Table of Contents

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

x      Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

 

For the quarterly period ended June 30, 2014

 

or

 

o         Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

 

Commission file number 001-34856

 

THE HOWARD HUGHES CORPORATION

(Exact name of registrant as specified in its charter)

 

Delaware

 

36-4673192

(State or other jurisdiction of

 

(I.R.S. employer

incorporation or organization)

 

identification number)

 

13355 Noel Road, 22nd Floor, Dallas, Texas 75240

(Address of principal executive offices, including zip code)

 

(214) 741-7744

(Registrant’s telephone number, including area code)

 

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

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). x Yes o No

 

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

 

Large accelerated filer x

 

Accelerated filer o

 

 

 

Non-accelerated filer o
(Do not check if a smaller reporting company)

 

Smaller reporting company o

 

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

 

The number of shares of common stock, $0.01 par value, outstanding as of August 5, 2014 was 39,638,094.

 

 

 



Table of Contents

 

THE HOWARD HUGHES CORPORATION

 

INDEX

 

 

 

PAGE

 

 

NUMBER

 

 

 

PART I

FINANCIAL INFORMATION

 

 

Item 1:

Condensed Consolidated Financial Statements (Unaudited)

 

 

 

 

 

 

 

Condensed Consolidated Balance Sheets as of June 30, 2014 and December 31, 2013

3

 

 

 

 

 

 

Condensed Consolidated Statements of Operations for the three and six months ended June 30, 2014 and 2013

4

 

 

 

 

 

 

Condensed Consolidated Statements of Comprehensive Income (Loss) for the three and six months ended June 30, 2014 and 2013

5

 

 

 

 

 

 

Condensed Consolidated Statements of Equity for the six months ended June 30, 2014 and 2013

6

 

 

 

 

 

 

Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2014 and 2013

7

 

 

 

 

 

 

Notes to Condensed Consolidated Financial Statements

9

 

 

 

 

 

Item 2:

Management’s Discussion and Analysis of Financial Condition and Results of Operations

34

 

 

 

 

 

Item 3:

Quantitative and Qualitative Disclosures about Market Risk

64

 

 

 

 

 

Item 4:

Controls and Procedures

64

 

 

 

 

PART II

OTHER INFORMATION

 

 

 

 

 

 

Item 1:

Legal Proceedings

65

 

 

 

 

 

Item 1A:

Risk Factors

65

 

 

 

 

 

Item 6:

Exhibits

65

 

 

 

 

 

SIGNATURE

66

 

 

 

 

 

EXHIBIT INDEX

67

 

2



Table of Contents

 

THE HOWARD HUGHES CORPORATION

 

CONDENSED CONSOLIDATED BALANCE SHEETS

 

UNAUDITED

 

 

 

June 30,

 

December 31,

 

 

 

2014

 

2013

 

 

 

(In thousands, except share amounts)

 

Assets:

 

 

 

 

 

Investment in real estate:

 

 

 

 

 

Master Planned Community assets

 

$

1,603,361

 

$

1,537,758

 

Land

 

244,041

 

244,041

 

Buildings and equipment

 

846,934

 

754,878

 

Less: accumulated depreciation

 

(128,053

)

(111,728

)

Developments

 

767,859

 

488,156

 

Net property and equipment

 

3,334,142

 

2,913,105

 

Investment in Real Estate and Other Affiliates

 

77,284

 

61,021

 

Net investment in real estate

 

3,411,426

 

2,974,126

 

Cash and cash equivalents

 

739,568

 

894,948

 

Accounts receivable, net

 

25,179

 

21,409

 

Municipal Utility District receivables, net

 

116,201

 

125,830

 

Notes receivable, net

 

14,385

 

20,554

 

Tax indemnity receivable, including interest

 

329,813

 

320,494

 

Deferred expenses, net

 

61,107

 

36,567

 

Prepaid expenses and other assets, net

 

282,902

 

173,940

 

Total assets

 

$

4,980,581

 

$

4,567,868

 

 

 

 

 

 

 

Liabilities:

 

 

 

 

 

Mortgages, notes and loans payable

 

$

1,639,133

 

$

1,514,623

 

Deferred tax liabilities

 

55,548

 

89,365

 

Warrant liabilities

 

469,370

 

305,560

 

Uncertain tax position liability

 

217,473

 

129,183

 

Accounts payable and accrued expenses

 

451,228

 

283,991

 

Total liabilities

 

2,832,752

 

2,322,722

 

 

 

 

 

 

 

Commitments and Contingencies (see Note 14)

 

 

 

 

 

 

 

 

 

 

 

Equity:

 

 

 

 

 

Preferred stock: $.01 par value; 50,000,000 shares authorized, none issued

 

 

 

Common stock: $.01 par value; 150,000,000 shares authorized, 39,638,094 shares issued and outstanding as of June 30, 2014 and 39,576,344 shares issued and outstanding as of December 31, 2013

 

396

 

396

 

Additional paid-in capital

 

2,833,631

 

2,829,813

 

Accumulated deficit

 

(684,479

)

(583,403

)

Accumulated other comprehensive loss

 

(8,281

)

(8,222

)

Total stockholders’ equity

 

2,141,267

 

2,238,584

 

Noncontrolling interests

 

6,562

 

6,562

 

Total equity

 

2,147,829

 

2,245,146

 

Total liabilities and equity

 

$

4,980,581

 

$

4,567,868

 

 

See Notes to Condensed Consolidated Financial Statements.

 

3



Table of Contents

 

THE HOWARD HUGHES CORPORATION

 

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

 

UNAUDITED

 

 

 

Three Months Ended June 30,

 

Six Months Ended June 30,

 

 

 

2014

 

2013

 

2014

 

2013

 

 

 

(In thousands, except per share amounts)

 

Revenues:

 

 

 

 

 

 

 

 

 

Master Planned Community land sales

 

$

153,164

 

$

66,021

 

$

200,835

 

$

113,247

 

Builder price participation

 

3,843

 

2,426

 

7,940

 

3,701

 

Minimum rents

 

22,189

 

20,134

 

42,549

 

39,060

 

Tenant recoveries

 

6,893

 

5,065

 

12,908

 

10,390

 

Condominium rights and unit sales

 

4,358

 

30,381

 

7,484

 

30,381

 

Resort and conference center revenues

 

9,622

 

11,270

 

19,048

 

22,374

 

Other land revenues

 

2,698

 

3,830

 

5,210

 

6,632

 

Other rental and property revenues

 

6,864

 

6,635

 

12,310

 

10,068

 

Total revenues

 

209,631

 

145,762

 

308,284

 

235,853

 

Expenses:

 

 

 

 

 

 

 

 

 

Master Planned Community cost of sales

 

42,719

 

29,854

 

65,797

 

55,553

 

Master Planned Community operations

 

11,389

 

9,794

 

20,650

 

18,291

 

Other property operating costs

 

16,600

 

16,340

 

30,405

 

31,800

 

Rental property real estate taxes

 

4,241

 

3,359

 

7,981

 

7,116

 

Rental property maintenance costs

 

2,174

 

2,143

 

4,089

 

3,948

 

Condominium rights and unit cost of sales

 

2,191

 

15,272

 

3,762

 

15,272

 

Resort and conference center operations

 

6,412

 

7,680

 

13,923

 

15,156

 

Provision for doubtful accounts

 

31

 

277

 

174

 

706

 

Demolition costs

 

3,435

 

 

5,951

 

 

Development-related marketing costs

 

5,299

 

658

 

9,522

 

721

 

General and administrative

 

17,497

 

11,225

 

34,379

 

22,392

 

Other income

 

(5,611

)

(5,410

)

(16,059

)

(5,410

)

Depreciation and amortization

 

11,473

 

6,780

 

21,982

 

13,224

 

Total expenses

 

117,850

 

97,972

 

202,556

 

178,769

 

 

 

 

 

 

 

 

 

 

 

Operating income

 

91,781

 

47,790

 

105,728

 

57,084

 

 

 

 

 

 

 

 

 

 

 

Interest income

 

18,625

 

2,067

 

20,813

 

4,423

 

Interest expense

 

(8,897

)

 

(16,218

)

(143

)

Warrant liability loss

 

(67,370

)

(111,200

)

(163,810

)

(144,227

)

Reduction in tax indemnity receivable

 

(10,927

)

(7,499

)

(10,927

)

(9,403

)

Equity in earnings from Real Estate and Other Affiliates

 

6,587

 

5,707

 

12,655

 

8,440

 

Income (loss) before taxes

 

29,799

 

(63,135

)

(51,759

)

(83,826

)

Provision for income taxes

 

44,532

 

13,361

 

49,305

 

15,840

 

Net loss

 

(14,733

)

(76,496

)

(101,064

)

(99,666

)

Net income attributable to noncontrolling interests

 

(27

)

(58

)

(12

)

(12

)

Net loss attributable to common stockholders

 

$

(14,760

)

$

(76,554

)

$

(101,076

)

$

(99,678

)

 

 

 

 

 

 

 

 

 

 

Basic loss per share:

 

$

(0.37

)

$

(1.94

)

$

(2.56

)

$

(2.53

)

 

 

 

 

 

 

 

 

 

 

Diluted loss per share:

 

$

(0.37

)

$

(1.94

)

$

(2.56

)

$

(2.53

)

 

See Notes to Condensed Consolidated Financial Statements.

 

4



Table of Contents

 

THE HOWARD HUGHES CORPORATION

 

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

 

UNAUDITED

 

 

 

Three Months Ended June 30,

 

Six Months Ended June 30,

 

 

 

2014

 

2013

 

2014

 

2013

 

 

 

(In thousands)

 

(In thousands)

 

Comprehensive loss, net of tax:

 

 

 

 

 

 

 

 

 

Net loss

 

$

(14,733

)

$

(76,496

)

$

(101,064

)

$

(99,666

)

Other comprehensive income (loss):

 

 

 

 

 

 

 

 

 

Interest rate swaps (a)

 

(81

)

2,112

 

118

 

2,533

 

Capitalized swap interest (b)

 

(44

)

(318

)

(177

)

(731

)

Other comprehensive income (loss)

 

(125

)

1,794

 

(59

)

1,802

 

Comprehensive loss

 

(14,858

)

(74,702

)

(101,123

)

(97,864

)

Comprehensive income attributable to noncontrolling interests

 

(27

)

(58

)

(12

)

(12

)

Comprehensive loss attributable to common stockholders

 

$

(14,885

)

$

(74,760

)

$

(101,135

)

$

(97,876

)

 


(a)

Net of deferred tax expense of zero and $0.1 million for the three months and six months ended June 30, 2014, respectively. Net of deferred tax expense of $0.3 million and $0.4 million for the three and six months ended June 30, 2013, respectively.

(b)

Net of deferred tax benefit of zero and $0.1 million for the three and six months ended June 30, 2014, respectively. Net of deferred tax benefit of $0.2 million and $0.4 million for the three and six months ended June 30, 2013, respectively.

 

See Notes to Condensed Consolidated Financial Statements.

 

5



Table of Contents

 

THE HOWARD HUGHES CORPORATION

 

CONDENSED CONSOLIDATED STATEMENTS OF EQUITY

 

UNAUDITED

 

 

 

 

 

 

 

 

 

 

 

Accumulated

 

 

 

 

 

 

 

 

 

 

 

Additional

 

 

 

Other

 

 

 

 

 

 

 

 

 

Common

 

Paid-In

 

Accumulated

 

Comprehensive

 

Noncontrolling

 

Total

 

(In thousands, except share amounts)

 

Shares

 

Stock

 

Capital

 

Deficit

 

Income (Loss)

 

Interests

 

Equity

 

Balance, January 1, 2013

 

39,498,912

 

$

395

 

$

2,824,031

 

$

(509,613

)

$

(9,575

)

$

5,759

 

$

2,310,997

 

Net income (loss)

 

 

 

 

 

(99,678

)

 

12

 

(99,666

)

Adjustment to noncontrolling interest

 

 

 

 

 

 

 

1,616

 

1,616

 

Preferred dividend payment on behalf of REIT subsidiary

 

 

 

 

 

 

 

(12

)

(12

)

Interest rate swaps, net of tax of $379

 

 

 

 

 

 

2,533

 

 

2,533

 

Capitalized swap interest, net of tax of $377

 

 

 

 

 

 

(731

)

 

(731

)

Stock plan activity

 

77,432

 

1

 

2,578

 

 

 

 

2,579

 

Balance, June 30, 2013

 

39,576,344

 

$

396

 

$

2,826,609

 

$

(609,291

)

$

(7,773

)

$

7,375

 

$

2,217,316

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, January 1, 2014

 

39,576,344

 

$

396

 

$

2,829,813

 

$

(583,403

)

$

(8,222

)

$

6,562

 

$

2,245,146

 

Net income (loss)

 

 

 

 

 

(101,076

)

 

12

 

(101,064

)

Preferred dividend payment on behalf of REIT subsidiary

 

 

 

 

 

 

 

(12

)

(12

)

Interest rate swaps, net of tax of $49

 

 

 

 

 

 

118

 

 

118

 

Capitalized swap interest, net of tax of $100

 

 

 

 

 

 

(177

)

 

(177

)

Stock plan activity

 

61,750

 

 

3,818

 

 

 

 

3,818

 

Balance, June 30, 2014

 

39,638,094

 

$

396

 

$

2,833,631

 

$

(684,479

)

$

(8,281

)

$

6,562

 

$

2,147,829

 

 

See Notes to Condensed Consolidated Financial Statements.

 

6



Table of Contents

 

THE HOWARD HUGHES CORPORATION

 

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

 

UNAUDITED

 

 

 

Six Months Ended June 30,

 

 

 

2014

 

2013

 

 

 

(In thousands)

 

Cash Flows from Operating Activities:

 

 

 

 

 

Net loss

 

$

(101,064

)

$

(99,666

)

Adjustments to reconcile net loss to cash provided by operating activities:

 

 

 

 

 

Depreciation

 

19,580

 

11,427

 

Amortization

 

2,402

 

1,797

 

Amortization of deferred financing costs

 

1,649

 

338

 

Amortization of intangibles other than in-place leases

 

289

 

192

 

Straight-line rent amortization

 

(711

)

(705

)

Deferred income taxes

 

47,514

 

15,871

 

Restricted stock and stock option amortization

 

3,818

 

2,578

 

Gain on disposition of asset

 

(2,373

)

 

Warrant liability loss

 

163,810

 

144,227

 

Reduction in tax indemnity receivable

 

10,927

 

9,403

 

Interest income related to tax indemnity

 

(20,246

)

(3,870

)

Equity in earnings from Real Estate and Other Affiliates, net of distributions

 

(10,423

)

(5,441

)

Provision for doubtful accounts

 

174

 

706

 

Master Planned Community land acquisitions

 

(67,284

)

 

Master Planned Community development expenditures

 

(55,162

)

(67,484

)

Master Planned Community cost of sales

 

59,281

 

48,731

 

Condominium development expenditures

 

(17,821

)

(6,761

)

Condominium and other cost of sales

 

3,762

 

15,270

 

Proceeds from sale of condominium rights

 

 

47,500

 

Percentage of completion revenue recognition from sale of condominium rights

 

(7,484

)

(30,381

)

Non-monetary consideration relating to land sale

 

(13,789

)

 

Net changes:

 

 

 

 

 

Accounts and notes receivable

 

23,845

 

(1,081

)

Prepaid expenses and other assets

 

1,177

 

11,776

 

Condominium deposits received

 

103,240

 

 

Deferred expenses

 

(22,052

)

(760

)

Accounts payable and accrued expenses

 

(5,740

)

(5,918

)

Condominium deposits held in escrow

 

(103,240

)

 

Other, net

 

(4,811

)

1,666

 

Cash provided by operating activities

 

9,268

 

89,415

 

 

 

 

 

 

 

Cash Flows from Investing Activities:

 

 

 

 

 

Property and equipment expenditures

 

(4,517

)

(4,823

)

Operating property improvements

 

(1,707

)

(9,616

)

Property developments and redevelopments

 

(292,128

)

(81,736

)

Proceeds from insurance claims

 

6,227

 

 

Proceeds from dispositions

 

5,500

 

 

Investment in Summerlin Las Vegas Baseball Club, LLC

 

 

(10,200

)

Investment in KR Holdings, LLC

 

 

(16,750

)

Investments in Real Estate and Other Affiliates, net

 

(2,117

)

(758

)

Change in restricted cash

 

(2,225

)

(12,673

)

Cash used in investing activities

 

(290,967

)

(136,556

)

 

 

 

 

 

 

Cash Flows from Financing Activities:

 

 

 

 

 

Proceeds from issuance of mortgages, notes and loans payable

 

164,051

 

94,575

 

Principal payments on mortgages, notes and loans payable

 

(33,581

)

(60,829

)

Deferred financing costs

 

(4,139

)

(460

)

Preferred dividend payment on behalf of REIT subsidiary

 

(12

)

(12

)

Distributions to noncontrolling interests

 

 

(2,134

)

Cash provided by financing activities

 

126,319

 

31,140

 

 

 

 

 

 

 

Net change in cash and cash equivalents

 

(155,380

)

(16,001

)

Cash and cash equivalents at beginning of period

 

894,948

 

229,197

 

Cash and cash equivalents at end of period

 

$

739,568

 

$

213,196

 

 

7



Table of Contents

 

THE HOWARD HUGHES CORPORATION

 

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

 

UNAUDITED

 

 

 

Six Months Ended June 30,

 

 

 

2014

 

2013

 

 

 

(In thousands)

 

Supplemental Disclosure of Cash Flow Information:

 

 

 

 

 

Interest paid

 

$

41,628

 

$

15,401

 

Interest capitalized

 

23,965

 

18,202

 

Income taxes paid

 

1,370

 

1,914

 

 

 

 

 

 

 

Non-Cash Transactions:

 

 

 

 

 

Special Improvement District bond transfers associated with land sales

 

6,516

 

6,823

 

Property developments and redevelopments

 

51,377

 

27,469

 

Non-cash increase in Property due to consolidation of Real Estate Affiliate

 

 

3,750

 

Transfer of condominium buyer deposits to Real Estate Affiliate

 

 

34,220

 

 

See Notes to Condensed Consolidated Financial Statements.

 

8



Table of Contents

 

THE HOWARD HUGHES CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

UNAUDITED

 

NOTE 1        BASIS OF PRESENTATION AND ORGANIZATION

 

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial statements and in accordance with the instructions to Form 10-Q and Article 10 of Regulation S-X as issued by the Securities and Exchange Commission (the “SEC”). Such condensed consolidated financial statements do not include all of the information and disclosures required by GAAP for complete financial statements. In addition, readers of this Quarterly Report on Form 10-Q (“Quarterly Report”) should refer to The Howard Hughes Corporation’s (“HHC” or the “Company”) audited Consolidated Financial Statements for the year ended December 31, 2013 which are included in the Company’s Annual Report on Form 10-K (the “Annual Report”) for the fiscal year ended December 31, 2013. In the opinion of management, all adjustments (consisting of normal recurring adjustments) necessary for a fair presentation of the financial position, results of operations and cash flows for the interim periods have been included. The results for the three and six months ended June 30, 2014 are not necessarily indicative of the results for the full fiscal year.

 

As a result of the increasing significance of development-related marketing costs in our operations, we have chosen to present as one line item in the Statement of Operations the amount of development-related marketing costs expensed. Previously, these expenses were included in the line item, Other property operating costs. As such, amounts in 2013 have been reclassified to conform to the 2014 presentation. Development-related marketing costs include salaries, benefits, agency fees, events, advertising, online hosting, marketing related travel, and other costs that we incur for the benefit of our developments and re-developments.

 

Management has evaluated all material events occurring subsequent to the date of the condensed consolidated financial statements up to the date and time this Quarterly Report was filed.

 

NOTE 2        SPONSORS AND MANAGEMENT WARRANTS

 

On November 9, 2010 (the “Effective Date”), we issued warrants to purchase 8.0 million shares of our common stock to certain of our sponsors (the “Sponsors Warrants”) of which 1.9 million remain outstanding. The initial exercise price for the warrants of $50.00 per share and the number of shares of common stock underlying each warrant are subject to adjustment for future stock dividends, splits or reverse splits of our common stock or certain other events.  The Sponsors Warrants expire on November 9, 2017.

 

In November 2010 and February 2011, we entered into certain agreements (the “Management Warrants”) with David R. Weinreb, our Chief Executive Officer, Grant Herlitz, our President, and Andrew C. Richardson, our Chief Financial Officer, in each case prior to his appointment to such position, to purchase shares of our common stock. The Management Warrants representing 2,862,687 underlying shares, which may be adjusted pursuant to a net settlement option, were issued pursuant to such agreements at fair value in exchange for a combined total of approximately $19.0 million in cash from such executives at the commencement of their respective employment. Mr. Weinreb and Mr. Herlitz’s warrants have exercise prices of $42.23 per share and Mr. Richardson’s warrant has an exercise price of $54.50 per share. Generally, the Management Warrants become exercisable in November 2016 and expire by February 2018.

 

The estimated $210.0 million fair value for the Sponsors Warrants representing warrants to purchase 1,916,667 shares and estimated $259.4 million fair value for the Management Warrants representing warrants to purchase 2,862,687 shares outstanding as of June 30, 2014, have been recorded as liabilities because the holders of these warrants could require us to settle such warrants in cash upon a change of control. The estimated fair values for the outstanding Sponsors Warrants and Management Warrants were $141.8 million and $163.8 million, respectively, as of December 31, 2013. The fair values were estimated using an option pricing model and Level 3 inputs due to the unavailability of comparable market data, as further discussed in Note 6 — Fair Value of Financial Instruments. Decreases and increases in the fair value of the Sponsors Warrants and the Management Warrants are recognized as either warrant liability gains or losses, respectively, in the Condensed Consolidated Statements of Operations.

 

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THE HOWARD HUGHES CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

UNAUDITED

 

NOTE 3        EARNINGS PER SHARE

 

Basic earnings (loss) per share (“EPS”) is computed by dividing net income (loss) attributable to common stockholders by the weighted-average number of common shares outstanding. Diluted EPS is computed after adjusting the numerator and denominator of the basic EPS computation for the effects of all potentially dilutive common shares. The dilutive effect of options and nonvested stock issued under stock-based compensation plans is computed using the treasury stock method. The dilutive effect of the Sponsors Warrants and Management Warrants is computed using the if-converted method. Gains associated with the Sponsors Warrants and Management Warrants are excluded from the numerator in computing diluted earnings per share because inclusion of such gains in the computation would be anti-dilutive.

 

Information related to our EPS calculations is summarized as follows:

 

 

 

Three Months Ended June 30,

 

Six Months Ended June 30,

 

 

 

2014

 

2013

 

2014

 

2013

 

 

 

(In thousands, except per share amounts)

 

(In thousands, except per share amounts)

 

Basic EPS:

 

 

 

 

 

 

 

 

 

Numerator:

 

 

 

 

 

 

 

 

 

Net loss

 

$

(14,733

)

$

(76,496

)

$

(101,064

)

$

(99,666

)

Net income attributable to noncontrolling interests

 

(27

)

(58

)

(12

)

(12

)

Net loss attributable to common stockholders

 

$

(14,760

)

$

(76,554

)

$

(101,076

)

$

(99,678

)

 

 

 

 

 

 

 

 

 

 

Denominator:

 

 

 

 

 

 

 

 

 

Weighted average basic common shares outstanding

 

39,458

 

39,445

 

39,456

 

39,443

 

 

 

 

 

 

 

 

 

 

 

Diluted EPS:

 

 

 

 

 

 

 

 

 

Numerator:

 

 

 

 

 

 

 

 

 

Net loss attributable to common stockholders

 

$

(14,760

)

$

(76,554

)

$

(101,076

)

$

(99,678

)

Less: Warrant liability gain

 

 

 

 

 

Adjusted net loss attributable to common stockholders

 

$

(14,760

)

$

(76,554

)

$

(101,076

)

$

(99,678

)

 

 

 

 

 

 

 

 

 

 

Denominator:

 

 

 

 

 

 

 

 

 

Weighted average basic common shares outstanding

 

39,458

 

39,445

 

39,456

 

39,443

 

Restricted stock and stock options

 

 

 

 

 

Warrants

 

 

 

 

 

Weighted average diluted common shares outstanding

 

39,458

 

39,445

 

39,456

 

39,443

 

 

 

 

 

 

 

 

 

 

 

Basic earnings (loss) per share:

 

$

(0.37

)

$

(1.94

)

$

(2.56

)

$

(2.53

)

 

 

 

 

 

 

 

 

 

 

Diluted earnings (loss) per share:

 

$

(0.37

)

$

(1.94

)

$

(2.56

)

$

(2.53

)

 

The diluted EPS computation for the three and six months ended June 30, 2014 excludes 1,040,240 stock options, 172,690 shares of restricted stock, 1,916,667 shares of common stock underlying the Sponsors Warrants and 2,862,687 shares of common stock underlying the Management Warrants because their inclusion would have been anti-dilutive.

 

The diluted EPS computations for the three and six months ended June 30, 2013 excludes 918,440 stock options, 122,332 shares of restricted stock, 1,916,667 shares of common stock underlying the Sponsor Warrants and 2,862,687 shares of common stock underlying the Management Warrants because their inclusion would have been anti-dilutive.

 

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THE HOWARD HUGHES CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

UNAUDITED

 

NOTE 4        RECENT TRANSACTIONS

 

In May 2014, we acquired 1,343 acres of undeveloped land located 13 miles north of The Woodlands for $67.3 million and entered into a contract to acquire from a different seller an additional 652 adjacent acres. The second purchase is expected to close in September 2014. We have preliminarily planned for 1,834 acres of residential and 161 acres of commercial development on the combined sites, and currently estimate that the residential acres will yield over 4,600 lots. The first lots are expected to be finished and sold in 2016. This land acquisition will be developed by The Woodlands management team and is included in the Master Planned Communities segment.

 

NOTE 5                         IMPAIRMENT

 

We review our real estate assets, including operating assets, land held for development and sale and developments in progress, for potential impairment indicators whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. GAAP requires that if impairment indicators exist and the undiscounted cash flows expected to be generated by an asset are less than its carrying amount, an impairment charge should be recorded to write down the carrying amount of such asset to fair value (or for land held for sale, fair value less cost to sell). The impairment analysis does not consider the timing of future cash flows and whether the asset is expected to earn an above or below market rate of return.

 

Our investment in each of the Real Estate and Other Affiliates is evaluated periodically and as deemed necessary for recoverability and valuation declines that are other-than-temporary. If the decrease in value of our investment in a Real Estate and Other Affiliate is deemed to be other-than-temporary, our investment in such Real Estate and Other Affiliate is reduced to its estimated fair value.

 

No impairment charges were recorded during the three or six months ended June 30, 2014 or 2013. We continually evaluate our strategic alternatives with respect to each of our properties and may revise our strategy from time to time, including our intent to hold the asset on a long-term basis or the timing of potential asset dispositions. For example, we may decide to sell property that is held for use and the sale price may be less than the carrying amount. As a result, these changes in strategy could result in impairment charges in future periods.

 

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THE HOWARD HUGHES CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

UNAUDITED

 

NOTE 6                         FAIR VALUE OF FINANCIAL INSTRUMENTS

 

The following table presents, for each of the fair value hierarchy levels required under Accounting Standards Codification (“ASC”) 820 (“ASC 820”) Fair Value Measurement our assets and liabilities that are measured at fair value on a recurring basis.

 

 

 

June 30, 2014

 

December 31, 2013

 

 

 

Fair Value Measurements Using

 

Fair Value Measurements Using

 

 

 

Total

 

Quoted Prices
in Active
Markets for
Identical Assets
(Level 1)

 

Significant
Other
Observable
Inputs
(Level 2)

 

Significant
Unobservable
Inputs
(Level 3)

 

Total

 

Quoted Prices
in Active
Markets for
Identical Assets
(Level 1)

 

Significant
Other
Observable
Inputs
(Level 2)

 

Significant
Unobservable
Inputs
(Level 3)

 

 

 

(In thousands)

 

(In thousands)

 

Assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash equivalents

 

$

200,009

 

$

200,009

 

$

 

$

 

$

 

$

 

$

 

$

 

Liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Warrants

 

469,370

 

 

 

469,370

 

305,560

 

 

 

305,560

 

Interest rate swaps

 

4,076

 

 

4,076

 

 

4,164

 

 

4,164

 

 

 

Cash equivalents consist primarily of two registered money market mutual funds which invests in United States treasury securities that are valued at the net asset value of the underlying shares in the funds as of the close of business at the end of each period. The fair value approximates carrying value.

 

The valuation of warrants is based on an option pricing valuation model. The inputs to the model include the fair value of the stock related to the warrants, exercise price of the warrants, term, expected volatility, risk-free interest rate and dividend yield and with respect to the Management Warrants, a discount for lack of marketability.

 

The fair values of interest rate swaps are determined using the market standard methodology of netting the discounted future fixed cash payments and the discounted expected variable cash receipts. The variable cash receipts are based on an expectation of future interest rates derived from observable market interest rate curves.

 

The following table presents a reconciliation of the beginning and ending balances of the fair value measurements using significant unobservable inputs (Level 3) which are our Sponsors and Management Warrants:

 

 

 

2014

 

2013

 

 

 

(In thousands)

 

Balance as of January 1,

 

$

305,560

 

$

123,573

 

Warrant liability loss

 

163,810

 

144,227

 

Balance as of June 30,

 

$

469,370

 

$

267,800

 

 

The fair values were estimated using an option pricing model and Level 3 inputs due to the unavailability of comparable market data. Changes in the fair value of the Sponsors Warrants and the Management Warrants are recognized in earnings as a warrant liability gain or loss.

 

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THE HOWARD HUGHES CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

UNAUDITED

 

The significant unobservable input used in the fair value measurement of our warrants designated as Level 3 as of June 30, 2014 is as follows:

 

 

 

Fair Value

 

Valuation
Technique

 

Unobservable
Input

 

Volatility

 

Marketability
Discount (b)

 

 

 

(In thousands)

 

 

 

 

 

 

 

 

 

Warrants

 

$

469,370

 

Option Pricing Valuation Model

 

Expected Volatility (a)

 

24.9

%

22.0

%

 


(a) Based on the equity volatility of comparable companies.

(b) Represents the discount rate for lack of marketability of the Management Warrants. The discount rate was approximately 29% at December 31, 2013.

 

The expected volatility in the table above is a significant unobservable input used to estimate the fair value of our warrant liabilities. An increase in expected volatility would increase the fair value of the liability, while a decrease in expected volatility would decrease the fair value of the liability.

 

The estimated fair values of our financial instruments that are not measured at fair value on a recurring basis are as follows:

 

 

 

June 30, 2014

 

December 31, 2013

 

 

 

Carrying
Amount

 

Estimated
Fair Value

 

Carrying
Amount

 

Estimated
Fair Value

 

 

 

(In thousands)

 

Assets:

 

 

 

 

 

 

 

 

 

Cash and cash equivalents (a)

 

$

539,559

 

$

539,559

 

$

894,948

 

$

894,948

 

Notes receivable, net

 

14,385

 

14,385

 

20,554

 

20,554

 

Tax indemnity receivable, including interest

 

329,813

 

 

(b)

320,494

 

 

(b)

 

 

 

 

 

 

 

 

 

 

Liabilities:

 

 

 

 

 

 

 

 

 

Fixed-rate debt

 

$

952,491

 

$

1,013,529

 

$

971,786

 

$

1,012,461

 

Variable-rate debt (c)

 

660,057

 

660,057

 

509,737

 

509,737

 

SID bonds

 

26,585

 

26,411

 

33,100

 

32,837

 

Total mortgages, notes and loans payable

 

$

1,639,133

 

$

1,699,997

 

$

1,514,623

 

$

1,555,035

 

 


(a) Consists of bank deposits with original maturities of 90 days or less.

(b) It is not practicable to estimate the fair value of the tax indemnity receivable, including interest, as the timing and ultimate amount received under the agreement is highly dependent on numerous future events that cannot be reliably predicted.

(c) $172.0 million of variable-rate debt has been swapped to a fixed rate for the term of the related debt.

 

Notes receivable are carried at net realizable value, which approximates fair value. The estimated fair values of these notes receivable are categorized as Level 3 due to certain factors, such as current interest rates, terms of the note and credit worthiness of the borrower.

 

The fair value of debt in the table above, not including our Senior Notes (as defined below), was estimated based on a discounted future cash payment model using Level 2 inputs, which includes risk premiums for loans of comparable quality and a risk free rate derived from the current London Interbank Offered Rate (“LIBOR”) or U.S. Treasury obligation interest rates. The discount rates reflect our judgment as to what the approximate current lending rates for loans or groups of loans with similar maturities and credit quality would be if credit markets were operating efficiently and assuming that the debt is outstanding through maturity.

 

The fair value of our Senior Notes included in Fixed-rate debt in the table above was estimated based on quoted market prices for similar issues.

 

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THE HOWARD HUGHES CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

UNAUDITED

 

The carrying amounts of cash and cash equivalents and accounts receivable approximate fair value because of the short-term maturity of these instruments.

 

NOTE 7        REAL ESTATE AND OTHER AFFILIATES

 

In the ordinary course of business, we enter into partnerships or joint ventures primarily for the development and operations of real estate assets which are referred to as “Real Estate Affiliates”. These partnerships or joint ventures are accounted for in accordance with ASC 810 (“ASC 810”) Consolidations.

 

In accordance with ASC 810, we assess our joint ventures at inception to determine if any meet the qualifications of a variable interest entity (“VIE”). We consider a partnership or joint venture a VIE if: (a) the total equity investment is not sufficient to permit the entity to finance its activities without additional subordinated financial support; (b) characteristics of a controlling financial interest are missing (either the ability to make decisions through voting or other rights, the obligation to absorb the expected losses of the entity or the right to receive the expected residual returns of the entity); or (c) the voting rights of the equity holders are not proportional to their obligations to absorb the expected losses of the entity and/or their rights to receive the expected residual returns of the entity, and substantially all of the entity’s activities either involve or are conducted on behalf of an investor that has disproportionately few voting rights. Upon the occurrence of certain events outlined in ASC 810, we reassess our initial determination of whether the partnership or joint venture is a VIE.

 

We perform a qualitative assessment of each VIE to determine if we are the primary beneficiary, as required by ASC 810. Under ASC 810, a company concludes that it is the primary beneficiary and consolidates the VIE if the company has both (a) the power to direct the economically significant activities of the entity and (b) the obligation to absorb losses of, or the right to receive benefits from, the entity that could potentially be significant to the VIE. The company considers the contractual agreements that define the ownership structure, distribution of profits and losses, risks, responsibilities, indebtedness, voting rights and board representation of the respective parties in determining if the company is the primary beneficiary. As required by ASC 810, management’s assessment of whether the company is the primary beneficiary of a VIE is continuously performed.

 

We account for investments in joint ventures deemed to be VIEs for which we are not considered to be the primary beneficiary but have significant influence using the equity method, and investments in joint ventures where we do not have significant influence over the joint venture’s operations and financial policies, on the cost method. Generally, the operating agreements with respect to our Real Estate Affiliates provide that assets, liabilities and funding obligations are shared in accordance with our ownership percentages.

 

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THE HOWARD HUGHES CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

UNAUDITED

 

Our investment in real estate and other affiliates which are reported on the equity and cost methods are as follows:

 

 

 

Economic/ Legal Ownership

 

Carrying Value

 

Share of Earnings/Dividends

 

 

 

June 30,

 

December 31,

 

June 30,

 

December 31,

 

Three Months Ended June 30,

 

Six Months Ended June 30,

 

 

 

2014

 

2013

 

2014

 

2013

 

2014

 

2013

 

2014

 

2013

 

 

 

(In percentages)

 

(In thousands)

 

(In thousands)

 

Equity Method Investments:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Circle T Ranch and Power Center

 

50.00

%

50.00

%

$

9,004

 

$

9,004

 

$

 

$

 

$

 

$

 

HHMK Development (a)

 

50.00

%

50.00

%

13

 

13

 

193

 

153

 

483

 

153

 

KR Holdings (a)

 

50.00

%

50.00

%

34,059

 

19,764

 

5,726

 

5,191

 

9,735

 

5,191

 

Millennium Phase II (a)

 

81.43

%

81.43

%

2,129

 

2,174

 

(99

)

 

(135

)

 

Parcel C (a)

 

50.00

%

50.00

%

7,245

 

5,801

 

 

 

 

 

Stewart Title

 

50.00

%

50.00

%

4,013

 

3,843

 

425

 

326

 

518

 

517

 

Summerlin Apartments, LLC (a)

 

50.00

%

 

 

 

 

 

 

 

Summerlin Las Vegas Baseball Club, LLC (a)

 

50.00

%

50.00

%

10,813

 

10,636

 

302

 

 

176

 

 

Parcel D (b)

 

50.00

%

50.00

%

3,642

 

3,461

 

 

 

 

 

Woodlands Sarofim

 

20.00

%

20.00

%

2,573

 

2,579

 

40

 

37

 

97

 

76

 

 

 

 

 

 

 

73,491

 

57,275

 

6,587

 

5,707

 

10,874

 

5,937

 

Cost basis investments (c)

 

 

 

 

 

3,793

 

3,746

 

 

 

1,781

 

2,503

 

Investment in Real Estate and Other Affiliates

 

 

 

 

 

$

77,284

 

$

61,021

 

$

6,587

 

$

5,707

 

$

12,655

 

$

8,440

 

 


(a)

Equity method variable interest entities.

(b)

This entity was previously considered a VIE, whose reassessment in 2013 caused it to no longer be considered a VIE. Please refer to the discussion in the section following the table.

(c)

Includes distribution received from Summerlin Hospital Medical Center.

 

We are not the primary beneficiary of any of the VIEs listed above because we do not have the power to direct activities that most significantly impact the economic performance of such joint ventures and therefore we report our interests on the equity method. Our maximum exposure to loss as a result of these investments is limited to the aggregate carrying value of the investment as we have not provided any guarantees or otherwise made firm commitments to fund amounts on behalf of these VIEs. The aggregate carrying value of the unconsolidated VIEs was $54.3 million and $38.4 million as of June 30, 2014 and December 31, 2013, respectively. As of June 30, 2014, approximately $135.4 million of indebtedness was secured by the properties owned by our Real Estate Affiliates of which our share was approximately $75.2 million based upon our economic ownership. All of this debt is without recourse to us.

 

At June 30, 2014, the Company was the primary beneficiary of one VIE, which we therefore consolidated. The creditors of the consolidated VIE do not have recourse to the Company’s general credit. As of June 30, 2014, the carrying values of the assets and liabilities associated with the operations of the consolidated VIE were $20.7 million and $0.1 million, respectively. As of December 31, 2013, the carrying values of the assets and liabilities associated with the operations of the consolidated VIE were $20.6 million and $0.1 million, respectively. The assets of the VIEs are restricted for use only by the particular VIEs and are not available for our general operations.

 

Our recent and more significant investments in Real Estate Affiliates and the related accounting considerations are described below.

 

ONE Ala Moana Condominium Project

 

On October 11, 2011, we and an entity jointly owned by two local development partners formed a joint venture called HHMK Development, LLC (“HHMK Development”) to explore the development of a luxury condominium tower at the Ala Moana Center in Honolulu, Hawaii. On June 14, 2012, we formed another 50/50 joint venture, KR Holdings, with the same partner. We own 50% of each venture and our partners jointly own the remaining 50%.

 

On September 17, 2012, KR Holdings closed on two $20.0 million non-recourse mezzanine loan commitments with List Island Properties, LLC and A & B Properties, Inc. These loans have a blended interest rate of 12%, were drawn in full on May 15, 2013 and mature on April 30, 2018 with the option to extend for one year. In addition to the mezzanine loans, A & B Properties and List Island Properties both have profit interests in KR Holdings, which entitles them to receive a share of the profits, after a return of our capital plus a 13% preferred return on our capital. A & B Properties’ participation is capped at $3.0 million.

 

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THE HOWARD HUGHES CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

UNAUDITED

 

KR Holdings closed on a $132.0 million first mortgage construction loan on May 15, 2013 of which $37.3 million is outstanding as of June 30, 2014. Upon closing and under the terms of the venture agreement, we sold to KR Holdings our interest in the condominium rights for net cash proceeds of $30.8 million and a 50% equity interest in KR Holdings. Our partner contributed $16.8 million of cash for their 50% equity interest. The construction loan will be drawn over the course of construction, is secured by the condominium rights and buyers’ deposits, has no recourse to us, matures on May 15, 2016, and bears interest at one-month LIBOR plus 3.00%.

 

Millennium Woodlands Phase II, LLC

 

On May 14, 2012, we entered into a joint venture, Millennium Woodlands Phase II, LLC (“Millennium Phase II”), with The Dinerstein Companies, the same joint venture partner in the Millennium Waterway Apartments I project, for the construction of a new 314-unit Class A multi-family complex in The Woodlands Town Center. Our partner is the managing member of Millennium Phase II. As the managing member, our partner controls, directs, manages and administers the affairs of Millennium Phase II. On July 5, 2012, Millennium Phase II was capitalized by our contribution of 4.8 acres of land valued at $15.5 million to the joint venture, our partner’s contribution of $3.0 million in cash and a construction loan in the amount of $37.7 million which is guaranteed by our partner. The development of Millennium Phase II further expands our multi-family portfolio in The Woodlands Town Center.

 

Parcel C

 

On October 4, 2013, we entered into a joint venture agreement with a local developer, Kettler, Inc. (“Kettler”), to construct a 437-unit, Class A apartment building with 31,000 square feet of ground floor retail on Parcel C in downtown Columbia, Maryland. We contributed approximately five acres of land having an approximate book value of $4.0 million to the joint venture. Our land was valued at $23.4 million or $53,500 per constructed unit. When the venture closes on the construction loan and upon completion of certain other conditions, including obtaining completed site development and construction plans and an approved project budget, our partner will be required to contribute cash to the venture.

 

Summerlin Apartments, LLC

 

On January 24, 2014, we entered into a joint venture with a national multi-family real estate developer, The Calida Group (“Calida”), to construct, own and operate a 124-unit gated luxury apartment development. We and our partner each own 50% of the venture, and unanimous consent of the partners is required for all major decisions. This project represents the first residential development in Summerlin’s 400-acre downtown and is located within walking distance of downtown Summerlin. We will contribute a 5.5-acre parcel of land with an agreed value of $3.2 million in exchange for a 50% interest in the venture when construction financing closes. Our partner will contribute cash for their 50% interest, act as the development manager, fund all pre-development activities, obtain construction financing and provide any guarantees required by the lender. Upon a sale of the property, we are entitled to 100% of the proceeds in excess of an amount determined by applying a 7.0% capitalization rate to NOI. The venture is expected to begin construction in the fall of 2014 with a projected second quarter 2015 opening for the first phase and the final phase being opened by the end of 2015.

 

Summerlin Las Vegas Baseball Club, LLC

 

On August 6, 2012, we entered into a joint venture for the purpose of acquiring 100% of the operating assets of the Las Vegas 51s, a Triple-A baseball team which is a member of the Pacific Coast League. We own 50% of the venture and our partners jointly own the remaining 50%. Unanimous consent of the partners is required for all major decisions. As of the date the joint venture acquired the baseball team, we had funded our capital contribution of $10.5 million. Our strategy in owning an interest is to pursue a potential relocation of the team to a to-be-built stadium in our Summerlin master planned community. Efforts to re-locate the team are ongoing but there can be no assurance that such a stadium will ultimately be built.

 

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Table of Contents

 

THE HOWARD HUGHES CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

UNAUDITED

 

The Metropolitan Downtown Columbia Project

 

On October 27, 2011, we entered into a joint venture, Parcel D Development, LLC (“Parcel D”), with Kettler, Inc. (“Kettler”) to construct a Class A apartment building with ground floor retail space in downtown Columbia, Maryland. We and our partner each own 50% of the venture, and unanimous consent of the partners is required for all major decisions. On July 11, 2013, the joint venture closed a $64.1 million construction loan which is non-recourse to us. The loan bears interest at one-month LIBOR plus 2.4% and matures in July 2020. At loan closing, our land contribution was valued at $53,500 per unit, or $20.3 million, and Kettler contributed $13.3 million in cash, of which $7.0 million was distributed to us. Both we and Kettler made additional contributions of $3.1 million to the joint venture in accordance with the loan agreement, thus increasing our total capital account to $16.4 million. This transaction was accounted for as a partial sale of the land for which we recognized a net profit of $0.7 million.

 

Upon formation of the joint venture, we determined that Parcel D was a VIE, and that we were not the primary beneficiary. Accordingly, we accounted for our investment in Parcel D using the equity method. Upon closing of the first mortgage construction loan, the entity was recapitalized resulting in a reconsideration of the initial determination of VIE status. As a result of the reconsideration, we determined that Parcel D was no longer considered a VIE. We still account for our investment in Parcel D using the equity method.

 

Other

 

Our interest in Westlake Retail Associates, Ltd. (“Circle T Ranch”) and 170 Retail Associates (“Circle T Power Center”), and together with Circle T Ranch (“Circle T”), Woodlands Sarofim #1 Ltd. (“Woodlands Sarofim”) industrial buildings and Stewart Title of Montgomery County, Inc. (“Stewart Title”) are reflected in our financial statements as non-consolidated joint ventures in which we own a non-controlling interest and are accounted for on the equity method.

 

NOTE 8        MORTGAGES, NOTES AND LOANS PAYABLE

 

Mortgages, notes and loans payable are summarized as follows:

 

 

 

June 30,

 

December 31,

 

 

 

2014

 

2013

 

 

 

(In thousands)

 

Fixed-rate debt:

 

 

 

 

 

Collateralized mortgages, notes and loans payable

 

$

952,491

 

$

971,786

 

Special Improvement District bonds

 

26,585

 

33,100

 

Variable-rate debt:

 

 

 

 

 

Collateralized mortgages, notes and loans payable (a)

 

660,057

 

509,737

 

Total mortgages, notes and loans payable

 

$

1,639,133

 

$

1,514,623

 

 


(a) As more fully described below, $172.0 million of variable-rate debt has been swapped to a fixed rate for the term of the related debt.

 

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

UNAUDITED

 

The following table presents our mortgages, notes, and loans payable by property:

 

 

 

 

 

 

 

Maximum

 

Carrying Value

 

 

 

 

 

Interest

 

Facility

 

June 30,

 

December 31,

 

$ In thousands

 

Maturity (a)

 

Rate

 

Amount

 

2014

 

2013

 

Master Planned Communities

 

 

 

 

 

 

 

 

 

 

 

Bridgeland Land Loan

 

June 2022

 

5.50

%

 

 

$

15,874

 

$

18,066

 

Bridgeland Development Loan

 

June 2015

 

5.00

%(d)

$

30,000

 

16,447

 

 

Summerlin South SID Bonds - S108

 

December 2016

 

5.95

%

 

 

696

 

823

 

Summerlin South SID Bonds - S124

 

December 2019

 

5.95

%

 

 

263

 

285

 

Summerlin South SID Bonds - S128

 

December 2020

 

7.30

%

 

 

665

 

707

 

Summerlin South SID Bonds - S128C

 

December 2030

 

6.05

%

 

 

5,392

 

5,511

 

Summerlin South SID Bonds - S132

 

December 2020

 

6.00

%

 

 

3,272

 

3,962

 

Summerlin West SID Bonds - S808/S810

 

April 2031

 

7.13

%

 

 

5,982

 

11,168

 

Summerlin South SID Bonds - S151

 

June 2025

 

6.00

%

 

 

6,421

 

6,623

 

The Woodlands Master Credit Facility

 

August 2018

 

2.90

%(d)

250,000

 

176,663

 

176,663

 

Master Planned Communities Total

 

 

 

 

 

 

 

231,675

 

223,808

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating Assets

 

 

 

 

 

 

 

 

 

 

 

70 Columbia Corporate Center (b)

 

July 2019

 

2.40

%(d)

 

 

20,000

 

16,287

 

Columbia Regional Building

 

March 2018

 

2.15

%(d)

23,008

 

18,037

 

9,207

 

One Hughes Landing

 

November 2017

 

2.80

%(d)

38,000

 

32,884

 

19,128

 

Millennium Waterway Apartments

 

June 2022

 

3.75

%

 

 

55,584

 

55,584

 

110 N. Wacker (c)

 

October 2019

 

5.21

%(d)

 

 

29,000

 

29,000

 

9303 New Trails

 

December 2023

 

4.88

%

 

 

13,238

 

13,398

 

Outlet Collection at Riverwalk

 

October 2018

 

2.90

%(d)

64,400

 

35,555

 

 

The Woodlands Resort & Conference Center

 

February 2019

 

3.65

%(d)

95,000

 

54,222

 

36,100

 

Victoria Ward

 

September 2016

 

3.35

%(d)

250,000

 

238,716

 

238,716

 

20/25 Waterway Avenue

 

May 2022

 

4.79

%

 

 

14,434

 

14,450

 

3 Waterway Square

 

August 2028

 

3.94

%

 

 

52,000

 

52,000

 

4 Waterway Square

 

December 2023

 

4.88

%

 

 

38,768

 

39,237

 

Capital lease obligations

 

Various

 

3.60

%

 

 

168

 

205

 

Operating Assets Total

 

 

 

 

 

 

 

602,606

 

523,312

 

 

 

 

 

 

 

 

 

 

 

 

 

Strategic Developments

 

 

 

 

 

 

 

 

 

 

 

Downtown Summerlin SID Bonds - S108

 

December 2016

 

5.95

%

 

 

388

 

452

 

Downtown Summerlin SID Bonds - S128

 

December 2030

 

6.05

%

 

 

3,506

 

3,569

 

ExxonMobil

 

June 2019

 

2.05

%(d)

143,000

 

7,512

 

 

Two Hughes Landing

 

September 2018

 

2.80

%(d)

41,230

 

16,937

 

10

 

Hughes Landing Retail

 

December 2018

 

2.10

%(d)

36,575

 

11,145

 

913

 

One Lake’s Edge

 

November 2018

 

2.65

%(d)

73,525

 

2,939

 

 

Strategic Developments Total

 

 

 

 

 

 

 

42,427

 

4,944

 

 

 

 

 

 

 

 

 

 

 

 

 

Other Corporate Financing Arrangements

 

Various

 

3.00

%

22,700

 

20,620

 

21,309

 

Senior Notes

 

October 2021

 

6.88

%

 

 

750,000

 

750,000

 

 

 

 

 

 

 

 

 

 

 

 

 

Unamortized underwriting fees

 

 

 

 

 

 

 

(8,195

)

(8,750

)

 

 

 

 

 

 

 

 

$

1,639,133

 

$

1,514,623

 

 


(a)

Maturity date includes any extension periods which can be exercised at our option.

(b)

The note we assumed on August 15, 2012 was fully paid with cash on hand on April 15, 2014. On June 30, 2014, we entered into a new loan agreement for $20.0 million at one-month LIBOR plus 2.25%.

(c)

The $29.0 million outstanding principal balance is swapped to a 5.21% fixed rate through maturity.

(d)

The interest rate presented is based on the one or three month LIBOR rate at June 30, 2014.

 

The weighted average interest rate on our mortgages, notes and loans payable was 5.05% and 5.25% as of June 30, 2014 and December 31, 2013, respectively.

 

As of June 30, 2014, we had $1.6 billion of mortgages, notes and loans payable. All of the mortgage debt is secured by the individual properties as listed in the table above and is non-recourse to HHC, except for: (i) the $750.0 million of Senior Notes; (ii) $35.6 million of construction financing for the Outlet Collection at Riverwalk which will be reduced to 25% upon completion of the project and the achievement of an 11% debt yield and a certain level of tenant sales per square foot for twelve months, (iii) $20.6 million of Other Corporate Financing Arrangements; and (iv) a $7.0 million parent guarantee associated with the 110 N. Wacker mortgage. Furthermore, as more fully explained below under Strategic Developments on July 15, 2014, we closed on a $311.8 million financing for the

 

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THE HOWARD HUGHES CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

UNAUDITED

 

Downtown Summerlin development (formerly known as The Shops at Summerlin) which has a maximum recourse to us of 35% assuming the loan is fully drawn. The Woodlands Master Credit Facility and The Woodlands Resort & Conference Center loans are recourse to the entities that directly own The Woodlands operations. Certain of our loans contain provisions which grant the lender a security interest in the operating cash flow of the property that represents the collateral for the loan. Such provisions are not expected to impact our operations in 2014. Certain mortgage notes may be prepaid, but may be subject to a prepayment penalty equal to a yield-maintenance premium, defeasance, or a percentage of the loan balance. As of June 30, 2014, land, buildings and equipment and developments in progress with a cost basis of $2.1 billion have been pledged as collateral for our mortgages, notes and loans payable.

 

As of June 30, 2014, we were in compliance with all of the financial covenants related to our debt agreements.

 

Master Planned Communities

 

On August 8, 2013, The Woodlands refinanced its existing Master Credit Facility with a $250.0 million credit facility consisting of a $125.0 million term loan and a $125.0 million revolver (together, the “TWL Facility”). The TWL Facility bears interest at one-month LIBOR plus 2.75% and has an initial three-year term through August 2016 with two, one-year extension options. The extension options require a reduction of the total commitment to $220.0 million for the first extension and $185.0 million for the second extension. The TWL Facility also contains certain covenants that, among other things, require the maintenance of specified financial ratios, limit the incurrence of additional recourse indebtedness at The Woodlands, and limit distributions from The Woodlands to us based on a loan-to-value test. There was $73.3 million of undrawn and available borrowing capacity under the TWL Facility based on the collateral underlying the facility and loan covenants as of June 30, 2014.

 

During the second quarter of 2012, we refinanced $18.1 million of existing debt related to our Bridgeland Master Planned Community with a ten-year term loan facility at a fixed interest rate of 5.50% for the first five years and three-month LIBOR plus 2.75% for the remaining term and maturing on June 29, 2022. Beginning on June 29, 2014, annual principal payments are required in the amount of 5.00% of the then outstanding principal balance. In addition, we simultaneously entered into a three-year revolving credit facility with aggregate borrowing capacity of $140.0 million of which $65.7 million has been utilized as of June 30, 2014 and which has a $30.0 million maximum outstanding loan amount at any time. The revolving loan bears interest at the greater of 5.00% or one-month LIBOR plus 3.25% and matures on June 29, 2015. This loan is intended to provide working capital at Bridgeland to accelerate development efforts to meet the demand of homebuilders for finished lots in the community. The Bridgeland loans are cross-collateralized and cross-defaulted and the Bridgeland Master Planned Community serves as collateral for the loans. The loans also require that Bridgeland maintain a minimum $3.0 million cash balance and a minimum net worth of $250.0 million. Additionally, we are restricted from making cash distributions from Bridgeland unless the revolving credit facility has no outstanding balance and one year of real estate taxes and debt service on the term loan have been escrowed with the lender.

 

The Summerlin Master Planned Community uses Special Improvement District (“SID”) bonds to finance certain common infrastructure improvements. These bonds are issued by the municipalities and, although unrated, are secured by the assessments on the land. The majority of proceeds from each bond issued is held in a construction escrow and disbursed to us as infrastructure projects are completed, inspected by the municipalities and approved for reimbursement. Accordingly, the SID bonds have been classified as debt, and the Summerlin Master Planned Community pays the debt service on the bonds semi-annually. As Summerlin sells land, the buyers assume a proportionate share of the bond obligation at closing, and the residential sales contracts provide for the reimbursement of the principal amounts that we previously paid with respect to such proportionate share of the bond.

 

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THE HOWARD HUGHES CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

UNAUDITED

 

Operating Assets

 

On April 15, 2014, we paid $17.0 million cash in full satisfaction of the $16.0 million participating loan that we assumed as part of the acquisition of 70 CCC in August 2012. The non-recourse, interest only promissory note was due to mature on August 31, 2017 and included a participation right to the lender for 30% of the appreciation in the market value of the property after our 10% cumulative preferred return and repayment of the outstanding debt and our contributed equity. The final payment included approximately $0.7 million for this participation right based upon the appraised value of the property. On June 27, 2014, we closed on a new $20.0 million loan for the 70 Columbia Corporate Center (“70 CCC”) that bears interest at one-month LIBOR plus 2.25% and has an initial maturity date of July 2017 with two, one-year extension options.

 

On October 24, 2013, we closed on a $64.4 million partial recourse construction loan for the Outlet Collection at Riverwalk. The loan bears interest at one-month LIBOR plus 2.75%, with an initial maturity date of October 24, 2016 with two, one-year extension options. The initial recourse amount of 50.0% will be reduced to 25.0% upon completion of the project and the achievement of an 11.0% debt yield and a minimum level of tenant sales per square foot for twelve months.

 

On August 2, 2013, we refinanced a non-recourse first mortgage financing totaling $52.0 million for the construction of 3 Waterway Square, an 11-story, 232,000 square foot office building in The Woodlands. The loan bears interest at 3.94% and matures on August 11, 2028.

 

On March 15, 2013, we closed on a non-recourse financing totaling $23.0 million for the redevelopment of The Columbia Regional Building (also known as The Rouse Building), an office building located in Columbia, Maryland. The loan bears interest at prime rate for borrowings of less than $0.5 million. For borrowings over $0.5 million, we elect to use one-month LIBOR plus 2.00%. The loan is interest only through the initial maturity date of March 15, 2016. The loan has two, one-year extension options.

 

On February 8, 2013, we closed on a $95.0 million non-recourse construction loan which repaid the existing $36.1 million mortgage and provides funding for the redevelopment of The Woodlands Resort & Conference Center. The loan bears interest at one-month LIBOR plus 3.50% and has an initial maturity of February 8, 2016, with three one-year extensions at our option. The loan is secured by a 440-room and 40-acre conference center and resort located within The Woodlands and requires the maintenance of specified financial ratios after completion of construction.

 

On November 14, 2012, we closed on a non-recourse financing totaling $38.0 million for the construction of One Hughes Landing, an eight-story, 197,000 square foot office building in The Woodlands. The loan matures on November 14, 2015 and has two, one-year extension options. The loan bears interest at one-month LIBOR plus 2.65%.

 

On May 31, 2012, as part of the acquisition of our former partner’s interest in Millennium Waterway Apartments, located within The Woodlands, we closed on a $55.6 million non-recourse first mortgage loan. The proceeds from the mortgage were used to refinance the joint venture’s existing debt and to fund our acquisition of the partner’s interest in the property. The loan matures on June 1, 2022 and has a fixed interest rate of 3.75%.

 

On April 26, 2012, we closed on a $14.5 million non-recourse financing secured by 20/25 Waterway Avenue, located within The Woodlands. The loan bears interest at 4.79% and matures on May 1, 2022.

 

On December 5, 2011, we obtained a $41.0 million loan for 4 Waterway Square and a $14.0 million loan for 9303 New Trails, both located within The Woodlands. These non-recourse mortgages mature on December 11, 2023 and have fixed interest rates of 4.88%.

 

On September 30, 2011, we closed on a $250.0 million non-recourse first mortgage financing secured by Ward Village in Honolulu, Hawaii, that bears interest at one-month LIBOR plus 2.50%. The loan may be drawn to a maximum $250.0 million to fund capital expenditures at the property, provided that the outstanding principal

 

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THE HOWARD HUGHES CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

UNAUDITED

 

balance cannot exceed 65% of the property’s appraised value, and the borrowers are required to have a minimum 10.0% debt yield to draw additional loan proceeds under the facility. The loan permits partial repayment during its term in connection with property releases for development. In the third quarter of 2013, certain properties securing the loan were approved for condominium development. As a result, the properties were removed from the collateral pool and a minor principal paydown of the loan was required. The loan matures on September 29, 2016, and $143.0 million of the principal balance was swapped to a 3.80% fixed rate for the term of the loan. The unused portion of this mortgage was $11.3 million as of June 30, 2014.

 

On May 10, 2011, we closed a $29.0 million first mortgage financing secured by our office building located at 110 N. Wacker Drive in Chicago, IL. The loan term is coterminous with the expiration of the first term of the existing tenant’s lease. The loan has an interest-only period through April 2015 and, thereafter, amortizes ratably to $12.0 million through maturity on October 31, 2019. We provided a $7.0 million repayment guarantee for the loan, which is reduced on a dollar for dollar basis during the amortization period.

 

Strategic Developments

 

On July 15, 2014, we closed a $311.8 million financing for the construction of Downtown Summerlin development. The loan has an initial rate of one-month LIBOR plus 2.25% with an initial maturity date of July 15, 2017, with two one-year extension options. The loan agreement contains a number of customary covenants and events of default. The loan contains a maximum recourse to the Company of 35% of the outstanding principal plus all unpaid interest. Upon completion of the project and achievement of a 1.25x debt service coverage ratio, 90.0% occupancy and a minimum level of tenant sales per square foot for twelve months, the recourse amount will decrease to 10% of the outstanding principal.

 

On June 30, 2014, we closed on a $143.0 million construction financing for two office buildings substantially pre-leased to ExxonMobil. The loan bears interest at one-month LIBOR plus 1.90% and has an initial maturity of June 30, 2018, with a one-year extension option.

 

On December 20, 2013, we closed on a $36.6 million non-recourse loan for the construction of Hughes Landing Retail, a 123,000 square foot retail component of Hughes Landing. The loan bears interest at one-month LIBOR plus 1.95% with an initial maturity date of December 20, 2016, with two, one-year extension options.

 

On November 25, 2013, we closed on a $73.5 million non-recourse loan for the construction of an eight-story, Class A, multi-family project within Hughes Landing called One Lake’s Edge. One Lake’s Edge will be comprised of 390 multi-family units (averaging 984 square feet per unit), 22,289 square feet of retail and an approximately 750 space parking garage, all situated on 2.92 acres of land. The loan bears interest at one-month LIBOR plus 2.50% with an initial maturity date of November 25, 2016, with two, one-year extension options.

 

On September 11, 2013, we closed on a non-recourse financing totaling $41.2 million for the construction of Two Hughes Landing, the second Class A office building in the 66-acre mixed-use development of Hughes Landing on Lake Woodlands, located in The Woodlands. Two Hughes Landing will be a 197,000 square foot, eight-story office building with an adjacent parking garage containing approximately 630 spaces and is the second of up to 11 office buildings planned for Hughes Landing. The loan matures on September 11, 2016 and has two, one-year extension options. The loan bears interest at one-month LIBOR plus 2.65% due monthly.

 

Corporate

 

On October 2, 2013, we issued $750.0 million in aggregate principal amount of 6.875% Senior Notes due 2021 (the “Senior Notes”) and raised approximately $741.3 million of net cash proceeds. Interest is payable semiannually, on April 1 and October 1 of each year starting in April 2014. At any time prior to October 1, 2016, we may redeem up to 35% of the Senior Notes at a price equal to 106.875% using the proceeds from equity offerings. We may redeem all or part of the Senior Notes at any time on or after October 1, 2016 with a declining call premium thereafter to maturity. The Senior Notes contain customary terms and covenants for non-investment grade senior notes and have no maintenance covenants.

 

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

UNAUDITED

 

NOTE 9                         DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES

 

We are primarily exposed to interest rate risks related to our variable interest debt, and we manage this risk by utilizing interest rate derivatives. Our objectives in using interest rate derivatives are to add stability to interest costs by reducing our exposure to interest rate movements. To accomplish this objective, we use interest rate swaps and caps as part of our interest rate risk management strategy. Interest rate swaps designated as cash flow hedges involve the receipt of variable amounts from a counterparty in exchange for the Company’s fixed-rate payments over the life of the agreements without exchange of the underlying notional amount. Interest rate caps designated as cash flow hedges involve the receipt of variable amounts from a counterparty if interest rates rise above the strike rate on the contract in exchange for an up-front premium.

 

The effective portion of changes in the fair value of derivatives designated and that qualify as cash flow hedges is recorded in Accumulated Other Comprehensive Income (“AOCI”) and is subsequently reclassified into earnings in the period that the hedged forecasted transaction affects earnings. The ineffective portion of the change in fair value of the derivatives is recognized directly in earnings. During the six months ended June 30, 2014, the ineffective portion recorded in earnings was insignificant.

 

As of June 30, 2014, we had gross notional amounts of $172.0 million for interest rate swaps and a $100.0 million interest rate cap that were designated as cash flow hedges of interest rate risk. The fair value of the interest rate cap derivative was insignificant.

 

If the interest rate swap agreements are terminated prior to their maturity, the amounts previously recorded in AOCI are recognized into earnings over the period that the hedged transaction impacts earnings. If the hedging relationship is discontinued because it is probable that the forecasted transaction will not occur according to the original strategy, any related amounts previously recorded in AOCI are recognized in earnings immediately.

 

Amounts reported in AOCI related to derivatives will be reclassified to interest expense as interest payments are made on our variable-rate debt. Over the next 12 months, we estimate that an additional $2.4 million will be reclassified to interest expense.

 

The table below presents the fair value of our derivative financial instruments which are included in accounts payable and accrued liabilities in the Condensed Consolidated Balance Sheets:

 

 

 

June 30,

 

December 31,

 

 

 

2014

 

2013

 

 

 

(In thousands)

 

Interest Rate Swaps

 

$

4,076

 

$

4,164

 

Total derivatives designated as hedging instruments

 

$

4,076

 

$

4,164

 

 

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THE HOWARD HUGHES CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

UNAUDITED

 

The table below presents the effect of our derivative financial instruments on the Condensed Consolidated Statements of Operations for the three and six months ended June 30, 2014 and 2013:

 

 

 

Three Months Ended June 30,

 

 

 

Three Months Ended June 30,

 

 

 

2014

 

2013

 

 

 

2014

 

2013

 

Cash Flow Hedges

 

Amount of Loss
Recognized in OCI

 

Amount of Gain
Recognized in OCI

 

Location of Loss
Reclassified from
AOCI into Earnings

 

Amount of Loss
Reclassified from
AOCI into Earnings

 

Amount of Loss
Reclassified from
AOCI into Earnings

 

 

 

(In thousands)

 

 

 

(In thousands)

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest Rate Swaps

 

$

(629

)

$

1,583

 

Interest Expense

 

$

(548

)

$

(528

)

 

 

$

(629

)

$

1,583

 

 

 

$

(548

)

$

(528

)

 

 

 

Six Months Ended June 30,

 

 

 

Six Months Ended June 30,

 

 

 

2014

 

2013

 

 

 

2014

 

2013

 

Cash Flow Hedges

 

Amount of Loss
Recognized in OCI

 

Amount of Gain
Recognized in OCI

 

Location of Loss
Reclassified from
AOCI into Earnings

 

Amount of Loss
Reclassified from
AOCI into Earnings

 

Amount of Loss
Reclassified from
AOCI into Earnings

 

 

 

(In thousands)

 

 

 

(In thousands)

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest Rate Swaps

 

$

(971

)

$

1,486

 

Interest Expense

 

$

(1,089

)

$

(1,047

)

 

 

$

(971

)

$

1,486

 

 

 

$

(1,089

)

$

(1,047

)

 

NOTE 10                  INCOME TAXES

 

Several of our subsidiaries are involved in a dispute with the IRS relating to years in which those subsidiaries were owned by General Growth Properties (“GGP”), and in connection therewith, GGP has provided us with an indemnity against certain potential tax liabilities. Pursuant to the Tax Matters Agreement, GGP has indemnified us from and against 93.75% of any and all losses, claims, damages, liabilities and reasonable expenses to which we become subject (the “Tax Indemnity”), in each case solely to the extent directly attributable to certain taxes related to sales of certain assets in our Master Planned Communities segment prior to March 31, 2010 (“MPC Taxes”), in an amount up to $303.8 million, plus interest and penalties related to these amounts (the “Indemnity Cap”) so long as GGP controls the action in the United States Tax Court (the “Tax Court”) related to the dispute with the IRS as described below. We recorded the Tax Indemnity receivable at the Indemnity Cap amount as of the spinoff date. The unrecognized tax benefits and related accrued interest recorded through June 30, 2014 are primarily related to the taxes that are the subject of the Tax Indemnity. We have recorded interest income receivable on the Tax Indemnity receivable in the amounts of $58.8 million and $38.6 million as of June 30, 2014 and December 31, 2013, respectively.

 

The timing of the utilization of the tax assets attributable to indemnified and non-indemnified gains results in changes to the Tax Indemnity receivable and is dependent on numerous future events, such as the timing of recognition of indemnified and non-indemnified gains, the amount of each type of gain recognized in each year, the use of specific deductions and the ultimate amount of indemnified gains recognized. These non-cash changes could be material to our financial statements. Resolution of the Tax Court case noted below could also result in material changes to the Master Planned Community deferred gains and the timing of utilization of the tax assets, both of which could result in changes to the Tax Indemnity receivable. We record the Tax Indemnity receivable based on the amounts indemnified which are determined in accordance with the provisions set forth in ASC 740 (“ASC 740”) Income Taxes.

 

On May 6, 2011, GGP filed Tax Court petitions on behalf of the two former taxable REIT subsidiaries of GGP seeking a redetermination of federal income tax for the years 2007 and 2008. The petitions seek to overturn determinations by the IRS that the taxpayers were liable for combined deficiencies totaling $144.1 million. On October 20, 2011, GGP filed a motion in the Tax Court to consolidate the cases of the two former taxable REIT subsidiaries of GGP subject to litigation with the Internal Revenue Service due to the common nature of the cases’ facts and circumstances and the issues being litigated. The Tax Court granted the motion to consolidate. The case

 

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

UNAUDITED

 

was heard by the Tax Court in November 2012. The Tax Court filed their ruling in favor of the IRS on June 2, 2014. The Tax Court ruling may be appealed to the Fifth Circuit Court of Appeals. As noted above, GGP controls the litigation and has not yet decided whether to appeal the decision. The time period to appeal will expire during the fourth quarter of 2014.

 

Unrecognized tax benefits recorded pursuant to uncertain tax positions were $158.6 million and $90.5 million as of June 30, 2014 and December 31, 2013, respectively, excluding interest, of which this entire amount would not impact our effective tax rate. Accrued interest related to these unrecognized tax benefits amounted to $58.9 million and $38.7 million as of June 30, 2014 and December 31, 2013, respectively. We recognized an increase in interest expense related to the unrecognized tax benefits of $18.4 million for the three months ended June 30, 2014. The increase in unrecognized tax benefits and related interest expense recorded this quarter is due to the outcome of the Tax Court decision discussed above. The additional interest expense is related to taxes that are the subject of the Tax Indemnity and results in an increase in the tax indemnity receivable due from GGP.

 

During the six months ended June 30, 2014, the tax indemnity receivable increased by $9.3 million. This increase was due to the increase in the related interest income of $20.2 million and a loss on remeasurement of $10.9 million.

 

We have significant permanent differences, primarily from warrant liability gains and losses, interest income on the tax indemnity receivable, and changes in valuation allowances that cause our effective tax rate to deviate greatly from statutory rates. The effective tax rates based upon actual operating results were 149.6% and (95.2)% for the three and six months ended June 30, 2014 compared to (21.1)% and (18.9)% for the three months ended June 30, 2013. The changes in the tax rate were primarily attributable to the changes in the warrant liability, the valuation allowance, unrecognized tax benefits and tax indemnity receivable amounts as well as other permanent items.

 

We file a consolidated corporate tax return which includes all of our subsidiaries with the exception of Victoria Ward, Limited (“Ward”), substantially all of which is owned by us. Ward elected to be taxed as a REIT, commencing with the taxable year beginning January 1, 2002. Ward has satisfied the REIT distribution requirements for 2013. In connection with the planned condominium development of Ward that was approved by the Hawaii Real Estate Commission during the fourth quarter of 2013, the Company now intends to revoke the REIT election during 2015, before future phases of condominium development commence. As a result of our intention to revoke REIT status, we recorded deferred tax liabilities in the fourth quarter 2013 of $48.0 million for book and tax basis differences that we no longer expect to reverse while Victoria Ward, Limited is a REIT.

 

NOTE 11                  STOCK-BASED PLANS

 

Our stock based plans are described, and informational disclosures are provided, in the Notes to the Consolidated Financial Statements included in our Form 10-K for the year ended December 31, 2013.

 

Stock Options

 

The following table summarizes our stock option plan:

 

 

 

Stock Options

 

Weighted
Average Exercise
Price

 

Stock Options outstanding at January 1, 2014

 

965,440

 

$

64.57

 

Granted

 

92,000

 

145.19

 

Forfeited

 

(17,200

)

75.02

 

Stock Options outstanding at June 30, 2014

 

1,040,240

 

$

71.53

 

 

In February 2014, certain employees were granted stock options, half of which cliff vest on December 31, 2018. The remaining options also cliff vest on December 31, 2018, however, the amount of options are diminished if certain prescribed shareholder return hurdles are not met. Option grantees must be employed by the Company on the vesting date to be eligible to receive the award.

 

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UNAUDITED

 

Restricted Stock

 

Restricted stock awards issued under the Equity Plan provide that shares awarded may not be sold or otherwise transferred until restrictions have lapsed as established by the Committee. For the three and six months ended June 30, 2014, compensation expense of $1.0 million and $1.8 million, respectively, is included in general and administrative expense related to restricted stock awards. The balance of unamortized restricted stock awards as of June 30, 2014 was $12.5 million, which is expected to be expensed over a weighted-average period of 3.7 years.

 

The following table summarizes restricted stock activity:

 

 

 

Restricted
Stock

 

Weighted
Average Grant
Date Fair Value