the Company's failure to qualify as a REIT also
could impair its ability to expand its business and raise capital, and would
adversely affect the value of the Company's common stock.
Qualification as a REIT involves the application of highly technical and
complex Internal Revenue Code provisions for which there are only limited
judicial and administrative interpretations. The complexity of these
provisions and of the applicable income tax regulations that have been
promulgated under the Internal Revenue Code ("Treasury Regulations") is
greater in the case of a REIT that holds its assets in partnership form. The
determination of various factual matters and circumstances not entirely within
the Company's control may affect it's ability to qualify as a REIT. For
example, in order to qualify as a REIT, at least 95% of the Company's gross
income in any year must be derived from qualifying sources. Also, the Company
must make distributions to stockholders aggregating annually at least 95% of
its net taxable income, excluding capital gains. In addition, legislation, new
regulations, administrative interpretations or court decisions may adversely
affect the Company's investors or the Company's ability to qualify as a REIT
for tax purposes. Although management believes that the Company is organized
and operates in such manner, no assurance can be given that the Company will
continue to be organized or be able to operate in a manner so as to qualify or
remain qualified as a REIT for tax purposes.
10
To maintain its REIT status, the Company may be forced to borrow funds on a
short-term basis during unfavorable market conditions. In order to maintain
its REIT status, the Company may need to borrow funds on a short-term basis to
meet the REIT distribution requirements even if the then prevailing market
conditions are not favorable for these borrowings. To qualify as a REIT, the
Company generally must distribute to its stockholders at least 95% of the
Company's net taxable income each year, excluding capital gains. In addition,
the Company will be subject to a 4% nondeductible excise tax on the amount, if
any, by which certain distributions paid in any calendar year are less than
the sum of 85% of it's ordinary income, 95% of it's capital gain net income
and 100% of it's undistributed income from prior years. These short-term
borrowing needs could result from differences in timing between the actual
receipt of income and inclusion of income for federal income tax purposes, or
the effect of non-deductible capital expenditures, the creation of reserves or
required debt or amortization payments.
The Company's growth depends on external sources of capital which are
outside of the Company's control. The Company is required under the Internal
Revenue Code to distribute at least 95% of its taxable income, determined
without regard to the dividends-paid deduction and excluding any net capital
gain. Because of this distribution requirement, it may not be able to fund
future capital needs, including acquisition financing, from operating cash
flow. Consequently, management relies on third-party sources of capital to
fund the Company's capital needs. Access to third-party sources of capital
depends, in part, on: general market conditions; the market's perception of
the Company's growth potential; the Company's current and expected future
earnings; the Company's cash distributions; and the market price per share of
the Company's common stock. If the Company cannot obtain capital from third-
party sources, it may not be able to acquire properties when strategic
opportunities exist or make the cash distributions to stockholders necessary
to maintain its qualification as a REIT.
The Company's Board of Directors may change investment and financing
policies without stockholder approval.
The Company is not limited in its ability to incur debt. The Company's Board
of Directors adopted a policy of limiting indebtedness to approximately 50% of
the Company's total market capitalization. Total market capitalization is the
market value of the Company's capital stock, including interests exchangeable
for shares of capital stock (including units), plus total debt. However, the
Company's organizational documents do not limit the amount or percentage of
indebtedness, funded or otherwise, that it may incur. The Company's Board of
Directors may alter or eliminate management's current policy on borrowing at
any time without stockholder approval. If this policy changed, the Company
could become more highly leveraged which would result in an increase in its
debt service and which could adversely affect cash flow and the ability to
make expected distributions to stockholders. Higher leverage also increases
the risk of default on the Company's obligations.
The Company may issue additional shares of capital stock without stockholder
approval. The Company may issue shares of its common stock, preferred stock or
other equity or debt securities without stockholder approval. Similarly, the
Company may cause the Operating Partnership to offer its common or preferred
units for contributions of cash or property without approval by the limited
partners of the Operating Partnership or the Company's stockholders. Existing
stockholders have no preemptive rights to acquire any of these securities, and
any issuance of equity securities under these circumstances would dilute an
existing stockholder's investment.
The Company may invest in securities related to real estate. The Company may
purchase securities issued by entities which own real estate and may, in the
future, also invest in mortgages. In general, investments in mortgages include
several risks, including: borrowers may fail to make debt service payments or
pay the principal when due; the value of the mortgaged property may be less
than the principal amount of the mortgage note securing the property; and
interest rates payable on the mortgages may be lower than the Company's cost
for the funds used to acquire these mortgages. Owning these securities may not
entitle the Company to control the ownership, operation and management of the
underlying real estate. In addition, the Company may have no control over the
distributions with respect to such securities, which could adversely affect
its ability to make distributions to stockholders.
11
Sales of a substantial number of shares of common stock, or the perception
that this could occur, could result in decreasing the market price per share
for the Company's common stock. Management cannot predict whether future
issuances of shares of the Company's common stock or the availability of
shares for resale in the open market will result in decreasing the market
price per share of its common stock.
As of December 31, 1998, 27,639,210 shares of the Company's common stock
were issued and outstanding and the Company had reserved for future issuance
the following shares of common stock: 4,200,868 shares issuable upon the
exchange, at the Company's option, of common units issued in connection with
the formation of the Operating Partnership and in connection with property
acquisitions; 2,900,000 shares issuable under the Company's Stock Option and
Incentive Plan, and 1,000,000 shares issuable under the Company's Dividend
Reinvestment and Direct Stock Purchase Plan. Of the 27,639,210 shares of
common stock presently outstanding, all but 80,000 shares may be freely traded
in the public market by persons other than the Company's affiliates. In
addition, the Company has filed or has agreed to file registration statements
covering all of the shares of common stock reserved for future issuance.
Consequently, if and when the shares are issued, they may be freely traded in
the public markets.
The Company could be adversely affected if its year 2000 problems are
significant. The Year 2000 issue refers to a computer system's failure to
recognize dates on or beyond January 1, 2000. The failure of the Company's
systems or those of its vendors or tenants to correctly interpret dates beyond
the year 1999 could lead to disruptions in the Company's operations (see
Item 7: Management's Discussion and Analysis of Financial Condition and
Results of Operations for the Company's expanded Year 2000 disclosure).
12
ITEM 2. PROPERTIES
General
As of December 31, 1998, the Company owned (through the Operating and
Finance Partnerships) 80 Office Properties encompassing 5.6 million aggregate
rentable square feet and 84 Industrial Properties encompassing 6.2 million
aggregate rentable square feet. As of December 31, 1998, the Office Properties
were approximately 95.7% leased to 420 tenants and the Industrial Properties
were approximately 96.0% leased to 253 tenants. In addition, as of December
31, 1998, the Company had approximately 544,000 square feet of office space
and 390,000 square feet of industrial space under construction. All of the
Company's construction projects and all but 15 of the Company's Properties are
located in Southern California.
In general, the Office Properties are leased to tenants on a full service
gross basis and the Industrial Properties are leased to tenants on a triple
net basis. Under a full service lease, the landlord is obligated to pay the
tenant's proportionate share of taxes, insurance and operating expenses up to
the amount incurred during the tenant's first year of occupancy ("Base Year")
or a negotiated amount approximating the tenant's pro rata share of real
estate taxes, insurance and operating expenses ("Expense Stop"). The tenant
pays its pro-rata share of increases in expenses above the Base Year or
Expense Stop. Under a triple net lease, tenants pay their proportionate share
of real estate taxes, operating costs and utility costs.
The Company believes that all of its Properties are well maintained and,
based on recent engineering reports, do not require significant capital
improvements. As of December 31, 1998, the Company managed 75 of its 80 Office
Properties and 77 of its 84 Industrial Properties through internal property
managers.
13
The Office and Industrial Properties
The following table sets forth certain information relating to each of the
Office and Industrial Properties owned as of December 31, 1998. The Company
(through the Operating Partnership and the Finance Partnership) owns a 100%
interest in all of the Office and Industrial Properties other than Walnut Park
Business Center, in which the Company owns an 87.7% interest as a tenant in
common, and the five office properties located at Kilroy Airport Center, Long
Beach, three office properties located at the SeaTac Office Center, one office
property located in Santa Monica, California and one office property located
in San Diego, California, each of which are held subject to leases for the
land on which the properties are located expiring in 2035, 2032, 2065 and 2043
(assuming the exercise of the Company's options to extend such leases),
respectively.
Year Net Percentage Annual Average
No. of Built/ Rentable Leased at Base Rent Base Rent
Property Location Buildings Renovated Square Feet 12/31/98(1) ($000's)(2) Per Sq. Ft. ($)(3)
----------------- --------- --------- ----------- ----------- ----------- ------------------
Office Properties:
Los Angeles County
26541 Agoura Road
Calabasas, California.. 1 1988 90,878 100.0% $1,593 $17.53
5151-5155 Camino Ruiz
Camarillo,
California(7)(4)...... 4 1982 276,216 100.0% 2,695 9.76
4880 Santa Rosa Road
Camarillo,
California(7)......... 1 1998 41,131 100.0% 725 17.63
Kilroy Airport Center,
El Segundo
2250 E. Imperial
Highway(5) 1 1983 291,187 97.6% 5,276 18.56
2260 E. Imperial
Highway(6) 1 1983 291,187 100.0% 7,677 26.36
2240 E. Imperial
Highway
El Segundo,
California(8)......... 1 1983 118,933 100.0% 1,584 13.32
185 S. Douglas Street
El Segundo,
California(7)......... 1 1978 60,000 100.0% 1,523 25.38
525 N. Brand Blvd.
Glendale, California... 1 1990 43,647 100.0% 1,254 28.73
Kilroy Airport Center,
Long Beach
3900 Kilroy Airport Way 1 1987 126,840 92.7% 2,488 21.16
3880 Kilroy Airport Way 1 1987 98,243 100.0% 1,392 14.17
3760 Kilroy Airport Way 1 1989 165,279 100.0% 3,443 20.83
3780 Kilroy Airport Way 1 1989 219,745 94.7% 4,712 22.64
3760 Kilroy Airport Way
Long Beach, California. 1 1989 10,592 100.0% 60 5.66
12312 W. Olympic Blvd.
Los Angeles,
California(7)......... 1 1950/1998 78,000 100.0% 1,602 20.54
12100-12166 West Olympic
Blvd.
Los Angeles,
California............ 1 1968 48,356 94.5% 684 14.97
2100 Colorado Avenue
Santa Monica,
California(7)......... 3 1992 94,844 100.0% 2,814 29.67
1633 26th Street
Santa Monica,
California(7)......... 1 1972/1997 43,800 100.0% 842 19.22
3130 Wilshire Blvd.
Santa Monica,
California(28)........ 1 1969/1998 88,338 69.1% 1,455 23.84
501 Santa Monica Blvd.
Santa Monica,
California............ 1 1974 70,000 85.5% 1,494 24.96
2829 Townsgate Road
Thousand Oaks,
California............ 1 1990 81,158 100.0% 2,299 28.33
23600-23610 Telo Avenue
Torrance,
California(9)......... 2 1984 79,967 51.9% 428 10.31
--- --------- ------
Subtotal/Weighted
Average--
Los Angeles County..... 27 2,418,339 95.6% 46,040 19.91
--- --------- ------
14
Year Net Percentage Annual Average
No. of Built/ Rentable Leased at Base Rent Base Rent
Property Location Buildings Renovated Square Feet 12/31/98(1) ($000's)(2) Per Sq. Ft. ($)(3)
----------------- --------- --------- ----------- ----------- ----------- ------------------
Orange County
Pacific Park Plaza
Aliso Viejo,
California(10)........ 5 1992 134,667 95.3% $ 1,269 $ 9.89
La Palma Business Center
4175 E. La Palma Avenue
Anaheim, California.... 1 1985 42,790 96.6% 838 20.27
701-741 E. Ball Road
Anaheim, California.... 5 1986 113,735 92.2% 1,180 11.25
8101 Kaiser Blvd.
Anaheim, California.... 1 1988 60,177 100.0% 1,288 21.40
Anaheim Corporate Center
Anaheim,
California(11)........ 4 1985 154,776 96.4% 1,394 9.34
1240 & 1250 Lakeview
Avenue
Anaheim, California.... 2 1987 78,903 93.4% 892 12.10
601 Valencia Avenue
Brea, California(7).... 1 1982 60,891 100.0% 780 12.81
1501-1561 East
Orangethorpe Avenue
Fullerton,
California(12)........ 4 1985 145,522 90.2% 1,462 11.14
111 Pacifica
Irvine, California..... 1 1991 67,344 96.2% 1,405 21.69
9451 Toledo Way
Irvine, California(7).. 1 1984 27,200 0.0%
2501 Pullman
Santa Ana,
California(13)(28).... 2 1969/1988 124,921 100.0% 2,366 18.94
--- --------- -------
Subtotal/Weighted
Average--
Orange County.......... 27 1,010,926 92.9% 12,874 13.71
--- --------- -------
San Diego County
5770 Armada Drive
Carlsbad,
California(7)......... 1 1998 81,712 100.0% 1,071 13.11
2231 Rutherford
Carlsbad, California... 1 1998 39,000 100.0% 587 15.05
6220 Greenwich Drive
San Diego,
California(7)......... 1 1996 141,214 100.0% 2,076 14.70
6055 Lusk Avenue
San Diego,
California(7)......... 1 1997 93,000 100.0% 1,142 12.28
6260 Sequence Drive
San Diego,
California(7)......... 1 1997 130,000 100.0% 1,192 9.17
6290 Sequence Drive
San Diego,
California(7)......... 1 1997 90,000 100.0% 894 9.93
6340 & 6350 Sequence
Drive
San Diego,
California(7)......... 2 1998 200,000 100.0% 2,616 13.08
15378 Avenue of Science
San Diego,
California(7)......... 1 1984 68,910 100.0% 620 9.00
Pacific Corporate Center
San Diego,
California(14)........ 7 1995 411,402 100.0% 5,238 12.73
3990 Ruffin Road
San Diego, California.. 1 1998 45,634 100.0% 660 14.46
9455 Towne Center Drive
San Diego,
California(7)......... 1 1998 45,195 100.0% 569 12.59
12225-12235 El Camino
Real
San Diego,
California(15)........ 2 1998 115,513 100.0% 2,122 18.37
--- --------- -------
Subtotal/Weighted
Average--
San Diego County....... 20 1,461,580 100.0% 18,787 12.85
--- --------- -------
15
Year Net Percentage Annual Average
No. of Built/ Rentable Leased at Base Rent Base Rent
Property Location Buildings Renovated Square Feet 12/31/98(1) ($000's)(2) Per Sq. Ft. ($)(3)
----------------- --------- --------- ----------- ----------- ----------- ------------------
Other
4351 Latham Avenue
Riverside, California.. 1 1990 21,356 50.7% $ 328 $30.29
4361 Latham Avenue
Riverside,
California(16)........ 1 1992 30,842 88.4% 514 18.85
3750 University Avenue
Riverside, California.. 1 1982 124,986 100.0% 2,709 21.67
SeaTac Office Center
18000 Pacific Highway 1 1974 209,904 86.4% 2,826 15.58
17930 Pacific Highway 1 1980/1997 211,139 100.0% 2,172 10.29
17900 Pacific Highway
Seattle, Washington..... 1 1980 111,387 81.9% 1,679 18.40
--- --------- -------
Subtotal/Weighted
Average--Other......... 6 709,614 91.1% 10,228 15.82
--- --------- -------
TOTAL/WEIGHTED AVERAGE
OFFICE PROPERTIES...... 80 5,600,459 95.7% $87,929 $16.41
--- --------- -------
Industrial Properties:
Los Angeles County
Walnut Park Business
Center
Diamond Bar,
California............ 3 1987 165,420 100.0% $ 1,180 $ 7.14
2031 E. Mariposa Avenue
El Segundo, California. 1 1954 192,053 100.0% 1,840 9.58
2260 E. El Segundo Blvd.
El Segundo, California. 1 1979 113,820 100.0% 607 5.33
2265 E. El Segundo Blvd.
El Segundo, California. 1 1978 76,570 100.0% 607 7.93
2270 E. El Segundo Blvd.
El Segundo,
California(17)........ 1 1975 6,362 0.0%
4880 Colt Street
Ventura, California.... 1 1997 125,511 100.0% 564 4.49
--- --------- -------
Subtotal/Weighted
Average--
Los Angeles County..... 8 679,736 99.0% 4,798 7.13
--- --------- -------
Orange County
3340 E. La Palma Avenue
Anaheim, California.... 1 1966 153,320 100.0% 1,084 7.07
1000 E. Ball Road
Anaheim, California.... 1 1956 100,000 100.0% 639 6.39
1230 S. Lewis Road
Anaheim, California.... 1 1982 57,730 100.0% 291 5.04
4155 E. La Palma Avenue
Anaheim,
California(18)........ 1 1985 74,618 87.8% 515 7.86
4125 E. La Palma Avenue
Anaheim,
California(18)........ 1 1985 69,472 100.0% 517 7.44
5325 East Hunter Avenue
Anaheim, California.... 1 1983 109,449 100.0% 604 5.52
3130-3150 Miraloma
Anaheim, California.... 1 1970 144,000 100.0% 677 4.70
3125 E. Coronado Street
Anaheim, California.... 1 1970 144,000 100.0% 841 5.84
5115 E. La Palma Avenue
Anaheim, California(7). 1 1967/1998 291,146 100.0% 1,442 4.95
1250 N. Tustin Avenue
Anaheim, California.... 1 1984 84,185 100.0% 746 8.86
16
Year Net Percentage Annual Average
No. of Built/ Rentable Leased at Base Rent Base Rent
Property Location Buildings Renovated Square Feet 12/31/98(1) ($000's)(2) Per Sq. Ft. ($)(3)
----------------- --------- --------- ----------- ----------- ----------- ------------------
3250 East Carpenter
Anaheim, California.... 1 1998 41,225 100.0% $ 242 $ 5.87
Brea Industrial Complex
Brea, California(19)... 7 1981 276,278 100.0% 1,584 5.73
1675 MacArthur
Costa Mesa, California. 1 1986 50,842 100.0% 512 10.07
892/909 Towne Center
Drive
Foothill Ranch,
California............ 1 1998 303,327 100.0% 2,090 6.89
12681/12691 Pala Drive
Garden Grove,
California(20)........ 1 1970 84,700 44.9% 301 7.91
Garden Grove Industrial
Complex
Garden Grove,
California(21)........ 6 1971 275,971 100.0% 1,678 6.08
12752-12822 Monarch
Street
Garden Grove,
California(16)........ 1 1970 277,037 100.0% 1,005 3.63
7421 Orangewood Avenue
Garden Grove,
California............ 1 1981 82,602 100.0% 575 6.96
12400 Industry Street
Garden Grove,
California............ 1 1972 64,200 100.0% 328 5.11
Giltspur Building
Garden Grove,
California............ 1 1974 110,220 100.0% 777 7.05
Gothard Business Park
Huntington Beach,
California(22)........ 3 1977 56,638 89.8% 410 8.06
17150 Von Karman
Irvine, California..... 1 1977 157,458 100.0% 1,136 7.21
184-220 Technology Drive
Irvine, California..... 10 1990 158,070 84.0% 1,202 9.05
9401 Toledo Way
Irvine, California..... 1 1984 244,800 100.0% 1,363 5.57
2055 S.E. Main Street
Irvine, California(23). 1 1973 47,583 100.0% 305 6.41
13645-13885 Alton
Parkway
Anaheim,
California(24)........ 9 1989 143,117 87.4% 1,093 8.74
Dimension Business Park
Lake Forest,
California(25)........ 2 1990 45,257 100.0% 375 10.04
1951 E. Carnegie
Santa Ana, California.. 1 1981 100,000 100.0% 795 7.95
14831 Franklin Avenue
Tustin, California(23). 1 1978 36,256 100.0% 206 5.68
2911 Dow Avenue
Tustin, California..... 1 1998 54,720 100.0% 361 6.60
--- --------- -------
Subtotal/Weighted
Average--
Orange County.......... 59 3,838,221 95.4% 23,694 6.47
--- --------- -------
San Diego County
5759 Fleet Street
Carlsbad, California... 1 1998 82,100 100.0% 1,234 15.03
6828 Nancy Ridge Drive
San Diego, California.. 1 1982 39,669 100.0% 385 9.71
41093 County Center
Drive
Temecula, California... 1 1997 77,582 100.0% 542 6.99
--- --------- -------
Subtotal/Weighted
Average--
San Diego County....... 3 199,351 100.0% 2,161 10.84
--- --------- -------
17
Year Net Percentage Annual Average
No. of Built/ Rentable Leased at Base Rent Base Rent
Property Location Buildings Renovated Square Feet 12/31/98(1) ($000's)(2) Per Sq. Ft. ($)(3)
----------------- --------- --------- ----------- ----------- ----------- ------------------
Other
1840 Aerojet Way
Las Vegas, Nevada...... 1 1993 102,948 100.0% $ 501 $ 4.87
1900 Aerojet Way
Las Vegas, Nevada...... 1 1995 106,717 100.0% 459 4.30
821 S. Rockefeller
Ontario, California.... 1 1990 153,566 100.0% 479 3.12
5115 N. 27th Avenue
Phoenix, Arizona(26)... 1 1962 130,877 100.0% 642 4.91
795 Trademark Drive
Reno, Nevada........... 1 1998 75,257 100.0% 809 10.75
201 North Sunrise Avenue
Roseville,
California(27)(28).... 2 1981 162,203 100.0% 1,603 9.88
1961 Concourse Drive
San Jose,
California(28)........ 1 1984 110,132 100.0% 978 8.88
1710 Fortune Drive
San Jose,
California(28)........ 1 1983 86,000 100.0% 623 7.24
2010-2040 Fortune Drive
San Jose,
California(28)........ 3 1998 234,317 74.9% 2,227 12.69
3735 Imperial Highway
Stockton, California... 1 1996 164,540 100.0% 1,180 7.17
--- ---------- --------
Subtotal/Weighted
Average--Other......... 13 1,326,557 95.6% 9,501 7.49
--- ---------- --------
TOTAL/WEIGHTED AVERAGE
INDUSTRIAL
PROPERTIES(29)......... 83 6,043,859 96.0% $ 40,154 $ 6.92
--- ---------- --------
TOTAL/WEIGHTED AVERAGE
ALL PROPERTIES(29)..... 163 11,644,318 95.9% $128,083 $11.47
=== ========== ========
- --------
(1) Based on all leases at the respective properties in effect as of December
31, 1998.
(2) Base rent for the year ended December 31, 1998, determined in accordance
with generally accepted accounting principles ("GAAP") and annualized to
reflect a twelve-month period. Unless otherwise indicated, leases at the
Industrial Properties are written on a triple net basis and leases at the
Office Properties are written on a full service gross basis, with the
landlord obligated to pay the tenant's proportionate share of taxes,
insurance and operating expenses up to the amount incurred during the
tenant's first year of occupancy ("Base Year") or a negotiated amount
approximating the tenant's pro rata share of real estate taxes, insurance
and operating expenses ("Expense Stop"). Each tenant pays its pro rata
share of increases in expenses above the Base Year of Expense Stop.
(3) Annual Base Rent divided by net rentable square feet leased at December
31, 1998.
(4) The four properties at 5151-5155 Camino Ruiz were built between 1982 and
1985.
(5) For this property, a lease with Hughes Space & Communications for
approximately 96,000 rentable square feet, and with SDRC Software
Products Marketing Division, Inc. for approximately 6,800 rentable square
feet, are written on a full service gross basis except that there is no
Expense Stop.
(6) For this property, the lease with Hughes Space & Communications is
written on a modified full service gross basis under which Hughes Space &
Communications pays for all utilities and other internal maintenance
costs with respect to the leased space and, in addition, pays its pro
rata share of real estate taxes, insurance, and certain other expenses
including common area expenses.
(7) For this property, the lease is written on a triple net basis.
(8) For this property, leases with Hughes Space & Communications for
approximately 103,000 rentable square feet are written on a full service
gross basis except that there is no Expense Stop.
(9) For this property, the lease is written on a modified gross basis, with
the tenant paying its share of taxes and insurance above base year
amounts.
(footnotes continued on next page)
18
(10) For this property, leases for approximately 65,000 rentable square feet
are written on a full service basis, with the tenants paying no expense
reimbursement, leases for approximately 38,000 rentable square feet are
written on a modified full service gross basis, and leases for
approximately 29,000 rentable square feet are written on a triple net
basis.
(11) For this property, leases for approximately 70,500 rentable square feet
are written on a full service basis, with the tenants paying no expense
reimbursement, leases for approximately 48,500 rentable square feet are
written on a modified full service gross basis, and leases for
approximately 21,000 rentable square feet are written on a triple net
basis.
(12) For this property, a lease for approximately 21,000 rentable square feet
is written on a modified full service grass basis, and leases for
approximately 11,000 rentable square feet are written on a triple net
basis.
(13) For this property, the lease is written on a full service basis, with the
tenant paying only its portion of real estate taxes above the base year
amount.
(14) The leases for this property are written on a modified net basis, with
the tenants responsible for their pro-rata share of common area expenses
and real estate taxes.
(15) For this property, a lease for 60,840 rentable square feet is written on
a triple net basis.
(16) For this property, a lease for 15,728 rentable square feet is written on
a triple net basis, and leases for 15,156 rentable square feet are
written on a modified full service gross basis.
(17) This property was 100% leased to one tenant in February 1999 with annual
base rent of $0.1 million.
(18) The leases for this industrial property are written on a modified triple
net basis, with the tenants responsible for estimated allocated common
area expenses.
(19) The seven properties at the Brea Industrial Complex were built between
1981 and 1988.
(20) For this property, a lease for 14,700 rentable square feet commenced in
February 1999 with annual base rent of $0.1 million resulting in total
occupancy as of March 10, 1999 of 62.0%.
(21) The six properties at the Garden Grove Industrial Complex were built
between 1971 and 1985.
(22) For this property, leases for approximately 38,000 rentable square feet
are written on a modified full service gross basis, and leases for
approximately 12,000 rentable square feet are written on a full service
basis, with the tenants paying no expense reimbursement.
(23) For this property, the lease is written on a full service gross basis.
(24) For this property, leases for approximately 53,000 rentable square feet
are written on a full service gross basis, with the tenants paying no
expense reimbursement, leases for approximately 53,000 rentable square
feet are written on a modified triple net basis with the tenants
responsible for estimated allocated common area expenses.
(25) For this property, leases for approximately 26,000 rentable square feet
are written on a full service basis, with the tenants paying no expense
reimbursement, and leases for approximately 19,000 rentable square feet
are written on a modified full service gross basis.
(26) This industrial property was originally designed for multi-tenant use and
currently is leased to a single tenant and utilized as an indoor multi-
vendor retail marketplace.
(27) For this property, leases for approximately 115,500 rentable square feet
are written on a triple net basis and, leases for approximately 46,500
rentable square feet are written on a full service basis, with the
tenants paying no expense reimbursement.
(28) This property was managed by third-party managers at December 31, 1998.
(29) This table does not include one industrial property with an aggregate
113,248 rentable square feet which was occupied at December 31, 1998.
This property is part of a three building complex that was constructed by
the Company. As substantial tenant improvements still needed to be
completed at December 31, 1998, the complex is included in construction
in progress at December 31, 1998.
19
Development Projects
The following table sets forth certain information as of December 31, 1998,
relating to each of the Company's Development Projects which were either in
the lease-up phase (construction was complete except for tenant improvements),
under construction or scheduled to begin construction in the first quarter of
1999. The Company owns a 100% interest in all of the Development Projects
other than 5010 Wateridge Vista Drive and Carmel Center Building 1, in which
the Company will own a 50% interest.
Projected Projected Projected Square Leasing Status at
Stabilization Total Feet upon December 31,
Project Location/Submarket Date(1) Investment(2) Completion 1998(3)
- -------------------------- ---------------- ------------- ---------------- -----------------
(dollars in
millions)
Development Projects in
Lease-up:
Industrial
1211-1231 North Miller
Street/
Orange County............ 3rd Quarter 1999 $ 20.8 379,300 82.0%
------ -------
Total Development
Projects in Lease-up... $ 20.8 379,300 82.0%
====== =======
Development Projects Under
Construction:
Office
6215 Greenwich Drive/San
Diego.................... 2nd Quarter 1999 $ 8.7 71,000 100.0%
12348 High Bluff Drive/San
Diego.................... 3rd Quarter 1999 6.1 39,300 80.9%
5010 Wateridge Vista
Drive/San Diego(4)....... 4th Quarter 1999 29.0 172,800 100.0%
Kilroy Airport Center,
Long Beach Phase III/
Los Angeles.............. 1st Quarter 2000 22.6 136,000 38.8%
Del Mar Build-to-Suit/San
Diego.................... 1st Quarter 2000 15.4 72,300 100.0%
Carmel Center Building
1/San Diego(4)........... 3rd Quarter 2000 10.2 52,900 0.0%
------ -------
Subtotal................ 92.0 544,300 73.6%
------ -------
Industrial
3355 E. La Palma
Avenue/Orange County..... 3rd Quarter 1999 14.9 211,400 100.0%
440, 925 and 1075 Lambert
Road/
Orange County............ 3rd Quarter 1999 10.9 178,500 29.0%
------ -------
Subtotal................ 25.8 389,900 67.5%
------ -------
Total Development
Projects Under
Construction........... $117.8 934,200 71.0%
====== =======
- --------
(1) Based on management's estimation of the earlier of stabilized occupancy
(95.0%) or one year from the date of substantial completion.
(2) Represents total projected development costs.
(3) Represents executed leases and signed letters of intent to lease at
December 31, 1998.
(4) Represents projects being developed in conjunction with The Allen Group, a
group of affiliated real estate and development companies based in
Visalia, California. See separate discussion in Item 7: Management's
Discussion and Analysis of Financial Condition and Results of Operations--
Capital Expenditures Section for further discussion.
20
Tenant Information
The following table sets forth information as to the Company's ten largest
office and industrial tenants based upon annualized rental revenues for the
year ended December 31, 1998.
Percentage of
Annual Total Base Lease
Base Rental Rental Initial Lease Expiration
Tenant Name Revenues(1) Revenues Date(2) Date
- ----------- ----------- ------------- -------------- --------------
(dollars in
thousands)
Office Properties:
Hughes Aircraft
Corporation's Space &
Communications
Company(3)............. $ 9,183 7.4% August 1984 Various
The Boeing Company(4)... 5,160 4.2 February 1992 Various
State of California(5).. 3,216 2.6 July 1997 Various
Sony Music
Entertainment, Inc. ... 2,814 2.3 June 1997 December 2008
Unisys Corporation...... 2,655 2.1 March 1997 April 2001
Northwest Airlines:
El Segundo............ 1,523 1.2 August 1978 February 2001
Seattle............... 718 0.6 May 1980 April 2005
Pacific Bell............ 1,994 1.6 December 1998 February 2009
Intuit, Inc. ........... 1,968 1.6 November 1997 June 2004
Raytheon Company(6)..... 1,651 1.3 April 1996 Various
National Digital
Television............. 1,602 1.3 July 1998 July 2008
------- ----
Total Office Properties. $32,484 26.2%
======= ====
Industrial Properties:
Mattel, Inc. ........... $ 2,138 1.7% May 1990 October 2000
Celestica, Inc. ........ 1,530 1.2 May 1998 May 2008
Kraft Foods, Inc. ...... 1,449 1.2 November 1997 February 2006
Omni-Pak................ 1,443 1.2 August 1998 July 2008
Mazda Motor of America,
Inc. .................. 1,365 1.1 July 1997 July 2000
Industrial Computer
Source................. 1,192 1.0 November 1997 July 2005
Packard Hughes
Interconnect and
General Motors
Corporation............ 1,062 0.9 May 1997 January 2001
Extron Electronic(7).... 930 0.8 February 1995 Various
Southern Plastic Mold,
Inc. .................. 774 0.6 September 1997 September 2003
Raab Karcher
Electronics............ 687 0.6 February 1998 January 2013
------- ----
Total Industrial
Properties............. $12,570 10.2%
======= ====
- --------
(1) Determined in accordance with GAAP.
(2) Represents date of first relationship between tenant and the Company or
the Company's predecessor, the Kilroy Group.
(3) Hughes Space & Communications leases of 291,187 and 103,035 net rentable
square feet expire July 2004 and January 2004, respectively. Leases with
other Hughes-affiliated entities of 7,515, 5,559 and 5,158 net rentable
square feet expire November 2001, December 1999 and November 1999,
respectively.
(4) The Boeing Company lease at SeaTac Office Center expires January 2002. The
Boeing Company (formerly McDonnell Douglas Corporation) leases at Kilroy
Airport Center Long Beach of 64,530, 24,536 and 17,921 net rentable square
feet expire January 2002, December 2000 and December 1999, respectively.
(5) State of California leases of 124,921, 22,543, 21,781 and 11,425 net
rentable square feet expire April 1999, December 2002, May 2009 and August
2000, respectively.
(6) Raytheon Company (formerly Hughes Aircraft Company) leases of 96,133 and
11,556 net rentable square feet expire October 2000, and a lease of 9,387
net rentable square feet expires January 2002.
(7) Extron Electronics leases of 100,000 and 57,730 net rentable square feet
expire April 2005, and January 2005, respectively.
21
At December 31, 1998, the Company's tenant base was comprised of the
following industries, broken down by percentage of total portfolio base rent:
manufacturing, 40.5%; services, 21.7%; transportation, communications and
public utilities, 14.1%; finance, insurance and real estate, 11.0%; retail
trade, 4.4%; government, 4.1%; wholesale trade, 3.0%; construction, 1.1%; and
agriculture, forestry and fishing, 0.1%. Following is a list comprised of a
representative sample of 25 of the Company's tenants whose annual base rental
revenues were less than 1.0% of the Company's total annual base revenue at
December 31, 1998:
AMN Healthcare, Inc. Denso International America Pacific Engineering Services
Advanced Survey Concepts EVA Airways Corporation Salem Communications
AIG Claim Services, Inc. Family and Sport Chiropractic Sentinel Monitoring Corp
Arrowhead General Insurance Horizon's Technology, Inc. Southern Plastic Mold
Arinc, Inc. Liner Yankelevitz Sunshine Sox Hosiery
Best, Best & Krieger Lynden Air Freight, Inc. Staar Surgical AG, Inc.
Bits Technology Corporation Miller and Company Sverdrup Civil, Inc
Catalina Marketing Corp. Paper Solutions Ink The Polk Company
ThermoTrex Corporation
Lease Expirations
The following table sets forth a summary of the Company's lease expirations
for the Office and Industrial Properties for each of the ten years beginning
with 1999, assuming that none of the tenants exercise renewal options or
termination rights.
Average Annual
Percentage of Rent Per Net
Total Leased Rentable
Net Rentable Square Feet Square Foot
Number of Area Subject to Represented Annual Base Rent Represented by
Expiring Expiring by Expiring Under Expiring Expiring
Year of Lease Expiration Leases(1) Leases (Sq. Ft.) Leases(2) Leases (000's)(3) Leases
- ------------------------ --------- ---------------- ------------- ----------------- --------------
Office Properties:
1999.................... 125 925,552 16.5% $12,019 $12.99
2000.................... 77 361,580 6.4 6,137 16.97
2001.................... 77 1,022,774 18.2 11,631 11.37
2002.................... 40 510,389 9.1 6,485 12.71
2003.................... 35 218,541 3.9 3,161 14.46
2004.................... 23 675,469 12.0 14,567 21.57
2005.................... 19 668,935 11.9 9,322 13.94
2006.................... 8 299,502 5.3 4,879 16.29
2007.................... 8 298,989 5.3 4,828 16.15
2008 and beyond......... 14 641,497 11.4 14,230 22.18
--- --------- ----- -------
Total................... 426 5,623,228 100.0% $87,259 $15.52
=== ========= ===== =======
Industrial Properties:
1999.................... 84 613,841 10.1% $ 3,905 $ 6.36
2000.................... 66 933,399 15.3 4,482 4.80
2001.................... 42 1,033,741 16.9 5,020 4.86
2002.................... 6 176,860 2.9 1,575 8.91
2003.................... 23 724,853 11.9 4,349 6.00
2004.................... 7 426,318 7.0 2,747 6.44
2005.................... 6 327,757 5.4 2,394 7.30
2006.................... 6 534,900 8.8 3,518 6.58
2007.................... 2 135,885 2.2 1,081 7.96
2008 and beyond......... 13 1,197,250 19.6 8,718 7.28
--- --------- ----- -------
Total................. 255 6,104,804 100.0% $37,789 $ 6.19
=== ========= ===== =======
(footnotes continued on next page)
22
- --------
(1) Includes tenants only. Excludes leases for amenity, retail, parking and
month-to-month tenants. Some tenants have multiple leases.
(2) Based on total leased square footage for the respective portfolios as of
December 31, 1998 unless a lease for a replacement tenant had been
executed on or before January 1, 1999.
(3) Determined based upon aggregate base rent to be received over the term
divided by the term in months multiplied by 12, including all leases
executed on or before January 1, 1999.
Mortgage Debt
On December 31, 1998, the Operating Partnership had outstanding five
mortgage loans representing aggregate indebtedness of approximately $133
million which were secured by certain of the Office and Industrial Properties
(the "Secured Obligations"). See "Management's Discussion and Analysis of
Financial Condition and Results of Operations--Liquidity and Capital
Resources" and Note 6 to the Company's combined and consolidated financial
statements included herewith. Management believes that as of December 31,
1998, the value of the properties securing the respective Secured Obligations
in each case exceeded the principal amount of the outstanding obligation.
ITEM 3. LEGAL PROCEEDINGS
Neither the Company nor any of the Company's Properties are subject to any
litigation nor, to the Company's knowledge, is any litigation threatened
against any of them which if determined adversely to the Company would have a
material adverse effect on the Company's financial condition or results of
operations. The Company is party to litigation arising in the ordinary course
of business, all of which is expected to be covered by liability insurance.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of stockholders during the fourth
quarter of the year ended December 31, 1998.
23
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Company's common stock began trading on the New York Stock Exchange
("NYSE") on January 28, 1997, under the symbol "KRC." Prior to January 28,
1997, there was no established public trading market for the Company's common
stock. The following table illustrates the high, low and closing prices by
quarter in 1998 and 1997, as reported on the NYSE. On March 10, 1999, there
were approximately 235 registered holders of the Company's common stock.
Common
Stock
Dividends
1998 High Low Close Declared
---- ------ ------ ------ ---------
First quarter............................... $29.25 $26.31 $28.56 $0.4050
Second quarter.............................. 28.31 24.69 25.00 0.4050
Third quarter............................... 25.56 19.00 23.00 0.4050
Fourth quarter.............................. 23.38 19.50 23.00 0.4050
Common
Stock
Dividends
1997 High Low Close Declared
---- ------ ------ ------ ---------
January 28 to March 31...................... $28.13 $23.00 $26.63 $0.2583
Second quarter.............................. 26.63 23.13 25.25 0.3875
Third quarter............................... 27.00 24.00 27.00 0.3875
Fourth quarter.............................. 28.88 25.75 28.75 0.3875
The Company pays distributions to common stockholders on or about the 10th
day of each January, April, July and October at the discretion of the Board of
Directors. Distribution amounts depend on the Company's funds from operations,
financial condition and capital requirements, the annual distribution
requirements under the REIT provisions of the Internal Revenue Code of 1986,
as amended (the "Code"), and such other factors as the Board of Directors
deems relevant.
During the first and fourth quarters of fiscal year 1998, the Operating
Partnership issued 703,869 common units of the Operating Partnership, valued
by the Company at approximately $18.1 million (based on the Company's closing
price per share of common stock on the NYSE), to entities controlled by
Richard S. Allen, a member of the Company's Board of Directors at December 31,
1998, in partial consideration for the contribution of certain properties to
the Operating Partnership. An Executive Vice President of the Company received
303,316 of the total 703,869 common units. The common units become convertible
into shares of the Company's common stock, on a one-for-one basis, one year
after issuance date. The common units were issued in reliance upon an
exemption from registration provided by Regulation D under the Securities Act
as a transaction by an issuer not involving a public offering.
During the second quarter of fiscal year 1998, the Operating Partnership
issued 90,787 common units of the Operating Partnership, valued by the Company
at approximately $2.5 million (based on the Company's closing price per share
of common stock on the NYSE), to a partnership controlled by John B. Kilroy,
Sr., the Company's Chairman of the Board of Directors, and John B. Kilroy,
Jr., the Company's President and Chief Executive Officer, in partial
consideration for the contribution of certain undeveloped land to the
Operating Partnership. The common units may be exchanged, at the Company's
option, into shares of the Company's common stock, on a one-for-one basis, one
year after issuance date. The common units were issued in reliance upon an
exemption from registration provided by Regulation D under the Securities Act
as a transaction by an issuer not involving a public offering.
24
During the second and third quarters of 1998, the Company issued 1,200,000
and 300,000 8.075% Series A Cumulative Redeemable Preferred units,
respectively, representing limited partnership interests in the Operating
Partnership with a liquidation value of $50.00 per unit, in exchange for a
gross contribution to the Operating Partnership of $60.0 million. The Series A
Preferred units are exchangeable, at the option of the majority of the
holders, for shares of the Company's 8.075% Series A Cumulative Redeemable
Preferred stock, beginning 10 years from the date of issuance, or earlier
under certain circumstances. The Series A Cumulative Redeemable Preferred
units were issued in reliance upon an exemption from registration provided by
Regulation D under the Securities Act as a transaction by an issuer not
involving a public offering.
During the fourth quarter of 1998, the Company issued 700,000 9.375% Series
C Cumulative Redeemable Preferred units, representing limited partnership
interests in the Operating Partnership with a liquidation value of $50.00 per
unit, in exchange for a gross contribution to the Operating Partnership of
$35.0 million. The Series C Cumulative Redeemable Preferred units are
exchangeable at the option of the majority of the holders, for shares of the
Company's 9.375% Series C Cumulative Redeemable Preferred stock, beginning 10
years from the date of issuance, or earlier under certain circumstances. The
Series A Cumulative Redeemable Preferred units were issued in reliance upon an
exemption from registration provided by Regulation D under the Securities Act
as a transaction by an issuer not involving a public offering.
During the first quarter of 1999, the Operating Partnership issued 119,460
common units of the Operating Partnership, valued by the Company at
approximately $2.5 million (based on the Company's closing per share price of
common stock on the NYSE), to entities controlled by Richard S. Allen, a
member of the Company's Board of Directors at December 31, 1998, in partial
consideration for the contribution of certain undeveloped land to the
Operating Partnership. An Executive Vice President of the Company received
42,564 of the total 119,460 common units. The common units may be exchanged,
at the Company's option, into shares of the Company's common stock, on a one-
for-one basis, on or after October 31, 2000. The common units were issued in
reliance upon an exemption from registration provided by Regulation D under
the Securities Act as a transaction by an issuer not involving a public
offering.
25
ITEM 6. SELECTED FINANCIAL DATA
Kilroy Realty Corporation and the Kilroy Group
(in thousands, except per share, square footage and occupancy data)
Kilroy Realty Corporation
Consolidated Kilroy Group Combined
------------------------- -------------------------------------
February 1, January 1,
Year Ended 1997 to 1997 to Year Ended December 31,
December 31, December 31, January 31, -------------------------
1998 1997 1997 1996 1995 1994
------------ ------------ ----------- ------- ------- -------
Statements of Operations
Data:
Rental income.......... $117,338 $56,069 $2,760 $35,022 $33,896 $32,577
Tenant reimbursements.. 14,152 6,751 306 3,752 3,002 1,643
Development services... 14 698 1,156 919
Sale of air rights..... 4,456
Interest income........ 1,698 3,571
Other income........... 3,096 889 4 76 398 1,084
-------- ------- ------ ------- ------- -------
Total revenues....... 136,284 67,280 3,084 39,548 42,908 36,223
-------- ------- ------ ------- ------- -------
Property expenses...... 19,281 8,770 579 6,788 6,834 6,000
Real estate taxes
(refunds)............. 9,579 4,199 137 1,673 1,416 (448)
General and
administrative
expenses.............. 7,739 4,949 78 2,383 2,152 2,467
Ground leases.......... 1,223 938 64 768 789 913
Development expenses... 46 650 737 468
Option buy-out cost.... 3,150
Provision for
potentially
unrecoverable
pre-development costs. 1,700
Interest expense....... 20,568 9,738 1,895 21,853 24,159 25,376
Depreciation and
amortization.......... 26,200 13,236 787 9,111 9,474 9,962
-------- ------- ------ ------- ------- -------
Total expenses....... 86,290 41,830 3,586 46,376 45,561 44,738
-------- ------- ------ ------- ------- -------
Income (loss) before
equity in income of
unconsolidated
subsidiary minority
interests and
extraordinary gains... 49,994 25,450 (502) (6,828) (2,653) (8,515)
Equity in income of
unconsolidated
subsidiary............ 5 23
-------- ------- ------ ------- ------- -------
Income (loss) before
minority interests and
extraordinary gains... 49,999 25,473 (502) (6,828) (2,653) (8,515)
Minority interests:
Distributions on
Cumulative Redeemable
Preferred units....... (5,556)
Minority interest in
earnings.............. (5,621) (3,413)
-------- ------- ------ ------- ------- -------
Income (loss) before
extraordinary gains... 38,822 22,060 (502) (6,828) (2,653) (8,515)
Extraordinary gains--
extinguishment of
debt.................. 3,204 20,095 15,267 1,847
-------- ------- ------ ------- ------- -------
Net income (loss).... $ 38,822 $22,060 $2,702 $13,267 $12,614 $(6,668)
======== ======= ====== ======= ======= =======
Share Data:
Weighted average shares
outstanding--basic.... 26,989 18,445
======== =======
Weighted average shares
outstanding--diluted.. 27,060 18,539
======== =======
Net income per common
share--basic.......... $ 1.44 $ 1.20
======== =======
Net income per common
share--diluted........ $ 1.43 $ 1.19
======== =======
Distributions per
common share.......... $ 1.62 $ 1.42
======== =======
26
December 31,
------------------------------------------------------
Kilroy Realty
Corporation
Consolidated Kilroy Group Combined
--------------------- -------------------------------
1998 1997 1996 1995 1994
---------- --------- --------- --------- ---------
Balance Sheet Data:
Investment in real
estate, before
accumulated
depreciation and
amortization.......... $1,194,284 $ 834,690 $ 227,337 $ 224,983 $ 223,821
Total assets........... 1,105,928 757,654 128,339 132,857 143,251
Mortgage debt and line
of credit............. 405,383 273,363 223,297 233,857 250,059
Total liabilities...... 449,529 305,319 242,116 254,683 273,585
Total minority
interests............. 180,500 55,185
Total stockholders'
equity/(accumulated
deficit).............. 475,899 397,150 (113,777) (121,826) (130,334)
Other Data:
Funds from
Operations(1),(2)...... $ 71,174 $ 39,142 $ 5,433 $ 2,365 $ 1,447
Cash flows from(3):
Operating activities... 73,429 28,928 5,520 10,071 6,607
Investing activities... (343,717) (551,956) (2,354) (1,162) (1,765)
Financing activities... 267,802 531,957 (3,166) (8,909) (4,842)
Office Properties:
Rentable square
footage............... 5,600,459 4,200,734 1,688,383 1,688,383 1,688,383
Occupancy.............. 95.7% 94.3% 76.0% 72.8% 73.3%
Industrial Properties:
Rentable square
footage............... 6,157,107 5,027,716 916,570 916,570 916,570
Occupancy.............. 96.0% 91.9% 97.6% 98.4% 79.7%
- --------
(1) As defined by the National Association of Real Estate Investment Trusts
("NAREIT"), "Funds from Operations" represents net income (loss) before
minority interest of common unitholders (computed in accordance with
GAAP), excluding gains (or losses) from debt restructuring and sales of
property, plus real estate related depreciation and amortization
(excluding amortization of deferred financing costs and depreciation of
non-real estate assets) and after adjustments for unconsolidated
partnerships and joint ventures. Non-cash adjustments to arrive at Funds
from Operations were as follows: in all periods, depreciation and
amortization; in 1996, 1995 and 1994, gains on extinguishment of debt; and
in 1998 and 1997, non-cash compensation. Further, in 1996 and 1995, non-
recurring items (sale of air rights and option buy-out cost) were
excluded. Management considers Funds from Operations an appropriate
measure of performance o