Document
 
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, 2017
or
o
Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the transition period from to                                  to                                 
Commission file number 001-34626 
   _________________________________________________________
PIEDMONT OFFICE REALTY TRUST, INC.
(Exact name of registrant as specified in its charter)
 __________________________________________________________
Maryland
58-2328421
(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification Number)
 
 
11695 Johns Creek Parkway Ste. 350, Johns Creek, Georgia
30097
(Address of principal executive offices)
(Zip Code)
(770) 418-8800
(Registrant’s telephone number, including area code)
    _________________________________________________________
Securities registered pursuant to Section 12 (b) of the Act:
Title of each class
Name of exchange on which registered
COMMON STOCK
NEW YORK STOCK EXCHANGE
Securities registered pursuant to Section 12 (g) of the Act:
None
(Title of Class)
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Yes  x    No  o
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
Yes  o    No  x
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes  x    No  o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes  x    No  o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company (as defined in Rule 12b-2 of the Exchange Act).
Large accelerated filer  x     Accelerated filer  o      Non-accelerated filer  o     Smaller reporting company   o Emerging growth company o
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes  o    No  x
As of June 30, 2017, the aggregate market value of the common stock of Piedmont Office Realty Trust, Inc., held by non-affiliates was $3,044,079,292 based on the closing price as reported on the New York Stock Exchange. As of February 20, 2018, 135,065,720 shares of common stock were outstanding.
Documents Incorporated by Reference:
Registrant incorporates by reference portions of the Piedmont Office Realty Trust, Inc. Definitive Proxy Statement for the 2018 Annual Meeting of Stockholders (Items 10, 11, 12, 13, and 14 of Part III) to be filed no later than April 30, 2018.
 


Table of Contents
Index to Financial Statements


 
 
FORM 10-K
 
 
 
 
PIEDMONT OFFICE REALTY TRUST, INC.
 
 
 
 
TABLE OF CONTENTS
 
 
 
 
 
 
 
PART I.
 
 
 
Page No.
 
Item 1.
 
 
Item 1A.
 
 
Item 1B.
 
 
Item 2.
 
 
Item 3.
 
 
Item 4.
 
 
 
 
 
 
PART II.
 
 
 
 
 
Item 5.
 
 
Item 6.
 
 
Item 7.
 
 
Item 7A.
 
 
Item 8.
 
 
Item 9.
 
 
Item 9A.
 
 
Item 9B.
 
 
 
 
 
 
PART III.
 
 
 
 
 
Item 10.
 
 
Item 11.
 
 
Item 12.
 
 
Item 13.
 
 
Item 14.
 
 
 
 
 
 
PART IV.
 
 
 
 
 
Item 15.
 
 
 
 



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Index to Financial Statements

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

Certain statements contained in this Form 10-K may constitute forward-looking statements within the meaning of the federal securities laws. In addition, Piedmont Office Realty Trust, Inc. ("Piedmont," "we," "our," or "us"), or its executive officers on Piedmont’s behalf, may from time to time make forward-looking statements in reports and other documents Piedmont files with the Securities and Exchange Commission or in connection with other written or oral statements made to the press, potential investors, or others. Statements regarding future events and developments and Piedmont’s future performance, as well as management’s expectations, beliefs, plans, estimates, or projections relating to the future, are forward-looking statements. Forward-looking statements include statements preceded by, followed by, or that include the words “may,” “will,” “expect,” “intend,” “anticipate,” “estimate,” “believe,” “continue,” or other similar words. Examples of such statements in this report include descriptions of our real estate, financing, and operating objectives; discussions regarding future dividends and share repurchases; and discussions regarding the potential impact of economic conditions on our real estate and lease portfolio.

These statements are based on beliefs and assumptions of Piedmont’s management, which in turn are based on information available at the time the statements are made. Important assumptions relating to the forward-looking statements include, among others, assumptions regarding the demand for office space in the markets in which Piedmont operates, competitive conditions, and general economic conditions. These assumptions could prove inaccurate. The forward-looking statements also involve risks and uncertainties, which could cause actual results to differ materially from those contained in any forward-looking statement. Many of these factors are beyond Piedmont’s ability to control or predict. Such factors include, but are not limited to, the following:

Economic, regulatory, socio-economic and/or technology changes (including accounting standards) that impact the real estate market generally, or that could affect patterns of use of commercial office space;
The impact of competition on our efforts to renew existing leases or re-let space on terms similar to existing leases;
Changes in the economies and other conditions affecting the office sector in general and specifically the eight markets in which we primarily operate where we have high concentrations of our Annualized Lease Revenue (see definition in Item 1. Business of this Annual Report on Form 10-K);
Lease terminations, lease defaults, or changes in the financial condition of our tenants, particularly by one of our large lead tenants;
The effect on us of adverse market and economic conditions, including any resulting impairment charges on both our long-lived assets or goodwill;
The success of our real estate strategies and investment objectives, including our ability to identify and consummate suitable acquisitions and divestitures;
The illiquidity of real estate investments, including the resulting impediment on our ability to quickly respond to adverse changes in the performance of our properties;
The risks and uncertainties associated with our acquisition of properties, many of which risks and uncertainties may not be known at the time of acquisition;
Development and construction delays and resultant increased costs and risks;
Our real estate development strategies may not be successful;
Future acts of terrorism in any of the major metropolitan areas in which we own properties, or future cybersecurity attacks against us or any of our tenants;
Costs of complying with governmental laws and regulations;
Additional risks and costs associated with directly managing properties occupied by government tenants;
The effect of future offerings of debt or equity securities or changes in market interest rates on the value of our common stock;
Uncertainties associated with environmental and other regulatory matters;
Potential changes in political environment and reduction in federal and/or state funding of our governmental tenants;
The effect of any litigation to which we are, or may become, subject;
Changes in tax laws impacting REITs and real estate in general, as well as our ability to continue to qualify as a REIT under the Internal Revenue Code of 1986 (the “Code”), or otherwise adversely affect our stockholders;
The future effectiveness of our internal controls and procedures; and
Other factors, including the risk factors discussed under Item 1A. of this Annual Report on Form 10-K.

Management believes these forward-looking statements are reasonable; however, undue reliance should not be placed on any forward-looking statements, which are based on current expectations. Further, forward-looking statements speak only as of the date they are made, and management undertakes no obligation to update publicly any of them in light of new information or future events.


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PART I

ITEM 1.    BUSINESS

General

Piedmont Office Realty Trust, Inc. (“Piedmont," "we," "our," or "us") (NYSE: PDM) is a Maryland corporation that operates in a manner so as to qualify as a real estate investment trust (“REIT”) for federal income tax purposes and engages in the acquisition, development, management, and ownership of commercial real estate properties throughout the Eastern-half of the United States, including properties that are under construction, are newly constructed, or have operating histories. Piedmont was incorporated in 1997 and commenced operations in 1998. Piedmont conducts business primarily through Piedmont Operating Partnership, L.P. (“Piedmont OP”), a Delaware limited partnership, as well as performing the management of our buildings through two wholly-owned subsidiaries, Piedmont Government Services, LLC and Piedmont Office Management, LLC. Piedmont owns 99.9% of, and is the sole general partner of, Piedmont OP and as such, possesses full legal control and authority over the operations of Piedmont OP. The remaining 0.1% ownership interest of Piedmont OP is held indirectly by Piedmont through our wholly-owned subsidiary, Piedmont Office Holdings, Inc. ("POH"), the sole limited partner of Piedmont OP. Piedmont OP owns properties directly, through wholly-owned subsidiaries and through various joint ventures. References to Piedmont herein shall include Piedmont and all of its subsidiaries, including Piedmont OP and its subsidiaries and joint ventures.

Operating Objectives and Strategy

Based on our December 31, 2017 equity market capitalization of $2.8 billion, Piedmont is among the largest office REITs in the United States based on the Bloomberg U.S. Office REIT Index.
As of December 31, 2017, we owned and operated 67 in-service office properties comprised of approximately 19 million square feet of primarily Class A office space which was 89.7% leased.

During the fourth quarter of 2017, we entered into two binding contracts to sell a total of 14 non-strategic properties, both of which subsequently closed on January 4, 2018 (the "2017 Disposition Portfolio"). As a result, as of the filing date, our portfolio consists of 53 office properties, comprised of approximately 16.5 million rentable square feet which are approximately 91.8% leased. Further, exclusive of the 2017 Disposition Portfolio, approximately 91% of our Annualized Lease Revenue (see definition below) is generated from select sub-markets located primarily within eight major office markets located in the Eastern-half of the United States: Atlanta, Boston, Chicago, Dallas, Minneapolis, New York, Orlando, and Washington, D.C. As we typically lease to larger, credit-worthy corporate tenants, our average lease size is approximately 20,000 square feet with an average lease term remaining of approximately seven years. Our diversified tenant base is primarily comprised of investment grade or nationally recognized corporations or governmental agencies, with the majority of our Annualized Lease Revenue derived from such tenants. No tenant accounts for more than 5% of our Annualized Lease Revenue.

Headquartered in metropolitan Atlanta, Georgia, with regional and/or local management offices in each of our eight major markets, Piedmont values operational excellence and is a leading participant among REITs based on the number of buildings owned and managed with Building Owners and Managers Association ("BOMA") 360 designations. BOMA 360 is a program that evaluates six major areas of building operations and management and benchmarks a building's performance against industry standards. The achievement of such a designation recognizes excellence in building operations and management. We also have focused on environmental sustainability initiatives at our properties, and approximately 85% of our office portfolio (based on Annualized Lease Revenue) have achieved and maintain "Energy Star" efficiency (a designation for the top 25% of commercial buildings in energy consumption efficiency). In addition to operational excellence, we focus on fostering long-term relationships with our high-credit quality, diverse tenant base as evidenced by our approximately 70% tenant retention rate over the past ten years.
Our primary objectives are to maximize the risk-adjusted return to our stockholders by increasing cash flow from operations, to achieve sustainable growth in Funds From Operations, and to grow net asset value by realizing long-term capital appreciation. We manage risk by owning almost exclusively Class A, geographically diverse office properties which are among the most desirable in their respective office sub-markets. In addition to the creditworthiness of our tenants, we strive to ensure our tenants represent a broad spectrum of industry types with lease maturities that are laddered over many years. Operationally, we maintain a low leverage structure, utilizing primarily unsecured financing facilities with laddered maturities. We utilize a national buying platform of property management support services to ensure optimal pricing for landlord and tenant services, as well as to implement best practices and achieve sustainability standards. The strategies we intend to execute to achieve these objectives include:


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Capitalizing on Acquisition/Investment Opportunities

Our overall acquisition/investment strategy focuses on properties within eight major office markets located in the Eastern-half of the United States that were identified based on their positive economic and demographic growth trends so as to position our investments for long-term appreciation. In addition, we concentrate our portfolio in select sub-markets where efficiencies can be gained and our market expertize can be maximized. We believe these sub-markets are generally characterized by their strong amenity base, desired location for large corporate users, above-average job and rental rate growth, proximity to robust housing options, market-leading transportation infrastructure, and limited competitive REIT ownership. Both our acquisition and development activities are targeted towards attractively priced, high quality, Class A office properties that complement our existing portfolio.

Proactive Asset Management, Leasing Capabilities and Property Management

Our proactive approach to asset and property management encompasses a number of operating initiatives designed to maximize occupancy and rental rates, including the following: devoting significant resources to building and cultivating our relationships with commercial real estate executives; maintaining local management offices in markets in which we have a significant presence; demonstrating our commitment to our tenants by maintaining the high quality of our properties; and driving a significant volume of leasing transactions in a manner that provides optimal returns by using creative approaches, including early extensions, lease wrap-arounds and restructurings. We manage portfolio risk by structuring lease expirations to avoid, among other things, having multiple leases expire in the same market in a relatively short period of time; applying our leasing and operational expertise in meeting the specialized requirements of federal, state and local government agencies to attract and retain these types of tenants; evaluating potential tenants based on third party and internal assessments of creditworthiness; and using our purchasing power and market knowledge to reduce our operating costs and those of our tenants.

Recycling Capital Efficiently

We use our proven, disciplined capital recycling capabilities to maximize total return to our stockholders by selectively disposing of non-core assets and assets in which we believe value has been maximized, and redeploying the proceeds of those dispositions into new investment opportunities with higher overall return prospects.

Financing Strategy

We employ a conservative leverage strategy by typically maintaining a debt-to-gross assets ratio of between 30% - 40%. To effectively manage our long-term leverage strategy, we continue to analyze various sources of debt capital to prudently ladder debt maturities and to determine which sources will be the most beneficial to our investment strategy at any particular point in time.

Use of Joint Ventures to Improve Returns and Mitigate Risk

We selectively enter into strategic joint ventures with third parties to acquire, develop, improve or dispose of properties, thereby reducing the amount of capital required by us to make investments, diversifying our sources of capital, enabling us to creatively acquire and control targeted properties, and allowing us to reduce our investment concentration in certain properties and/or markets without disrupting our operating performance or local operating capabilities.

Redevelopment and Repositioning of Properties

As circumstances warrant, we may redevelop or reposition properties within our portfolio, including the creation of additional amenities for our tenants to increase both occupancy and rental rates and thereby improve returns on our invested capital.

Information Regarding Disclosures Presented

Annualized Lease Revenue ("ALR"), a non-GAAP measure, is calculated by multiplying (i) rental payments (defined as base rent plus operating expense reimbursements, if payable by the tenant on a monthly basis under the terms of a lease that has been executed, but excluding (a) rental abatements and (b) rental payments related to executed but not commenced leases for space that was covered by an existing lease), by (ii) 12. In instances in which contractual rents or operating expense reimbursements are collected on an annual, semi-annual, or quarterly basis, such amounts are multiplied by a factor of 1, 2, or 4, respectively, to calculate the annualized figure. For leases that have been executed but not commenced relating to un-leased space, ALR is calculated by multiplying (i) the monthly base rental payment (excluding abatements) plus any operating expense reimbursements for the initial month of the lease term, by (ii) 12.

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Employees

As of December 31, 2017, we had 136 employees, with 46 of our employees working in our corporate office located in metropolitan Atlanta, Georgia. Our remaining employees work in regional and/or local management offices located in our eight major markets. These employees are involved in acquiring, developing, leasing, and managing our portfolio of properties.

Competition

We compete for tenants for our high-quality assets in major U.S. markets by fostering strong tenant relationships and by providing quality customer service including; leasing, asset management, property management, and construction management services. As the competition for high-credit-quality tenants is intense, we may be required to provide rent abatements, incur charges for tenant improvements and other concessions, or we may not be able to lease vacant space timely, all of which may impact our results of operations. We compete with other buyers who are interested in properties we elect to acquire, which may affect the amount that we are required to pay for such properties or may ultimately result in our decision not to acquire such properties. We also compete with sellers of similar properties when we sell properties, which may determine the amount of proceeds we receive from the disposal, or which may result in our inability to dispose of such properties due to the lack of an acceptable return.

Financial Information About Industry Segments

Our current business primarily consists of owning, managing, operating, leasing, acquiring, developing, investing in, and disposing of office real estate assets. We internally evaluate all of our real estate assets as one operating segment, and, accordingly, we do not report segment information. However, we have provided certain information specific to each of our geographical markets that we believe may be helpful to our investors in Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations below.

Concentration of Credit Risk

We are dependent upon the ability of our current tenants to pay their contractual rent amounts as the rents become due. The inability of a tenant to pay future rental amounts would have a negative impact on our results of operations. As of December 31, 2017, no individual tenant represented 10% or more of our anticipated future revenues under non-cancelable leases. Additionally, no individual tenant represented 5% or more of our revenues for the year ended December 31, 2017.

Other Matters

We have contracts with various governmental agencies, exclusively in the form of operating leases in buildings we own. See Item 1A. Risk Factors for further discussion of the risks associated with these contracts.

Additionally, as the owner of real estate assets, we are subject to environmental risks. See Item 1A. Risk Factors for further discussion of the risks associated with environmental concerns.

Web Site Address

Access to copies of each of our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, proxy statements, and other filings with the Securities and Exchange Commission (the "SEC"), including any amendments to such filings, may be obtained free of charge from the following Web site, http://www.piedmontreit.com, or directly from the SEC’s Web site at http://www.sec.gov. These filings are available promptly after we file them with, or furnish them to, the SEC.
 
ITEM 1A.    RISK FACTORS

Risks Related to Our Business and Operations

Economic, regulatory, socio-economic and/or technology changes that impact the real estate market generally, or that could affect patterns of use of commercial office space, may cause our operating results to suffer and decrease the value of our real estate properties.

The investment returns available from equity investments in real estate depend on the amount of income earned and capital appreciation generated by the properties, as well as the expenses incurred in connection with the properties. If our properties do not generate income sufficient to meet operating expenses, including debt service and capital expenditures, then our ability to make distributions to our stockholders could be adversely affected. In addition, there are significant expenditures associated with an investment in real estate (such as mortgage payments, real estate taxes, and maintenance costs) that generally do not decline

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when circumstances reduce the income from the property. The following factors, among others, may adversely affect the operating performance and long- or short-term value of our properties:

changes in the national, regional, and local economic climate, particularly in markets in which we have a concentration of properties;
local office market conditions such as employment rates and changes in the supply of, or demand for, space in properties similar to those that we own within a particular area;
changes in the patterns of office or parking garage use due to technological advances which may make telecommuting more prevalent or reduce the demand for office workers or parking spaces generally;
increased demand for "co-working" or sharing of office space with other companies;
increased supply of office space due to the conversion of other asset classes such as shopping malls and other retail establishments to office space;
the attractiveness of our properties to potential tenants;
changes in interest rates and availability of permanent mortgage funds that may render the sale of a property difficult or unattractive or otherwise reduce returns to stockholders;
the financial stability of our tenants, including bankruptcies, financial difficulties, or lease defaults by our tenants;
changes in operating costs and expenses, including costs for maintenance, insurance, and real estate taxes, and our ability to control rents in light of such changes;
the need to periodically fund the costs to repair, renovate, and re-let space;
earthquakes, tornadoes, hurricanes and other natural disasters, civil unrest, terrorist acts or acts of war, which may result in uninsured or under insured losses;
changes in, or increased costs of compliance with, governmental regulations, including those governing usage, zoning, the environment, and taxes; and
significant changes in accounting standards and tax laws.

In addition, periods of economic slowdown or recession, rising interest rates, or declining demand for real estate could result in a general decrease in rents or an increased occurrence of defaults under existing leases, which would adversely affect our financial condition and results of operations. Any of the above factors may prevent us from generating sufficient cash flow or maintaining the value of our real estate properties.

We face considerable competition in the leasing market and may be unable to renew existing leases or re-let space on terms similar to the existing leases, or we may expend significant capital in our efforts to re-let space, which may adversely affect our operating results.

Every year, we compete with a number of other developers, owners, and operators of office and office-oriented, mixed-use properties to renew leases with our existing tenants and to attract new tenants. The competition for credit worthy tenants is intense, and we may have difficulty competing, especially with competitors who have purchased properties at discounted prices allowing them to offer space at reduced rental rates, or those that have the ability to offer superior amenities. To the extent that we are able to renew leases that are scheduled to expire in the short-term or re-let such space to new tenants, this intense competition may require us to utilize rent concessions and tenant improvements to a greater extent than we have historically.

If our competitors offer office accommodations at rental rates below current market rates or below the rental rates we currently charge our tenants, we may lose potential tenants, and we may be pressured to reduce our rental rates below those we currently charge in order to retain tenants upon expiration of their existing leases. Even if our tenants renew their leases or we are able to re-let the space to new tenants, the terms and other costs of renewal or re-letting, including the cost of required renovations or additional amenities, increased tenant improvement allowances, leasing commissions, declining rental rates, and other potential concessions, may be less favorable than the terms of our current leases and could require significant capital expenditures. If we are unable to renew leases or re-let space in a reasonable time, or if rental rates decline or tenant improvement, leasing commissions, or other costs increase, our financial condition, cash flows, cash available for distribution, value of our common stock, and ability to satisfy our debt service obligations could be adversely affected.

Our rental revenues will be significantly influenced by the economies and other conditions of the office market in general and of the specific markets in which we operate.

Because our portfolio consists exclusively of office properties, we are subject to risks inherent in investments in a single property type. This concentration exposes us to the risk of economic downturns in the office sector to a greater extent than if our portfolio also included other sectors of the real estate industry. Further, our portfolio of properties is primarily located in eight major metropolitan areas: Atlanta, Boston, Chicago, Dallas, Minneapolis, New York, Orlando, and Washington, D.C. Collectively, these eight metropolitan areas account for approximately 88% of our ALR from our portfolio of properties as of December 31, 2017,

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and approximately 91% of our ALR after consideration of the 2017 Disposition Portfolio in January 2018. As a result, we are particularly susceptible to adverse market conditions in these particular cities, including the reduction in demand for office properties, industry slowdowns, governmental cut backs, relocation of businesses and changing demographics. Adverse economic or real estate developments in these markets, or in any of the other markets in which we operate, or any decrease in demand for office space resulting from the local or national government and business climates, could adversely affect our rental revenues and operating results.

We depend on tenants for our revenue, and accordingly, lease terminations and/or tenant defaults, particularly by one of our significant lead tenants, could adversely affect the income produced by our properties, which may reduce cash flow and harm our operating performance, thereby limiting our ability to make or maintain competitive distributions to our stockholders.

The success of our investments materially depends on the financial stability of our tenants, any of whom may experience a change in their business at any time. As a result, our tenants may delay lease commencements, decline to extend or renew their leases upon expiration, fail to make rental payments when due, or declare bankruptcy. Any of these actions could result in the termination of the tenants’ leases, or expiration of existing leases without renewal, and the loss of rental income attributable to the terminated or expired leases. In the event of a tenant default or bankruptcy, we may experience delays in enforcing our rights as a landlord and may incur substantial costs in protecting our investment and re-letting our property. If significant leases are terminated or defaulted upon, we may be unable to lease the property for the rent previously received or sell the property without incurring a loss. In addition, significant expenditures, related to mortgage payments, real estate taxes, insurance, and maintenance costs, are generally fixed or may not decrease immediately when revenues at the related property decrease.

The occurrence of any of the situations described above, particularly if it involves one of our significant lead tenants, could seriously harm our operating performance. As of December 31, 2017, our most substantial non-U.S. governmental lead tenants, based on ALR, were: the State of New York (4.6% of ALR), US Bancorp (4.3% of ALR), Independence Blue Cross (3.3% of ALR), GE (3.0% of ALR), and Nestle (2.2% of ALR); however, the revenues generated by the properties that any of our lead tenants occupy are substantially dependent upon the financial condition of these tenants and, accordingly, any event of bankruptcy, insolvency, or a general downturn in the business of any of these tenants may result in the failure or delay of such tenant’s rental payments, which may have a substantial adverse effect on our operating performance.

Some of our leases provide tenants with the right to terminate their leases early, which could have an adverse effect on our cash flow and results of operations.

Certain of our leases permit our tenants to terminate their leases of all or a portion of the leased premises prior to their stated lease expiration dates under certain circumstances, such as providing notice by a certain date and, in many cases, paying a termination fee. In certain cases, such early terminations can be effectuated by our tenants with little or no termination fee being paid to us. As of December 31, 2017, approximately 0.82% of our ALR was comprised of leases with tenant-controlled options to exercise early termination rights (including contractions and terminations of whole leases) that could be effected during the subsequent twelve month period. Substantially all of these early termination contraction rights would require the tenant to pay a termination fee upon execution. To the extent that our tenants exercise early termination rights, our cash flow and earnings will be adversely affected, and we can provide no assurances that we will be able to generate an equivalent amount of net rental income by leasing the vacated space to new third party tenants.

We may face additional risks and costs associated with directly managing properties occupied by government tenants.

We currently own four properties in which some of the tenants in each property are federal government agencies. Lease agreements with these federal government agencies contain certain provisions required by federal law, which require, among other things, that the contractor (which is the lessor or the owner of the property) agree to comply with certain rules and regulations, including but not limited to, rules and regulations related to anti-kickback procedures, examination of records, audits and records, equal opportunity provisions, prohibitions against segregated facilities, certain executive orders, subcontractor costs or pricing data, and certain provisions intending to assist small businesses. Through one of our wholly-owned subsidiaries, we directly manage properties with federal government agency tenants and, therefore, we are subject to additional risks associated with compliance with all such federal rules and regulations. There are certain additional requirements relating to the potential application of the Employment Standards Administration’s Office of Federal Contract Compliance Programs and the related requirement to prepare written affirmative action plans applicable to government contractors and subcontractors. Some of the factors used to determine whether such requirements apply to a company that is affiliated with the actual government contractor (the legal entity that is the lessor under a lease with a federal government agency) include whether such company and the government contractor are under common ownership, have common management, and are under common control. One of our wholly-owned subsidiaries is considered a government contractor, increasing the risk that requirements of these equal opportunity provisions, including the requirement to prepare affirmative action plans, may be determined to be applicable to the entire operations of our company.


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Adverse market and economic conditions may negatively affect us and could cause us to recognize impairment charges on tangible real estate and related lease intangible assets or otherwise impact our performance.

We continually monitor events and changes in circumstances that could indicate that the carrying value of the real estate and related lease intangible assets in which we have an ownership interest, either directly or through investments in joint ventures, may not be recoverable. When indicators of potential impairment are present which indicate that the carrying value of real estate and related lease intangible assets may not be recoverable, we assess the recoverability of these assets by determining whether the carrying value will be recovered through the undiscounted future operating cash flows expected from the use of the asset and its eventual disposition. In the event that such expected undiscounted future cash flows do not exceed the carrying value, we adjust the real estate and related lease intangible assets to their estimated fair value and recognize an impairment loss.

Projections of expected future cash flows require management to make assumptions to estimate future market rental income amounts subsequent to the expiration of current lease agreements, property operating expenses, the number of months it takes to re-lease the property, and the number of years the property is held for investment, among other factors. The subjectivity of assumptions used in the future cash flow analysis, including discount rates, could result in an incorrect assessment of the property’s estimated fair value and, therefore, could result in the misstatement of the carrying value of our real estate and related lease intangible assets and our net income. In addition, adverse economic conditions could also cause us to recognize additional asset impairment charges in the future, which could materially and adversely affect our business, financial condition and results of operations.

Adverse market and economic conditions could cause us to recognize impairment charges on our goodwill, or otherwise impact our performance.

We review the value of our goodwill on an annual basis and when events or changes in circumstances indicate that the carrying value of goodwill may exceed the estimated fair value of such assets. Such interim events could be adverse changes in legal matters or in the business climate, adverse action or assessment by a regulator, the loss of key personnel, or persistent declines in our stock price below our carrying value. Volatility in the overall market could cause the price of our common stock to fluctuate and cause the carrying value of our company to exceed the estimated fair value. If that occurs, our goodwill potentially could be impaired. Impairment charges recognized in order to reduce our goodwill could materially and adversely affect our financial condition and results of operations.

Our earnings growth will partially depend upon future acquisitions of properties, and we may not be successful in identifying and consummating suitable acquisitions that meet our investment criteria, which may impede our growth and negatively affect our results of operations.

Our business strategy involves the acquisition of primarily high-quality office properties in selected markets. These activities require us to identify suitable acquisition candidates or investment opportunities that meet our criteria and are compatible with our growth strategy. We may not be successful in identifying suitable properties or other assets that meet our acquisition criteria or in consummating acquisitions on satisfactory terms, if at all. Failure to identify or consummate acquisitions could slow our growth.

Further, we face significant competition for attractive investment opportunities from a large number of other real estate investors, including investors with significant capital resources such as domestic and foreign corporations and financial institutions, publicly traded and privately held REITs, private institutional investment funds, investment banking firms, life insurance companies and pension funds. As a result of competition, we may be unable to acquire additional properties as we desire, the purchase price may be significantly elevated, or we may have to accept lease-up risk for a property with lower occupancy, any of which could adversely affect our financial condition, results of operations, cash flows and the ability to pay dividends on, and the market price of our common stock.

The illiquidity of real estate investments could significantly impede our ability to respond to adverse changes in the performance of our properties.

Because real estate investments are relatively illiquid and large-scale office properties such as many of those in our portfolio are particularly illiquid, our ability to sell promptly one or more properties in our portfolio in response to changing economic, financial, and investment conditions is limited. The real estate market is affected by many forces, such as general economic conditions, availability of financing, interest rates, and other factors, including supply and demand, that are beyond our control. We cannot predict whether we will be able to sell any property for the price or on the terms set by us or whether any price or other terms offered by a prospective purchaser would be acceptable to us. We also cannot predict the length of time needed to find a willing purchaser and to close the sale of a property. We may be required to expend funds to correct defects or to make improvements before a property can be sold. We cannot provide any assurances that we will have funds available to correct such defects or to

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make such improvements. Our inability to dispose of assets at opportune times or on favorable terms could adversely affect our cash flows and results of operations, thereby limiting our ability to make distributions to stockholders.

Future acquisitions of properties may not yield anticipated returns, may result in disruptions to our business, and may strain management resources.

We intend to continue acquiring high-quality office properties, subject to the availability of attractive properties, to our ability to arrange financing, and to consummate acquisitions on satisfactory terms. In deciding whether to acquire a particular property, we make certain assumptions regarding the expected future performance of that property. However, newly acquired properties may fail to perform as expected. Costs necessary to bring acquired properties up to standards established for their intended market position may exceed our expectations, which may result in the properties’ failure to achieve projected returns.

In particular, to the extent that we engage in acquisition activities, they will pose the following risks for our ongoing operations:

we may acquire properties or other real estate-related investments that are not initially accretive to our results upon acquisition or accept lower cash flows in anticipation of longer term appreciation, and we may not successfully manage and lease those properties to meet our expectations;
we may not achieve expected cost savings and operating efficiencies;
we may be unable to quickly and efficiently integrate new acquisitions, particularly acquisitions of portfolios of properties, into our existing operations;
management attention may be diverted to the integration of acquired properties, which in some cases may turn out to be less compatible with our operating strategy than originally anticipated;
we may not be able to support the acquired property through one of our existing property management offices and may not successfully open new satellite offices to serve additional markets;
the acquired properties may not perform as well as we anticipate due to various factors, including changes in macro-economic conditions and the demand for office space; and
we may acquire properties without any recourse, or with only limited recourse, for liabilities, whether known or unknown, such as clean-up of environmental contamination, unknown/undisclosed latent structural issues or maintenance problems, claims by tenants, vendors or other persons against the former owners of the properties, and claims for indemnification by general partners, directors, officers, and others indemnified by the former owners of the properties.

Acquired properties may be located in new markets, where we may face risks associated with investing in an unfamiliar market.

We may acquire properties located in markets in which we do not have an established presence. We may face risks associated with a lack of market knowledge or understanding of the local economy, forging new business relationships in the area and unfamiliarity with local government and permitting procedures. As a result, the operating performance of properties acquired in new markets may be less than we anticipate, and we may have difficulty integrating such properties into our existing portfolio. In addition, the time and resources that may be required to obtain market knowledge and/or integrate such properties into our existing portfolio could divert our management’s attention from our existing business or other attractive opportunities.

We may invest in mezzanine debt, which is subject to increased risk of loss relative to senior mortgage loans.

We may invest in mezzanine debt. These investments, which are subordinate to the mortgage loans secured by the real property underlying the loan, are generally secured by pledges of the equity interests of the entities owning the underlying real estate. As a result, these investments involve greater risk of loss than investments in senior mortgage loans that are secured by real property since they are subordinate to the mortgage loan secured by the building and may be subordinate to the interests of other mezzanine lenders. Therefore, if the property owner defaults on its debt service obligations payable to us or on debt senior to us, or declares bankruptcy, such mezzanine loans will be satisfied only after the senior debt and the other senior mezzanine loans are paid in full, resulting in the possibility that we may be unable to recover some or all of our investment. In addition, the value of the assets securing or supporting our mezzanine debt investments could deteriorate over time due to factors beyond our control, including acts or omissions by owners, changes in business, economic or market conditions, or foreclosure, any of which could result in the recognition of impairment losses. There may also be significant delays and costs associated with the process of foreclosing on the collateral securing or supporting such investments.

Our operating results may suffer because of potential development and construction delays and resultant increased costs and risks.

From time to time, we engage in various development and re-development projects where we may be subject to uncertainties associated with re-zoning, environmental concerns of governmental entities and/or community groups, and our builders’ ability to build in conformity with plans, specifications, budgeted costs and timetables. A builder’s performance may also be affected or

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delayed by conditions beyond the builder’s control. Delays in completing construction could also give tenants the right to terminate preconstruction leases. We may incur additional risks when we make periodic progress payments or other advances to builders before they complete construction. Further, we may incur unanticipated additional costs related to disputes with existing tenants during redevelopment projects. These and other factors can result in increased costs of a project or loss of our investment. In addition, we will be subject to normal lease-up risks relating to newly constructed projects. Projects with long lead times may increase leasing risk due to changes in market conditions.

Our real estate development strategies may not be successful.

From time to time, we engage in various development and redevelopment activities to the extent attractive projects become available. When we engage in development activities, we are subject to risks associated with those activities that could adversely affect our financial condition, results of operations, cash flows and ability to pay distributions on, and the market price of, our common stock, including, but not limited to:

development projects in which we have invested may be abandoned and the related investment will be impaired;
we may not be able to obtain, or may experience delays in obtaining, all necessary zoning, land-use, building, occupancy and other governmental permits and authorizations;
we may not be able to obtain land on which to develop;
we may not be able to obtain financing for development projects, or obtain financing on favorable terms;
construction costs of a project may exceed the original estimates or construction may not be concluded on schedule, making the project less profitable than originally estimated or not profitable at all (including the possibility of errors or omissions in the project's design, contract default, contractor or subcontractor default, performance bond surety default, the effects of local weather conditions, the possibility of local or national strikes and the possibility of shortages in materials, building supplies or energy and fuel for equipment);
tenants which pre-lease space or contract with us for a build-to-suit project may default prior to occupying the project;
upon completion of construction, we may not be able to obtain, or obtain on advantageous terms, permanent financing for activities that we financed through construction loans; and
we may not achieve sufficient occupancy levels and/or obtain sufficient rents to ensure the profitability of a completed project.

Moreover, substantial renovation and development activities, regardless of their ultimate success, typically require a significant amount of management’s time and attention, diverting their attention from our other operations.

Future terrorist attacks in the major metropolitan areas in which we own properties could significantly impact the demand for, and value of, our properties.

Our portfolio of properties is primarily located in eight major metropolitan areas: Atlanta, Boston, Chicago, Dallas, Minneapolis, New York, Orlando, and Washington, D.C., any of which could be, and some of which have recently been, the target of terrorist attacks. Future terrorist attacks and other acts of terrorism or war would severely impact the demand for, and value of, our properties. Terrorist attacks in and around any of the major metropolitan areas in which we own properties also could directly impact the value of our properties through damage, destruction, loss, or increased security costs, and could thereafter materially impact the availability or cost of insurance to protect against such acts. A decrease in demand could make it difficult to renew or re-lease our properties at lease rates equal to or above historical rates. To the extent that any future terrorist attacks otherwise disrupt our tenants’ businesses, it may impair our tenants’ ability to make timely payments under their existing leases with us, which would harm our operating results.

We face risks related to the occurrence of cyber incidents, or a deficiency in our cyber-security, which could negatively impact our business by causing a disruption to our operations, a compromise or corruption of our confidential information, and/or damage to our business relationships, all of which could negatively impact our financial results.

A cyber incident is considered to be any adverse event that threatens the confidentiality, integrity, or availability of our information resources. More specifically, a cyber incident is an intentional attack or an unintentional event that can include gaining unauthorized access to systems to disrupt operations, corrupt data, or steal confidential information. The risk of a security breach or disruption, particularly through cyber attacks or cyber intrusion, including by computer hackers, foreign governments and cyber terrorists, has generally increased as the number, intensity and sophistication of attempted attacks and intrusions from around the world have increased. As our reliance on technology has increased, so have the risks posed to our systems, both internal and those we have outsourced. Risks that could directly result from the occurrence of a cyber incident include physical harm to occupants of our buildings, physical damage to our buildings, actual cash loss, operational interruption, damage to our relationship with our tenants, potential errors from misstated financial reports, violations of loan covenants, missed reporting deadlines, and private data exposure, among others. Any or all of the preceding risks could have a material adverse effect on our results of operations, financial condition

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and cash flows. Although we make efforts to maintain the security and integrity of these types of information technology networks, building systems, and related systems, and we have implemented various measures to manage the risk of a security breach or disruption, there can be no assurance that our security efforts and measures will be effective or that attempted security breaches or disruptions would not be successful or damaging. Further, one or more of our tenants could experience a cyber incident which could impact their operations and ability to perform under the terms of their lease with us.

Uninsured losses or losses in excess of our insurance coverage could adversely affect our financial condition and our cash flow, and there can be no assurance as to future costs and the scope of coverage that may be available under insurance policies.

We carry comprehensive general liability, fire, extended coverage, business interruption rental loss coverage, environmental, cyber-security, and umbrella liability coverage on all of our properties and earthquake, wind, and flood coverage on properties in areas where such coverage is warranted. We believe the policy specifications and insured limits of these policies are adequate and appropriate given the relative risk of loss, the cost of the coverage, and industry practice. However, we may be subject to certain types of losses, those that are generally catastrophic in nature, such as losses due to wars, conventional or cyber terrorism, chemical, biological, nuclear and radiation (“CBNR”) acts of terrorism and, in some cases, earthquakes, hurricanes, and flooding, either because such coverage is not available or is not available at commercially reasonable rates. If we experience a loss that is uninsured or that exceeds policy limits, we could lose a significant portion of the capital we have invested in the damaged property, as well as the anticipated future revenue from the property. Inflation, changes in building codes and ordinances, environmental considerations, and other factors also might make it impractical or undesirable to use insurance proceeds to replace a property after it has been damaged or destroyed. In addition, if the damaged properties are subject to recourse indebtedness, we would continue to be liable for the indebtedness, even if these properties were irreparably damaged. Furthermore, we may not be able to obtain adequate insurance coverage at reasonable costs in the future, as the costs associated with property and casualty renewals may be higher than anticipated.

In addition, insurance risks associated with potential terrorist acts could sharply increase the premiums we pay for coverage against property and casualty claims. Under the Terrorism Risk Insurance Act ("TRIA"), which is effective through 2020, United States insurers cannot exclude conventional (non-CBNR) terrorism losses. These insurers must make terrorism insurance available under their property and casualty insurance policies; however, this legislation does not regulate the pricing of such insurance. In some cases, mortgage lenders may insist that commercial property owners purchase coverage against terrorism as a condition of providing mortgage loans. Such insurance policies may not be available at a reasonable cost, which could inhibit our ability to finance or refinance our properties. In such instances, we may be required to provide other financial support, either through financial assurances or self-insurance, to cover potential losses. We may not have adequate coverage for such losses.

We have one property located in California, an area that is especially susceptible to earthquakes, which represents approximately 3.1% of our ALR as of December 31, 2017. If an earthquake materially damages, destroys or impairs the use by tenants of this property and the loss is not fully insured, the value of the asset will be reduced by such uninsured loss. Also, to the extent we must pay unexpectedly large amounts for insurance, we could suffer reduced earnings that would result in lower distributions to our stockholders.

Should one of our insurance carriers become insolvent, we would be adversely affected.

We carry several different lines of insurance, placed with several large insurance carriers. If any one of these large insurance carriers were to become insolvent, we would be forced to replace the existing insurance coverage with another suitable carrier, and any outstanding claims would be at risk for collection. In such an event, we cannot be certain that we would be able to replace the coverage at similar or otherwise favorable terms. Replacing insurance coverage at unfavorable rates and the potential of uncollectible claims due to carrier insolvency could adversely impact our results of operations and cash flows.

Our joint venture investments could be adversely affected by a lack of sole decision-making authority and our reliance on joint venture partners’ financial condition.

From time to time we enter into strategic joint ventures with institutional investors to acquire, develop, improve, or dispose of properties, thereby reducing the amount of capital required by us to make investments and diversifying our capital sources for growth. Such joint venture investments involve risks not otherwise present in a wholly-owned property, development, or redevelopment project, including but not limited to the following:

in these investments, we may not have exclusive control over the development, financing, leasing, management, and other aspects of the project, which may prevent us from taking actions that are opposed by our joint venture partners;
joint venture agreements often restrict the transfer of a co-venturer’s interest or may otherwise restrict our ability to sell the interest when we desire or on advantageous terms;

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we may not be in a position to exercise sole decision-making authority regarding the property or joint venture, which could create the potential risk of creating impasses on decisions, such as acquisitions or sales;
such co-venturer may, at any time, have economic or business interests or goals that are, or that may become, inconsistent with our business interests or goals;
such co-venturer may be in a position to take action contrary to our instructions, requests, policies or objectives, including our current policy with respect to maintaining our qualification as a REIT;
the possibility that our co-venturer in an investment might become bankrupt, which would mean that we and any other remaining co-venturers would generally remain liable for the joint venture’s liabilities;
our relationships with our co-venturers are contractual in nature and may be terminated or dissolved under the terms of the applicable joint venture agreements and, in such event, we may not continue to own or operate the interests or assets underlying such relationship or may need to purchase such interests or assets at a premium to the market price to continue ownership;
disputes between us and our co-venturers may result in litigation or arbitration that would increase our expenses and prevent our officers and directors from focusing their time and efforts on our business and could result in subjecting the properties owned by the applicable joint venture to additional risk; or
we may, in certain circumstances, be liable for the actions of our co-venturers, and the activities of a joint venture could adversely affect our ability to qualify as a REIT, even though we do not control the joint venture.

Any of the above might subject a property to liabilities in excess of those contemplated and thus reduce the returns to our investors.

Costs of complying with governmental laws and regulations may reduce our net income and the cash available for distributions to our stockholders.

All real property and the operations conducted on real property are subject to federal, state, and local laws and regulations relating to environmental protection and human health and safety. Tenants’ ability to operate and to generate income to pay their lease obligations may be affected by permitting and compliance obligations arising under such laws and regulations. Some of these laws and regulations may impose joint and several liability on tenants, owners, or operators for the costs to investigate or remediate contaminated properties, regardless of fault or whether the acts causing the contamination were legal. In addition, the presence of hazardous substances, or the failure to properly remediate these substances, may hinder our ability to sell, rent, or pledge such property as collateral for future borrowings.

Compliance with new laws or regulations or stricter interpretation of existing laws by agencies or the courts may require us to incur material expenditures or may impose additional liabilities on us, including environmental liabilities. In addition, there are various local, state, and federal fire, health, life-safety, and similar regulations with which we may be required to comply, and which may subject us to liability in the form of fines or damages for noncompliance. Any material expenditures, liabilities, fines, or damages we must pay will reduce our cash flows and ability to make distributions and may reduce the value of our stockholders’ investment.

As the present or former owner or operator of real property, we could become subject to liability for environmental contamination, regardless of whether we caused such contamination.

Under various federal, state, and local environmental laws, ordinances, and regulations, a current or former owner or operator of real property may be liable for the cost to remove or remediate hazardous or toxic substances, wastes, or petroleum products on, under, from, or in such property. These costs could be substantial and liability under these laws may attach whether or not the owner or operator knew of, or was responsible for, the presence of such contamination. As a result our tenants’ operations, the existing condition of land when we buy it, operations in the vicinity of our properties such as the presence of underground storage tanks or activities of unrelated third parties may affect our properties. Even if more than one party may have been responsible for the contamination, each liable party may be held entirely responsible for all of the clean-up costs incurred. In addition, third parties may sue the owner or operator of a property for damages based on personal injury, natural resources, or property damage and/or for other costs, including investigation and clean-up costs, resulting from the environmental contamination. The presence of contamination on one of our properties, or the failure to properly remediate a contaminated property, could give rise to a lien in favor of the government for costs it may incur to address the contamination, or otherwise adversely affect our ability to sell or lease the property or borrow using the property as collateral. In addition, if contamination is discovered on our properties, environmental laws may impose restrictions on the manner in which property may be used or businesses may be operated, and these restrictions may require substantial expenditures or prevent us from entering into leases with prospective tenants.

Some of our properties are adjacent to or near other properties that have contained or currently contain underground storage tanks used to store petroleum products or other hazardous or toxic substances. In addition, certain of our properties are on, adjacent to, or near sites upon which others, including former owners or tenants of our properties, have engaged, or may in the future engage, in activities that have released or may have released petroleum products or other hazardous or toxic substances.

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The cost of defending against claims of liability, of remediating any contaminated property, or of paying personal injury claims could reduce the amounts available for distribution to our stockholders.

As the owner of real property, we could become subject to liability for adverse environmental conditions in the buildings on our property.

Some of our properties have building materials that contain asbestos. Environmental laws require that owners or operators of buildings containing asbestos properly manage and maintain the asbestos, adequately inform or train those who may come into contact with asbestos, and undertake special precautions, including removal or other abatement, in the event that asbestos is disturbed during building renovation or demolition. These laws may impose fines and penalties on building owners or operators who fail to comply with these requirements. In addition, environmental laws and the common law may allow third parties to seek recovery from owners or operators for personal injury associated with exposure to asbestos.

The properties also may contain or develop harmful mold or suffer from other air quality issues. Any of these materials or conditions could result in liability for personal injury and costs of remediating adverse conditions, which could have an adverse effect on our cash flows and ability to make distributions to our stockholders.

As the owner of real property, we could become subject to liability for a tenant’s failure to comply with environmental requirements regarding the handling and disposal of regulated substances and wastes or for non-compliance with health and safety requirements, which requirements are subject to change.

Some of our tenants may handle regulated substances and wastes as part of their operations at our properties. Environmental laws regulate the handling, use, and disposal of these materials and subject our tenants, and potentially us, to liability resulting from non-compliance with these requirements. The properties in our portfolio also are subject to various federal, state, and local health and safety requirements, such as state and local fire requirements. If we or our tenants fail to comply with these various requirements, we might incur governmental fines or private damage awards. Moreover, we do not know whether or the extent to which existing requirements or their enforcement will change or whether future requirements will require us to make significant unanticipated expenditures, either of which could materially and adversely impact our financial condition, results of operations, cash flows, cash available for distribution to stockholders, the market price of our common stock, and our ability to satisfy our debt service obligations. If our tenants become subject to liability for noncompliance, it could affect their ability to make rental payments to us.

We depend on key personnel, each of whom would be difficult to replace.

Our continued success depends to a significant degree upon the continued contributions of certain key personnel, each of whom would be difficult to replace. Our ability to retain our management team, or to attract suitable replacements should any member of the management team leave, is dependent on the competitive nature of the employment market. The loss of services of one or more key members of our management team could adversely affect our results of operations and slow our future growth. While we have planned for the succession of each of the key members of our management team, our succession plans may not effectively prevent any adverse effects from the loss of any member of our management team. We have not obtained and do not expect to obtain “key person” life insurance on any of our key personnel.

We may be subject to litigation, which could have a material adverse effect on our financial condition.

From time to time, we may be subject to legal action arising in the ordinary course of our business or otherwise. Such action could result in additional expenses which, if uninsured, could adversely impact our earnings and cash flows, thereby impacting our ability to service our debt and make quarterly distributions to our stockholders. There can be no assurance that our insurance policies will fully cover any payments or legal costs associated with any potential legal action. Further, the ultimate resolution of such action could impact the availability or cost of some of our insurance coverage, which could adversely impact our results of operations and cash flows, expose us to increased risks that would be uninsured, and/or adversely impact our ability to attract officers and directors.

If our disclosure controls or internal control over financial reporting is not effective, investors could lose confidence in our reported financial information, which could adversely affect the perception of our business and the trading price of our common stock.

The design and effectiveness of our disclosure controls and procedures and our internal control over financial reporting may not prevent all errors, misstatements, or misrepresentations. Although management will continue to review the effectiveness of our disclosure controls and procedures and our internal control over financial reporting, there can be no guarantee that these processes will be effective in accomplishing all control objectives all of the time. Deficiencies, including any material weakness, in our internal control over financial reporting which may occur in the future could result in misstatements of our results of operations,

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restatements of our financial statements, a decline in the trading price of our common stock, or otherwise materially adversely affect our business, reputation, results of operations, financial condition, or liquidity.

Compliance or failure to comply with the Americans with Disabilities Act and other similar regulations could result in substantial costs.

Under the Americans with Disabilities Act, places of public accommodation must meet certain federal requirements related to access and use by disabled persons. Noncompliance could result in the imposition of fines by the federal government or the award of damages to private litigants. If we are required to make unanticipated expenditures to comply with the Americans with Disabilities Act, including removing access barriers, then our cash flows and the amounts available for distributions to our stockholders may be adversely affected. Although we believe that our properties are currently in material compliance with these regulatory requirements, we have not conducted an audit or investigation of all of our properties to determine our compliance, and we cannot predict the ultimate cost of compliance with the Americans with Disabilities Act or other legislation. If one or more of our properties is not in compliance with the Americans with Disabilities Act or other legislation, then we would be required to incur additional costs to achieve compliance. If we incur substantial costs to comply with the Americans with Disabilities Act or other legislation, our financial condition, results of operations, the market price of our common stock, cash flows, and our ability to satisfy our debt obligations and to make distributions to our stockholders could be adversely affected.

Risks Related to Our Organization and Structure

Our organizational documents contain provisions that may have an anti-takeover effect, which may discourage third parties from conducting a tender offer or seeking other change of control transactions that could involve a premium price for our common stock or otherwise benefit our stockholders.

Our charter and bylaws contain provisions that may have the effect of delaying, deferring, or preventing a change in control of our company (including an extraordinary transaction such as a merger, tender offer, or sale of all or substantially all of our assets) that might provide a premium price for our common stock or otherwise be in the best interest of our stockholders. These provisions include, among other things, restrictions on the ownership and transfer of our stock, advance notice requirements for stockholder nominations for directors and other business proposals, and our board of directors’ power to classify or reclassify unissued shares of common or preferred stock and issue additional shares of common or preferred stock.

In order to preserve our REIT status, our charter limits the number of shares a person may own, which may discourage a takeover that could result in a premium price for our common stock or otherwise benefit our stockholders.

Our charter, with certain exceptions, authorizes our directors to take such actions as are necessary and desirable to preserve our qualification as a REIT for federal income tax purposes. Unless exempted by our board of directors, no person may actually or constructively own more than 9.8% (by value or number of shares, whichever is more restrictive) of the outstanding shares of our common stock or the outstanding shares of any class or series of our preferred stock, which may inhibit large investors from desiring to purchase our stock. This restriction may have the effect of delaying, deferring, or preventing a change in control, including an extraordinary transaction (such as a merger, tender offer, or sale of all or substantially all of our assets) that might provide a premium price for our common stock or otherwise be in the best interest of our stockholders.

Our board of directors can take many actions without stockholder approval.

Our board of directors has overall authority to oversee our operations and determine our major corporate policies. This authority includes significant flexibility. For example, our board of directors can do the following:

within the limits provided in our charter, prevent the ownership, transfer, and/or accumulation of stock in order to protect our status as a REIT or for any other reason deemed to be in our best interest and the interest of our stockholders;
issue additional shares of stock without obtaining stockholder approval, which could dilute the ownership of our then-current stockholders;
amend our charter to increase or decrease the aggregate number of shares of stock or the number of shares of stock of any class or series that we have authority to issue, without obtaining stockholder approval;
classify or reclassify any unissued shares of our common or preferred stock and set the preferences, rights and other terms of such classified or reclassified shares, without obtaining stockholder approval;
amend our bylaws;
employ and compensate affiliates;
direct our resources toward investments, which ultimately may not appreciate over time;
change creditworthiness standards with respect to our tenants;
change our investment or borrowing policies;

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determine that it is no longer in our best interest to attempt to qualify, or to continue to qualify, as a REIT; and
suspend, modify or terminate the dividend reinvestment plan.

Any of these actions could increase our operating expenses, impact our ability to make distributions, or reduce the value of our assets without giving our stockholders the right to vote.

Our charter permits our board of directors to issue stock with terms that may subordinate the rights of our common stockholders, which may discourage a third party from acquiring us in a manner that could result in a premium price for our common stock or otherwise benefit our stockholders.

Our board of directors may, without stockholder approval, issue authorized but unissued shares of our common or preferred stock and amend our charter to increase or decrease the aggregate number of shares of stock or the number of shares of stock of any class or series that we have authority to issue. In addition, our board of directors may, without stockholder approval, classify or reclassify any unissued shares of our common or preferred stock and set the preferences, rights and other terms of such classified or reclassified shares. Thus, our board of directors could authorize the issuance of preferred stock with terms and conditions that could have priority with respect to distributions and amounts payable upon liquidation over the rights of the holders of our common stock. Such preferred stock also could have the effect of delaying, deferring, or preventing a change in control, including an extraordinary transaction (such as a merger, tender offer, or sale of all or substantially all of our assets) that might provide a premium price for our common stock, or otherwise be in the best interest of our stockholders.

Our board of directors could elect for us to be subject to certain Maryland law limitations on changes in control that could have the effect of preventing transactions in the best interest of our stockholders.

Certain provisions of Maryland law may have the effect of inhibiting a third party from making a proposal to acquire us or of impeding a change of control under certain circumstances that otherwise could provide the holders of shares of our common stock with the opportunity to realize a premium over the then-prevailing market price of such shares, including:

“business combination” provisions that, subject to limitations, prohibit certain business combinations between us and an “interested stockholder” (defined generally as any person who beneficially owns 10% or more of the voting power of our outstanding voting stock or any affiliate or associate of ours who, at any time within the two-year period prior to the date in question, was the beneficial owner of 10% or more of the voting power of our then outstanding stock) or an affiliate thereof for five years after the most recent date on which the stockholder becomes an interested stockholder and thereafter impose supermajority voting requirements on these combinations; and
“control share” provisions that provide that “control shares” of our company (defined as shares which, when aggregated with other shares controlled by the stockholder, except solely by virtue of a revocable proxy, entitle the stockholder to exercise one of three increasing ranges of voting power in electing directors) acquired in a “control share acquisition” (defined as the direct or indirect acquisition of ownership or control of “control shares”) have no voting rights except to the extent approved by our stockholders by the affirmative vote of at least two-thirds of all the votes entitled to be cast on the matter, excluding all interested shares.

Our bylaws contain a provision exempting any acquisition by any person of shares of our stock from the control share acquisition statute, and our board of directors has adopted a resolution exempting any business combination with any person from the business combination statute. As a result, these provisions currently will not apply to a business combination or control share acquisition involving our company. However, our board of directors may opt into the business combination provisions and the control share provisions of Maryland law in the future.

Our charter, our bylaws, the limited partnership agreement of our operating partnership, and Maryland law also contain other provisions that may delay, defer, or prevent a transaction or a change of control that might involve a premium price for our common stock or otherwise be in the best interest of our stockholders. In addition, the employment agreements with our named executive officers contain, and grants under our incentive plan also may contain, change-in-control provisions that might similarly have an anti-takeover effect, inhibit a change of our management, or inhibit in certain circumstances tender offers for our common stock or proxy contests to change our board.

Our rights and the rights of our stockholders to recover claims against our directors and officers are limited, which could reduce our recovery and our stockholders’ recovery against them if they negligently cause us to incur losses.

Maryland law provides that a director or officer has no liability in that capacity if he or she performs his or her duties in good faith, in a manner he or she reasonably believes to be in our best interest and with the care that an ordinarily prudent person in a like position would use under similar circumstances. Our charter eliminates our directors’ and officers’ liability to us and our stockholders for money damages except for liability resulting from actual receipt of an improper benefit or profit in money, property,

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or services or active and deliberate dishonesty established by a final judgment and which is material to the cause of action. Our charter and bylaws require us to indemnify our directors and officers to the maximum extent permitted by Maryland law for any claim or liability to which they may become subject or which they may incur by reason of their service as directors or officers, except to the extent that the act or omission of the director or officer was material to the matter giving rise to the proceeding and was committed in bad faith or was the result of active and deliberate dishonesty, the director or officer actually received an improper personal benefit in money, property, or services, or, in the case of any criminal proceeding, the director or officer had reasonable cause to believe that the act or omission was unlawful. As a result, we and our stockholders may have more limited rights against our directors and officers than might otherwise exist under common law, which could reduce our and our stockholders’ recovery from these persons if they act in a negligent manner. In addition, we may be obligated to fund the defense costs incurred by our directors and officers (as well as by our employees and agents) in some cases.

Risks Related to Our Common Stock

Any change in our dividend policy could have a material adverse effect on the market price of our common stock.

Distributions are authorized and determined by our board of directors in its sole discretion and depend upon a number of factors, including:

cash available for distribution;
our results of operations and anticipated future results of operations;
our financial condition, especially in relation to our anticipated future capital needs of our properties;
the level of reserves we establish for future capital expenditures;
the distribution requirements for REITs under the Code;
the level of distributions paid by comparable listed REITs;
our operating expenses; and
other factors our board of directors deems relevant.

We expect to continue to pay quarterly distributions to our stockholders; however, we bear all expenses incurred by our operations, and our funds generated by operations, after deducting these expenses, may not be sufficient to cover desired levels of distributions to our stockholders. Any change in our distribution policy could have a material adverse effect on the market price of our common stock.

There are significant price and volume fluctuations in the public markets, including on the exchange which we listed our common stock.

The U.S. stock markets, including the NYSE on which our common stock is listed, have historically experienced significant price and volume fluctuations. The market price of our common stock may be highly volatile and could be subject to wide fluctuations and investors in our common stock may experience a decrease in the value of their shares, including decreases unrelated to our operating performance or prospects. If the market price of our common stock declines significantly, stockholders may be unable to resell their shares at or above their purchase price. We cannot assure stockholders that the market price of our common stock will not fluctuate or decline significantly in the future. Some of the factors that could negatively affect our stock price or result in fluctuations in the price or trading volume of our common stock include, but are not limited to, the following:

actual or anticipated variations in our quarterly operating results;
changes in our earnings estimates or publication of research reports about us or the real estate industry, although no assurance can be given that any research reports about us will be published or the accuracy of such reports;
changes in our dividend policy;
future sales of substantial amounts of our common stock by our existing or future stockholders;
increases in market interest rates, which may lead purchasers of our stock to demand a higher yield;
changes in market valuations of similar companies;
adverse market reaction to any increased indebtedness we incur in the future;
additions or departures of key personnel;
actions by institutional stockholders;
material, adverse litigation judgments;
speculation in the press or investment community; and
general market and economic conditions.


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Future offerings of debt securities, which would be senior to our common stock upon liquidation, or equity securities, which would dilute our existing stockholders and may be senior to our common stock for the purposes of distributions, may adversely affect the market price of our common stock.

We may attempt to increase our capital resources by making additional offerings of debt or equity securities, including medium term notes, senior or subordinated notes and classes of preferred or common stock. Upon liquidation, holders of our debt securities and shares of preferred stock and lenders with respect to other borrowings will receive a distribution of our available assets prior to the holders of our common stock. Additional equity offerings may dilute the holdings of our existing stockholders or reduce the market price of our common stock or both. Because our decision to issue securities in any future offering will depend on market conditions and other factors beyond our control, we cannot predict or estimate the amount, timing or nature of our future offerings. Thus, our stockholders bear the risk of our future offerings reducing the market price of our common stock and diluting their proportionate ownership.

Market interest rates may have an effect on the value of our common stock.

One of the factors that investors may consider in deciding whether to buy or sell our common stock is our distribution rate as a percentage of our share price, relative to market interest rates. If market interest rates increase, prospective investors may desire a higher yield on our common stock or seek securities paying higher dividends or yields. It is likely that the public valuation of our common stock will be based primarily on our earnings and cash flows and not from the underlying appraised value of the properties themselves. As a result, interest rate fluctuations and capital market conditions can affect the market value of our common stock. For instance, if interest rates rise, it is possible that the market price of our common stock will decrease, because potential investors may require a higher dividend yield on our common stock as market rates on interest-bearing securities, such as bonds, rise.

If securities analysts do not publish research or reports about our business or if they downgrade our common stock or our sector, the price of our common stock could decline.

The trading market for our common stock relies in part on the research and reports that industry or financial analysts publish about us or our business. We do not control these analysts. Furthermore, if one or more of the analysts who do cover us downgrades our shares or our industry, or the stock of any of our competitors, the price of our shares could decline. If one or more of these analysts ceases coverage of our company, we could lose attention in the market, which in turn could cause the price of our common stock to decline.

Federal Income Tax Risks

Our failure to qualify as a REIT could adversely affect our operations and our ability to make distributions.

We are owned and operated in a manner intended to qualify us as a REIT for U.S. federal income tax purposes; however, we do not have a ruling from the IRS as to our REIT status. In addition, we own all of the common stock of a subsidiary that has elected to be treated as a REIT, and if our subsidiary REIT were to fail to qualify as a REIT, it is possible that we also would fail to qualify as a REIT unless we (or the subsidiary REIT) could qualify for certain relief provisions. Our qualification and the qualification of our subsidiary REIT as a REIT will depend on satisfaction, on an annual or quarterly basis, of numerous requirements set forth in highly technical and complex provisions of the Code for which there are only limited judicial or administrative interpretations. A determination as to whether such requirements are satisfied involves various factual matters and circumstances not entirely within our control. The fact that we hold substantially all of our assets through our operating partnership and its subsidiaries further complicates the application of the REIT requirements for us. No assurance can be given that we, or our subsidiary REIT, will qualify as a REIT for any particular year.

If we, or our subsidiary REIT, were to fail to qualify as a REIT in any taxable year for which a REIT election has been made, the non-qualifying REIT would not be allowed a deduction for dividends paid to its stockholders in computing our taxable income and would be subject to U.S. federal income tax on its taxable income at corporate rates. Moreover, unless the non-qualifying REIT were to obtain relief under certain statutory provisions, the non-qualifying REIT also would be disqualified from treatment as a REIT for the four taxable years following the year during which qualification is lost. This treatment would reduce our net earnings available for investment or distribution to our stockholders because of the additional tax liability to us for the years involved. As a result of such additional tax liability, we might need to borrow funds or liquidate certain investments on terms that may be disadvantageous to us in order to pay the applicable tax.


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Index to Financial Statements

Changes in tax laws may eliminate the benefits of REIT status, prevent us from maintaining our qualification as a REIT, or otherwise adversely affect our stockholders.

New legislation, regulations, administrative interpretations or court decisions could change the tax laws or interpretations of the tax laws regarding qualification as a REIT, or the federal income tax consequences of that qualification, in a manner that is materially adverse to our stockholders. In particular, the Tax Cuts and Jobs Act ("H.R. 1"), which generally takes effect for taxable years beginning on or after January 1, 2018 (subject to certain exceptions), makes many significant changes to the U.S. federal income tax laws that will profoundly impact the taxation of individuals and corporations (including both regular C corporations and corporations that have elected to be taxed as REITs). A number of changes that affect noncorporate taxpayers will expire at the end of 2025 unless Congress acts to extend them. These changes will impact us and our stockholders in various ways, some of which may be adverse or potentially adverse compared to prior law. H.R. 1 may also have an adverse effect on our current or potential tenants or the real estate industry generally, which could have an indirect impact on us. For example, H.R. 1 limits the ability of corporations to utilize net operating loss carryforwards and limits the deductibility of business interest for all taxpayers, subject to an exception for taxpayers that are engaged in certain specified real property trades or business who make an irrevocable election not to apply the limitation to a particular real property trade or business and to depreciate their real property investments held in such trade or business using the less favorable alternative depreciation system. To date, the IRS has issued only limited guidance with respect to certain of the provisions of H.R. 1, and there are numerous interpretive issues that will require guidance. It is highly likely that technical corrections legislation will be needed to clarify certain aspects of the new law and give proper effect to Congressional intent. There can be no assurance, however, that technical clarifications or changes needed to prevent unintended or unforeseen tax consequences will be enacted by Congress in the near future.

Additional changes to tax laws are likely to continue to occur in the future. Accordingly, there is no assurance that we can continue to operate with the current benefits of our REIT status or that a change to the tax laws will not adversely affect the taxation of our stockholders. If there is a change in the tax laws that prevents us from qualifying as a REIT, that eliminates REIT status generally, or that requires REITs generally to pay corporate level income taxes, our results of operations may be adversely affected and we may not be able to make the same level of distributions to our stockholders, and changes to the taxation of our stockholders could have an adverse effect on an investment in our common stock.

Even if we qualify as a REIT, we may incur certain tax liabilities that would reduce our cash flow and impair our ability to make distributions.

Even if we maintain our status as a REIT, we may be subject to U.S. federal income taxes or state taxes, which would reduce our cash available for distribution to our stockholders. For example, we will be subject to federal income tax on any undistributed taxable income. Further, if we fail to distribute during each calendar year at least the sum of (a) 85% of our ordinary income for such year, (b) 95% of our net capital gain income for such year, and (c) any undistributed taxable income from prior periods, we will be subject to a 4% excise tax on the excess of the required distribution over the sum of (i) the amounts actually distributed by us, plus (ii) retained amounts on which we pay income tax at the corporate level. If we realize net income from foreclosure properties that we hold primarily for sale to customers in the ordinary course of business, we must pay tax thereon at the highest corporate income tax rate, and if we sell a property, other than foreclosure property, that we are determined to have held for sale to customers in the ordinary course of business, any gain realized would be subject to a 100% “prohibited transaction” tax. The determination as to whether or not a particular sale is a prohibited transaction depends on the facts and circumstances related to that sale. We cannot guarantee that sales of our properties would not be prohibited transactions unless we comply with certain safe-harbor provisions. The need to avoid prohibited transactions could cause us to forgo or defer sales of properties that might otherwise be in our best interest to sell. In addition, we own interests in certain taxable REIT subsidiaries that are subject to federal income taxation and we and our subsidiaries may be subject to state and local taxes on our income or property.

Differences between the recognition of taxable income and the actual receipt of cash could require us to sell assets or borrow funds on a short-term or long-term basis to meet the distribution requirements of the Code.

We intend to make distributions to our stockholders to comply with the requirements of the Code for REITs and to minimize or eliminate our corporate tax obligations; however, differences between the recognition of taxable income and the actual receipt of cash could require us to sell assets or borrow funds on a short-term or long-term basis to meet the distribution requirements of the Code. Certain types of assets generate substantial disparity between taxable income and available cash, such as real estate that has been financed through financing structures which require some or all of available cash flows to be used to service borrowings. In addition, changes made by H.R. 1 may require us to accrue certain income for U.S. federal income tax purposes no later than when such income is taken into account as revenue on our financial statements, unless the income is already subject to certain special methods of accounting under the Code. This could cause us to recognize taxable income prior to the receipt of the associated cash. H.R. 1 also includes limitations on the deductibility of certain compensation paid to our executives, certain interest payments, and certain net operating loss carryfowards, each of which could potentially increase our taxable income and our required distributions.

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As a result, the requirement to distribute a substantial portion of our taxable income could cause us to: (1) sell assets in adverse market conditions, (2) borrow on unfavorable terms, or (3) distribute amounts that would otherwise be invested in future acquisitions, capital expenditures, or repayment of debt, in order to comply with REIT requirements. Any such actions could increase our costs and reduce the value of our common stock. Further, we may be required to make distributions to our stockholders when it would be more advantageous to reinvest cash in our business or when we do not have funds readily available for distribution. Compliance with REIT qualification requirements may, therefore, hinder our ability to operate solely on the basis of maximizing profits.

Distributions made by REITs do not qualify for the reduced tax rates that apply to certain other corporate distributions.

The maximum income tax rate for dividends paid by corporations to individuals, trusts and estates is generally 20%. Dividends paid by REITs, however, (other than distributions we properly designate as capital gain dividends or as qualified dividend income) are taxed at the normal income tax rate applicable to the individual recipient (currently a maximum rate of 37%) rather than the 20% preferential rate, subject to a deduction equal to 20% of the amount of certain “qualified REIT dividends” that is available to noncorporate taxpayers through 2025, which has the effect of reducing the maximum effective income tax rate on qualified REIT dividends to 29.6%. The more favorable rates applicable to regular corporate dividends could cause investors who are individuals to perceive investments in REITs to be relatively less attractive than investments in non-REIT corporations that make distributions, particularly after the scheduled expiration of the 20% deduction applicable to qualified REIT dividends on December 31, 2025.

A recharacterization of transactions undertaken by our operating partnership may result in lost tax benefits or prohibited transactions, which would diminish cash distributions to our stockholders, or even cause us to lose REIT status.

The IRS could recharacterize transactions consummated by our operating partnership, which could result in the income realized on certain transactions being treated as gain realized from the sale of property that is held as inventory or otherwise held primarily for the sale to customers in the ordinary course of business. In such event, the gain would constitute income from a prohibited transaction and would be subject to a 100% tax. If this were to occur, our ability to make cash distributions to our stockholders would be adversely affected. Moreover, our operating partnership may purchase properties and lease them back to the sellers of such properties. While we will use our best efforts to structure any such sale-leaseback transaction such that the lease will be characterized as a “true lease,” thereby allowing us to be treated as the owner of the property for federal income tax purposes, we can give stockholders no assurance that the IRS will not attempt to challenge such characterization. In the event that any such sale-leaseback transaction is challenged and recharacterized as a financing transaction or loan for U.S. federal income tax purposes, deductions for depreciation and cost recovery relating to such property would be disallowed. If a sale-leaseback transaction were so recharacterized, the amount of our adjusted REIT taxable income could be recalculated, which might cause us to fail to meet the distribution requirement for a taxable year. We also might fail to satisfy the REIT qualification asset tests or income tests and, consequently, lose our REIT status. Even if we maintain our status as a REIT, an increase in our adjusted REIT taxable income could cause us to be subject to additional federal and state income and excise taxes. Any federal or state taxes we pay will reduce our cash available for distribution to our stockholders.

We face possible adverse changes in tax laws including changes to state tax laws regarding the treatment of REITs and their stockholders, which may result in an increase in our tax liability.

From time to time, changes in state and local tax laws or regulations are enacted, including changes to a state’s treatment of REITs and their stockholders, which may result in an increase in our tax liability. Any shortfall in tax revenues for states and municipalities may lead to an increase in the frequency and size of such changes. If such changes occur, we may be required to pay additional taxes on our assets or income. These increased tax costs could adversely affect our financial condition and results of operations and the amount of cash available for payment of dividends.

Risks Associated with Debt Financing

We have incurred and are likely to continue to incur mortgage and other indebtedness, which may increase our business risks.

As of December 31, 2017, we had total outstanding indebtedness of approximately $1.7 billion and a total debt to gross assets ratio of 34.3%. Although the instruments governing our unsecured and secured indebtedness limit our ability to incur additional indebtedness, these restrictions are subject to a number of qualifications and exceptions and, under certain circumstances, debt incurred in compliance with these restrictions could be substantial. We may incur additional indebtedness to acquire properties or other real estate-related investments, to fund property improvements, and other capital expenditures or for other corporate purposes, such as to repurchase shares of our common stock through repurchase programs that our board of directors have authorized or to fund future distributions to our stockholders.


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Significant borrowings by us increase the risks of an investment in us. Our ability to make payments on and to refinance our indebtedness and to fund our operations, working capital and capital expenditures, depends on our ability to generate cash in the future. Our cash flow is subject to general economic, industry, financial, competitive, operating, legislative, regulatory and other factors, many of which are beyond our control. If there is a shortfall between the cash flow from properties and the cash flow needed to service our indebtedness, then the amount available for distributions to stockholders may be reduced.

Our failure to pay amounts due with respect to any of our indebtedness may constitute an event of default under the instrument governing that indebtedness, which could permit the holders of that indebtedness to require the immediate repayment of that indebtedness in full and, in the case of secured indebtedness, could allow them to sell the collateral securing that indebtedness and use the proceeds to repay that indebtedness. For example, defaults on indebtedness secured by a property may result in lenders initiating foreclosure actions. Although we believe no such instances exist as of December 31, 2017, in those cases, we could lose the property securing the loan that is in default. For tax purposes, a foreclosure of any of our properties would be treated as a sale of the property for a purchase price equal to the outstanding balance of the debt secured by the mortgage. If the outstanding balance of the debt secured by the mortgage exceeds our tax basis in the property, we would recognize taxable income on foreclosure, but we would not receive any cash proceeds.

Moreover, any acceleration of, or default, with respect to any of our indebtedness could, in turn, constitute an event of default under other debt instruments or agreements, thereby resulting in the acceleration and required repayment of that other indebtedness. In addition, while we do not currently anticipate doing so, we may give full or partial guarantees to lenders of mortgage debt on behalf of the entities that own our properties if circumstances warrant that action. If we were to give a guaranty on behalf of an entity that owns one of our properties, we would be responsible to the lender for satisfaction of the debt if it were not paid by such entity. If any mortgages or other indebtedness contain cross-collateralization or cross-default provisions, a default on a single loan could affect multiple properties. If any of our properties are foreclosed on due to a default, our ability to pay cash distributions to our stockholders will be limited.

We cannot give any assurance that our business will generate sufficient cash flow from operations or that future sources of cash will be available to us in an amount sufficient to enable us to pay amounts due on our indebtedness or to fund our other liquidity needs.

We may need to refinance all or a portion of our indebtedness on or before maturity. Our ability to refinance our indebtedness or obtain additional financing will depend on, among other things our financial condition, results of operations and market conditions at the time; and restrictions in the agreements governing our indebtedness.

As a result, we may not be able to refinance our indebtedness on commercially reasonable terms, or at all. If we do not generate sufficient cash flow from operations, and additional borrowings or refinancings or proceeds of assets sales or other sources of cash are not available to us, we may not have sufficient cash to enable us to meet all of our obligations. Accordingly, if we cannot service our indebtedness, we may have to take actions such as seeking additional equity financing, delaying capital expenditures or strategic acquisitions and alliances. Any of these events or circumstances could have a material adverse effect on our financial condition, results of operations, cash flows, the trading price of our securities and our ability to satisfy our debt service obligations.

High mortgage rates may make it difficult for us to finance or refinance properties, which could reduce the number of properties we can acquire, our net income, and the amount of cash distributions we can make.

If mortgage debt is unavailable at reasonable rates, we may not be able to finance the purchase of properties. If we place mortgage debt on properties, we run the risk of being unable to refinance the properties when the loans become due, or of being unable to refinance on favorable terms. If interest rates are higher when we refinance our properties, our income could be reduced. We may be unable to refinance properties. If any of these events occur, our cash flow could be reduced. This, in turn, could reduce cash available for distribution to our stockholders and may hinder our ability to raise more capital by issuing more stock or by borrowing more money.

Agreements governing our existing indebtedness contain, and future financing arrangements will likely contain, restrictive covenants relating to our operations, which could limit our ability to make distributions to our stockholders.

We are subject to certain restrictions pursuant to the restrictive covenants of our outstanding indebtedness, which may affect our distribution and operating policies and our ability to incur additional debt. Loan documents evidencing our existing indebtedness contain, and loan documents entered into in the future will likely contain, certain operating covenants that limit our ability to further mortgage the property or discontinue insurance coverage. In addition, the agreements governing our existing indebtedness contain financial covenants, including certain coverage ratios and limitations on our ability to incur secured and unsecured debt, make dividend payments, sell all or substantially all of our assets, and engage in mergers and consolidations and certain acquisitions.

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Covenants under our existing indebtedness do, and under any future indebtedness likely will, restrict our ability to pursue certain business initiatives or certain acquisition transactions. In addition, failure to meet any of these covenants, including the financial coverage ratios, could cause an event of default under and/or accelerate some or all of our indebtedness, which would have a material adverse effect on us.

Increases in interest rates would increase the amount of our variable-rate debt payments and could limit our ability to pay dividends to our stockholders.

Currently, the outstanding draws on our $500 Million Unsecured 2015 Line of Credit are our only debt instruments that bear interest at a floating rate. All of our other debt is either fixed rate or has been effectively fixed through interest rate swap agreements. In addition, the outstanding draws under the $500 Million Unsecured 2015 Line of Credit, are subject to various length LIBOR locks; however, increases in interest rates could increase our interest costs associated with this variable rate debt to the extent our current locks expire and new balances are drawn under the facility. Such increases would reduce our cash flows and could impact our ability to pay dividends to our stockholders. In addition, if we are required to repay existing debt during periods of higher interest rates, we may need to sell one or more of our investments in order to repay the debt, which might not permit realization of the maximum return on such investments.

Changes in interest rates could have adverse effects on our cash flows as a result of our interest rate derivative contracts.

We have entered into various interest rate derivative agreements to effectively fix our exposure to interest rates under certain of our existing debt facilities. To the extent interest rates are higher than the fixed rate in the respective contract, we would realize cash savings as compared to other market participants. However, to the extent interest rates are below the fixed rate in the respective contract, we would make higher cash payments than other similar market participants, which would have an adverse effect on our cash flows as compared to other market participants.

Additionally, there is counterparty risk associated with entering into interest rate derivative contracts. Should market conditions lead to insolvency or make a merger necessary for one or more of our counterparties, or potential future counterparties, it is possible that the terms of our interest rate derivative contracts will not be honored in their current form with a replacement counterparty. The potential termination or renegotiation of the terms of the interest rate derivative contracts as a result of changing counterparties through insolvency or merger could result in an adverse impact on our results of operations and cash flows.

A downgrade in our credit rating could materially adversely affect our business and financial condition.

The credit ratings assigned to our debt securities could change based upon, among other things, our results of operations and financial condition. If any of the credit rating agencies that have rated our debt securities downgrades or lowers its credit rating, or if any credit rating agency indicates that it has placed any such rating on a so-called “watch list” for a possible downgrading or lowering or otherwise indicates that its outlook for that rating is negative, it could have a material adverse effect on our costs and availability of capital, which could in turn have a material adverse effect on our financial condition, results of operations, cash flows and our ability to satisfy our debt service obligations.


ITEM 1B.    UNRESOLVED STAFF COMMENTS

There were no unresolved SEC staff comments as of December 31, 2017.


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ITEM 2.    PROPERTIES

Overview

As of December 31, 2017, we owned interests in 67 in-service office properties and approximately 88% of our ALR was generated from select sub-markets located primarily within eight major office markets located in the Eastern-half of the United States: Atlanta, Boston, Chicago, Dallas, Minneapolis, New York, Orlando, and Washington, D.C. As of December 31, 2017 and 2016, our in-service portfolio was 89.7% and 94.2% leased, respectively, with an average lease term remaining as of each period end of approximately seven years. However, the 94.2% leased percentage as of December 31, 2016 decreased to approximately 91.9% on January 1, 2017 when two development properties and one re-development property (totaling approximately 700,000 square feet) were placed into service.

ALR (see Item 1. Business - "Information Regarding Disclosures Presented" above) related to our in-service portfolio was $561.3 million, or $32.84 per leased square foot, as of December 31, 2017 as compared with $576.1 million, or $32.39 per leased square foot, as of December 31, 2016. These rental rates are presented before consideration of the fact that several of our largest tenants self-perform various aspects of their building management; and therefore, we do not count those expenses in our gross rent calculations. If the costs of these functions are added to these leases, our average gross rent as of December 31, 2017, increases to almost $34.00 per leased square foot.

During the fourth quarter of 2017, Piedmont entered into two binding contracts to sell a total of 14 non-strategic properties, which subsequently closed on January 4, 2018 (the "2017 Disposition Portfolio"). As a result, as of the filing date, our portfolio consists of 53 office properties, comprised of approximately 16.5 million rentable square feet which are approximately 91.8% leased. As detailed below, approximately 91% of our ALR is now generated from our eight core markets listed above, with only three projects remaining outside of those core markets. Our average lease term remaining is still approximately seven years and our average lease size is approximately 20,000 square feet. Our diversified tenant base is primarily comprised of investment grade or nationally recognized corporations or governmental agencies, with 64.1% of our ALR derived from such tenants. No tenant accounts for more than 5% of our ALR, and our five largest tenants are State of New York, U.S. Bancorp, Independence Blue Cross, GE, and Nestle.
The tables below include statistics for our in-service properties that we owned directly or through our consolidated joint ventures as of December 31, 2017, after giving effect to the sale of the 2017 Disposition Portfolio. See further discussion of the 2017 Disposition Portfolio in Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations below.

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Property Statistics

The following table shows the geographic diversification of our in-service portfolio as of December 31, 2017 after giving effect to the 2017 Disposition Portfolio:

Location
 
Annualized
Lease Revenue
(in thousands)
 
Rentable Square
Feet
(in thousands)
 
Percentage of
Annualized
Lease Revenue (%)
 
Percent Leased (%)
Washington, D.C.
 
$
69,693

 
1,947

 
13.8

 
72.2

New York
 
68,909

 
1,771

 
13.6

 
98.7

Atlanta
 
59,913

 
2,249

 
11.8

 
96.4

Minneapolis
 
56,000

 
1,833

 
11.0

 
93.8

Dallas
 
55,589

 
2,114

 
11.0

 
93.2

Chicago
 
52,768

 
1,453

 
10.4

 
96.3

Boston
 
48,391

 
1,594

 
9.5

 
98.6

Orlando
 
48,277

 
1,573

 
9.5

 
95.5

Other(1)
 
47,522

 
1,942

 
9.4

 
84.5

 
 
$
507,062

 
16,476

 
100.0

 
91.8


(1) 
Includes 1901 Market Street in Philadelphia, Pennsylvania; 1430 Enclave Parkway and Enclave Place in Houston, Texas; and 800 North Brand Boulevard in Glendale,California.

The following table shows lease expirations of our in-service office portfolio as of December 31, 2017 after giving effect to the 2017 Disposition Portfolio, during each of the next twelve years and thereafter, assuming no exercise of renewal options or termination rights:

Year of Lease Expiration
 
Annualized
Lease Revenue
(in thousands)
 
Percentage of
Annualized
Lease Revenue (%)
Available space
 
$

 

2018
 
38,056

 
7.5

2019
 
58,894

 
11.6

2020
 
43,637

 
8.6

2021
 
30,291

 
6.0

2022
 
39,124

 
7.7

2023
 
31,362

 
6.2

2024
 
54,415

 
10.7

2025
 
21,612

 
4.3

2026
 
27,420

 
5.4

2027
 
45,505

 
9.0

2028
 
34,437

 
6.8

2029
 
21,232

 
4.2

Thereafter
 
61,077

 
12.0

 
 
$
507,062

 
100.0


Certain Restrictions Related to our Properties

Only two of our properties are held as collateral for debt. In addition, 2001 N.W. 64th Street, which was sold subsequent to December 31, 2017 as part of the 2017 Disposition Portfolio, was subject to a ground lease. Refer to Schedule III listed in the index of Item 15(a) of this report, which details the two properties held as collateral for debt facilities and one property subject to a ground lease as of December 31, 2017.

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ITEM 3.    LEGAL PROCEEDINGS

Piedmont is not subject to any material pending legal proceedings. However, we are subject to routine litigation arising in the ordinary course of owning and operating real estate assets. Our management expects that these ordinary routine legal proceedings will be covered by insurance and does not expect these legal proceedings to have a material adverse effect on our financial condition, results of operations, or liquidity. Additionally, management is not aware of any legal proceedings contemplated by governmental authorities.


ITEM 4.    MINE SAFETY DISCLOSURES

Not applicable.

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PART II


ITEM 5.    MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

Market Information and Holders

Our common stock is listed on the New York Stock Exchange under the symbol “PDM.” As of February 20, 2018, there were 10,554 common stockholders of record of our common stock.

The high and low sales prices for our common stock, unadjusted for any dividends declared, and the dividends declared on our outstanding common stock to stockholders during 2017 and 2016 were as follows:

 
2017 Quarters
 
 
First
 
Second
 
Third
 
Fourth
 
High (1)
$
23.08

 
$
22.74

 
$
21.48

 
$
20.54

 
Low (1)
$
20.42

 
$
20.80

 
$
19.75

 
$
19.10

 
Dividend per common share (1)
$
0.21

 
$
0.21

 
$
0.21

 
$
0.71

(2) 
 
 
 
 
 
 
 
 
 
 
2016 Quarters
 
 
First
 
Second
 
Third
 
Fourth
 
High
$
20.49

 
$
21.54

 
$
22.28

 
$
21.76

 
Low
$
16.93

 
$
19.36

 
$
20.34

 
$
18.61

 
Dividend per common share
$
0.21

 
$
0.21

 
$
0.21

 
$
0.21

 

(1) 
The closing sales prices for each period listed above in fiscal year ended December 31, 2017, represent the actual closing prices and have not been adjusted to reflect dividends paid.
(2) 
On December 13, 2017, Piedmont's board of directors declared a special dividend of $0.50 per share. The record date was December 26, 2017, and the payment was made on January 9, 2018.

Performance Graph

The following graph compares the cumulative total return of Piedmont’s common stock with the S&P 500 Index, the FTSE NAREIT Equity REITs Index, and the FTSE NAREIT Equity Office Index for the period beginning on December 31, 2012 through December 31, 2017. The graph assumes a $100 investment in each of Piedmont and the three indices, and the reinvestment of any dividends.


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http://api.tenkwizard.com/cgi/image?quest=1&rid=23&ipage=12073740&doc=16


Comparison of Cumulative Total Return of One or More Companies, Peer Groups, Industry Indices, and/or Broad Markets

 
As of the year ended December 31,
 
2012
2013
2014
2015
2016
2017
Piedmont Office Realty Trust, Inc.
$
100.00

$
95.63

$
113.93

$
119.60

$
138.28

$
138.41

S&P 500
$
100.00

$
132.39

$
150.51

$
152.59

$
170.84

$
208.14

FTSE NAREIT Equity REITs
$
100.00

$
102.47

$
133.35

$
137.61

$
149.33

$
157.14

FTSE NAREIT Equity Office
$
100.00

$
105.57

$
132.87

$
133.25

$
150.80

$
158.71


The performance graph above is being furnished as part of this Annual Report solely in accordance with the requirement under Rule 14a-3(b)(9) to furnish Piedmont’s stockholders with such information and, therefore, is not deemed to be filed, or incorporated by reference in any filing, by Piedmont under the Securities Act of 1933 or the Securities Exchange Act of 1934.


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Purchases of Equity Securities By the Issuer and Affiliated Purchasers

During the quarter ended December 31, 2017, we repurchased and retired 2,937,660 shares of our common stock (at an average price of $19.68(1) per share) as part of our stock repurchase plan. The remaining capacity of this plan is as follows for the quarter ended December 31, 2017:
Period
Total Number of
Shares Purchased
(in 000’s)
 
Average Price Paid
per Share (1)
 
Total Number of
Shares  Purchased
as Part of
Publicly Announced
Program
(in 000’s) (2)
 
Maximum Approximate
Dollar Value of Shares
Available That May
Yet Be Purchased
Under the Program
(in 000’s)
 
October 1, 2017 to October 31, 2017
925

 
$
19.38

 
925

 
$
228,177

 
November 1, 2017 to November 30, 2017
577

 
$
19.78

 
577

 
$
216,751

  
December 1, 2017 to December 31, 2017
1,436

 
$
19.84

 
1,436

 
$
188,249

(2) 
Total
2,938

 
$
19.68

 
2,938

 


 

(1) 
On December 13, 2017, Piedmont's board of directors declared a special dividend of $0.50 per share. The record date was December 26, 2017, and the payment was made on January 9, 2018. The average price paid per share has not been adjusted to reflect the special dividend.
(2) 
Amounts available for purchase relate only to our stock repurchase plan, which was authorized on May 2, 2017. Our Board of Directors authorized the repurchase of up to $250 million of shares of our common stock pursuant to the stock repurchase plan between May 2, 2017 and May 2, 2019. See Note 19 to our accompanying consolidated financial statements for more information.


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Index to Financial Statements

ITEM 6.    SELECTED FINANCIAL DATA

The following sets forth a summary of our selected financial data as of and for the years ended December 31, 2017, 2016, 2015, 2014, and 2013 (in thousands except for per-share data). Our selected financial data is prepared in accordance with U.S. generally accepted accounting principles (“GAAP”), except as noted below.
 
2017
 
2016
 
2015
 
2014
 
2013
Statement of Income Data:
 
 
 
 
 
 
 
 
 
Total revenues
$
574,173

 
$
555,715

 
$
584,769

 
$
566,252

 
$
549,610

Property operating costs
$
220,630

 
$
218,934

 
$
242,022

 
$
239,431

 
$
220,965

Depreciation and amortization
$
194,655


$
202,852


$
195,389


$
195,175


$
166,070

Impairment loss on real estate assets
$
46,461

 
$
33,901

 
$
43,301

 
$

 
$

General and administrative expenses
$
31,130

 
$
29,244

 
$
30,346

 
$
23,825

 
$
21,695

Other income/(expense), inclusive of interest expense
$
(63,622
)
 
$
(64,477
)
 
$
(72,158
)
 
$
(67,742
)
 
$
(68,682
)
Income from continuing operations
$
17,675

 
$
6,307

 
$
1,553

 
$
40,079

 
$
72,198

Income, impairment loss, and gain on sale of real estate assets from discontinued operations
$

 
$

 
$
83

 
$
1,216

 
$
20,798

Gain on sale of real estate assets not classified as discontinued operations
$
115,874

 
$
93,410

 
$
129,683

 
$
870

 
$

Net loss/(income) applicable to noncontrolling interest
$
15

 
$
15

 
$
(15
)
 
$
(15
)
 
$
(15
)
Net income applicable to Piedmont
$
133,564

 
$
99,732

 
$
131,304

 
$
42,150

 
$
92,981

Per-Share Data:
 
 
 
 
 
 
 
 
 
Per weighted-average common share data:
 
 
 
 
 
 
 
 
 
Income from continuing operations per share—basic and diluted
$
0.92

 
$
0.69

 
$
0.87

 
$
0.26

 
$
0.44

Income from discontinued operations per share—basic and diluted
$

 
$

 
$

 
$
0.01

 
$
0.13

Net income applicable to Piedmont per share—basic and diluted
$
0.92

 
$
0.69

 
$
0.87

 
$
0.27

 
$
0.57

Cash dividends declared per common share
$
1.34

 
$
0.84

 
$
0.84

 
$
0.81

 
$
0.80

Weighted-average shares outstanding—basic (in thousands)
145,044

 
145,230

 
150,538

 
154,452

 
165,013

Weighted-average shares outstanding—diluted (in thousands)
145,380

 
145,635

 
150,880

 
154,585

 
165,137

Balance Sheet Data (at period end):
 
 
 
 
 
 
 
 
 
Total assets
$
3,999,967

 
$
4,368,168

 
$
4,361,511

 
$
4,756,496

 
$
4,627,189

Total stockholders’ equity
$
1,986,489

 
$
2,097,703

 
$
2,123,420

 
$
2,280,677

 
$
2,431,019

Outstanding debt
$
1,726,927

 
$
2,020,475

 
$
2,029,510

 
$
2,269,922

 
$
1,993,446

Ratio of Earnings to Fixed Charges
2.9

 
2.4

 
2.7

 
1.5

 
2.1

NAREIT Funds from Operations Data (1):
 
 
 
 
 
 
 
 
 
GAAP net income applicable to common stock
$
133,564

 
$
99,732

 
$
131,304

 
$
42,150

 
$
92,981

Depreciation and amortization
193,904

 
202,268

 
194,943

 
195,345

 
170,158

Loss on consolidation

 

 

 

 
898

Impairment loss
46,461

 
33,901

 
43,301

 

 
13,381

Gain on sale- wholly-owned properties and unconsolidated partnerships
(119,557
)
 
(93,410
)
 
(129,682
)
 
(963
)
 
(26,880
)
NAREIT Funds From Operations applicable to common stock (1)
$
254,372

 
$
242,491

 
$
239,866

 
$
236,532

 
$
250,538

Acquisition costs
6

 
976

 
919

 
560

 
1,763

Loss on settlement of swaps

 

 
38

 

 

Net loss/(recoveries) of casualty loss and litigation settlements

 
(34
)
 
278

 
(6,992
)
 
(11,828
)
Core Funds From Operations applicable to common stock (1)
$
254,378

 
$
243,433

 
$
241,101

 
$
230,100

 
$
240,473

Amortization of debt issuance costs, fair market adjustments on notes payable, and discount on Senior Notes
2,496

 
2,610

 
2,547

 
2,632

 
2,664

Depreciation of non real estate assets
809

 
841

 
755

 
508

 
406

Straight-line effects of lease revenue and net effect of amortization of below-market in-place lease intangibles
(28,067
)

(26,609
)

(20,305
)

(33,848
)
 
(23,375
)
Stock-based and other non-cash compensation
6,139

 
5,620

 
7,090

 
3,975

 
1,590

Acquisition costs
(6
)
 
(976
)
 
(919
)
 
(560
)
 
(1,763
)
Non-incremental capital expenditures
(35,437
)
 
(35,568
)
 
(44,136
)
 
(84,630
)
 
(102,977
)
Adjusted Funds From Operations applicable to common stock (1)
$
200,312

 
$
189,351

 
$
186,133

 
$
118,177

 
$
117,018


(1) 
Net income calculated in accordance with GAAP is the starting point for calculating Funds from Operations, Core Funds From Operations, and Adjusted Funds From Operations. See "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

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Funds from Operations, Core Funds from Operations, and Adjusted Funds From Operations" below for a description and reconciliation of the calculations as presented.

ITEM 7.    MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis should be read in conjunction with the Selected Financial Data in Item 6, Selected Financial Data, above and our audited consolidated financial statements and notes thereto as of December 31, 2017 and 2016, and for the years ended December 31, 2017, 2016, and 2015, included elsewhere in this Annual Report on Form 10-K. See also “Cautionary Note Regarding Forward-Looking Statements” preceding Part I of this report and “Risk Factors” set forth in Item 1A. of this report.

Overview

Over the last several years, we have been actively managing the composition of our portfolio to further concentrate our holdings in selected sub-markets within the following markets: Atlanta, Boston, Chicago, Dallas, Minneapolis, New York, Orlando, and Washington, D.C. We recently substantively completed this strategy by disposing of 14 non-strategic properties on January 4, 2018 (the "2017 Disposition Portfolio") for approximately $426 million in gross proceeds, with the potential for an additional $4.5 million depending upon whether certain leasing activity is completed during early 2018. The net proceeds from the 2017 Disposition Portfolio were used to repay debt, to repurchase shares of our common stock pursuant to our stock repurchase plan, and to acquire Norman Pointe I, a $35 million value-add asset located in close proximity to our existing Minneapolis assets (see Note 3 to our accompanying consolidated financial statements).

Liquidity and Capital Resources

We intend to use cash flows generated from the operation of our properties, proceeds from selective property dispositions, and proceeds from our $500 Million Unsecured 2015 Line of Credit as our primary sources of immediate liquidity. Using the net proceeds from the 2017 Disposition Portfolio mentioned above, as well as cash on hand and borrowings under our $500 Million Unsecured 2015 Line of Credit, we repaid on January 4, 2018, without penalty, $470 million of unsecured term loans, which were scheduled to mature in 2018 and 2019, thereby reducing our total debt-to-gross assets ratio to approximately 30%. As of the filing date, we have $178.0 million of unused capacity under our line of credit. When necessary, we may renew and extend our line of credit, and seek secured or unsecured borrowings from third party lenders or issue securities as additional sources of capital. The availability and attractiveness of terms for these additional sources of capital are highly dependent on market conditions.
Our most consistent use of capital has historically been, and we believe will continue to be, to fund capital expenditures for our existing portfolio of properties. During the years ended December 31, 2017 and 2016, we incurred the following types of capital expenditures (in thousands):
 
December 31, 2017

 
December 31, 2016

Capital expenditures for new development
$
6,490

 
$
18,886

Capital expenditures for redevelopment/ renovations
980

 
8,532

Other capital expenditures, including tenant improvements
72,361

 
82,810

Total capital expenditures (1)
$
79,831

 
$
110,228

(1) 
Of the total amounts paid, approximately $0.3 million and $7.1 million related to soft costs such as capitalized interest, payroll, and other general and administrative expenses for the year ended December 31, 2017 and 2016, respectively.
"Capital expenditures for new development" relate to new office development projects. During the years ended December 31, 2017 and 2016, such expenditures primarily related to the construction of 500 TownPark, our now complete, approximately 134,000 square foot, approximately 90% leased, four-story office building located adjacent to our existing 400 TownPark building in Lake Mary, Florida.

"Capital expenditures for redevelopment/renovations" during both the year ended December 31, 2017 and 2016 related to a now-complete redevelopment project that converted our 3100 Clarendon Boulevard building in Arlington, Virginia from governmental use into Class A private sector office space.

"Other capital expenditures" include all other capital expenditures during the period and are typically comprised of tenant and building improvements necessary to lease or maintain our existing portfolio of office properties.


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Piedmont classifies its tenant and building improvements into two categories: (i) improvements which maintain the building's existing asset value and its revenue generating capacity (“non-incremental capital expenditures”) and (ii) improvements which incrementally enhance the building's asset value by expanding its revenue generating capacity (“incremental capital expenditures”). After excluding the properties sold in January 2018 as part of the 2017 Disposition Portfolio, commitments for funding non-incremental capital expenditures for tenant improvements over the next five years related to our existing lease portfolio total approximately $38.6 million. The timing of the funding of these commitments is largely dependent upon tenant requests for reimbursement; however, we anticipate that a significant portion of these improvement allowances may be requested over the next three years based on when the underlying leases commence. In some instances, these obligations may expire with the respective lease, without further recourse to us. Additionally, commitments for incremental capital expenditures (exclusive of the 2017 Disposition Portfolio) for tenant improvements associated with executed leases totaled approximately $14.1 million as of December 31, 2017.

In addition to the amounts described above that we have already committed to as a part of executed leases, we anticipate continuing to incur similar market-based tenant improvement allowances and leasing commissions in conjunction with procuring future leases for our existing portfolio of properties, including recently completed development and redevelopment projects. Given that our operating model frequently results in leases for large blocks of space to credit-worthy tenants, our leasing success can result in significant capital outlays. For example, for leases executed during year ended December 31, 2017, we committed to spend approximately $3.11 and $1.54 per square foot per year of lease term for tenant improvement allowances (net of expiring lease commitments) and leasing commissions, respectively, and for those executed during the year ended December 31, 2016, we committed to spend approximately $3.54 and $1.57 per square foot per year of lease term for tenant improvement allowances (net of expiring lease commitments) and leasing commissions, respectively. Both the timing and magnitude of expenditures related to future leasing activity are highly dependent on the competitive market conditions at the time of lease negotiations of the particular office market within which a given lease is signed.

There are several other uses of capital that may arise as part of our typical operations. Subject to the identification and availability of attractive investment opportunities and our ability to consummate such acquisitions on satisfactory terms, acquiring new assets compatible with our investment strategy could also be a significant use of capital. Further, our Board of Directors has authorized a stock repurchase program, pursuant to which we may use capital resources to repurchase shares of our common stock from time to time. During the fourth quarter 2017, we repurchased 2.9 million shares at an average unadjusted price per share of $19.68. As of December 31, 2017, we had approximately $188.2 million of capacity for future stock repurchases. Finally, with the payoff of $470 million of debt on January 4, 2018, we have no scheduled debt maturities over the next 15 months; however, on a longer term basis, we expect to use capital to pay down our line of credit and to repay other debt obligations when they become due.

The amount and form of payment (cash or stock issuance) of future dividends to be paid to our stockholders will continue to be largely dependent upon (i) the amount of cash generated from our operating activities; (ii) our expectations of future cash flows; (iii) our determination of near-term cash needs for debt repayments, development projects, and selective acquisitions of new properties; (iv) the timing of significant expenditures for tenant improvements, building redevelopment projects, and general property capital improvements; (v) long-term payout ratios for comparable companies; (vi) our ability to continue to access additional sources of capital, including potential sales of our properties; and (vii) the amount required to be distributed to maintain our status as a REIT. On January 9, 2018 we paid a one-time special dividend of approximately $71.5 million, or $0.50 per share to our stockholders of record on December 26, 2017. The payment of the special dividend was a direct result of an approximately $120 million taxable gain realized from our sale of the Two Independence Square asset located in Washington, D.C. during the year ended December 31, 2017. With the fluctuating nature of cash flows and expenditures, we may periodically borrow funds on a short-term basis to cover timing differences in cash receipts and cash disbursements.



29

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Index to Financial Statements

Results of Operations (2017 vs. 2016)

Overview

Income from continuing operations and gain on sale of real estate assets per share on a fully diluted basis increased from $0.69 for the year ended December 31, 2016 to $0.92 for the year ended December 31, 2017 due to $115.9 in gain on sale of real estate assets due primarily to the significant gain recognized on the sale of the Two Independence Square building of $109.5 million during the year ended December 31, 2017, as compared to the gain on sale of eight properties sold during 2016 totaling $93.4 million. The increase was also due to a $15.9 million increase in rental income for the year ended December 31, 2017 as compared to the year ended December 31, 2016 as a result of new leases commencing during 2016 and 2017 across our portfolio.

Comparison of the accompanying consolidated statements of income for the year ended December 31, 2017 vs. the year ended December 31, 2016

The following table sets forth selected data from our consolidated statements of income for the years ended December 31, 2017 and 2016, respectively, as well as each balance as a percentage of total revenues for the years presented (dollars in millions):

 
December 31, 2017
 
% of Revenues
 
December 31, 2016
 
% of Revenues
 
Variance
Revenue:
 
 
 
 
 
 
 
 
 
Rental income
$
475.8

 
 
 
$
459.9

 
 
 
$
15.9

Tenant reimbursements
96.7

 
 
 
93.9

 
 
 
2.8

Property management fee revenue
1.7

 
 
 
1.9

 
 
 
(0.2
)
Total revenues
574.2

 
100
%
 
555.7

 
100
%
 
18.5

Expense:
 
 
 
 
 
 
 
 
 
Property operating costs
220.6

 
38
%
 
218.9

 
39
%
 
1.7

Depreciation
119.3

 
21
%
 
127.7

 
23
%
 
(8.4
)
Amortization
75.4

 
13
%
 
75.1

 
14
%
 
0.3

Impairment losses on real estate assets
46.5

 
8
%
 
33.9

 
6
%
 
12.6

General and administrative
31.1

 
6
%
 
29.3

 
5
%
 
1.8

Real estate operating income
81.3

 
14
%
 
70.8

 
13
%
 
10.5

Other income (expense):
 
 
 
 
 
 
 
 
 
Interest expense
(68.1
)
 
12
%
 
(64.9
)
 
12
%
 
(3.2
)
Other income/(expense)
0.7

 
%
 

 
%
 
0.7

Net recoveries from casualty events

 
%
 

 
%
 

Equity in income of unconsolidated joint ventures
3.8

 
1
%
 
0.4

 
%
 
3.4

Income from continuing operations
$
17.7

 
3
%
 
$
6.3

 
1
%
 
$
11.4

Gain on sale of real estate assets
$
115.9

 
 
 
$
93.4

 
 
 
$
22.5


Revenue

Rental income increased approximately $15.9 million for the year ended December 31, 2017 as compared to the same period in the prior year. The increase is primarily attributable to new leases commencing during 2016 and 2017 across our portfolio, partially offset by net property sales activity since January 1, 2016.

Tenant reimbursements increased approximately $2.8 million for the year ended December 31, 2017 as compared to the same period in the prior year. The variance was primarily attributable to increased average economic occupancy and the resulting increase in recoverable operating expenses. In addition, tenant reimbursements for the year ended December 31, 2017 include the non-recurring settlement receipt of approximately $0.6 million of prior period reimbursements as a result of a favorable court ruling related to a tenant dispute.


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Expense

Property operating costs increased approximately $1.7 million for the year ended December 31, 2017 as compared to the same period in the prior year, primarily due to increased average economic occupancy and the resulting increase in recoverable operating expenses, namely property tax expense of approximately $2.5 million. This increase was partially offset by a decrease in non-recoverable operating expenses of $0.8 million across our portfolio of properties as compared to the prior period.

Depreciation expense decreased approximately $8.4 million for the year ended December 31, 2017 compared to the same period in the prior year due primarily to the sale of the 606,000 square foot, Two Independence Square building in July 2017.

Amortization expense increased approximately $0.3 million for the year ended December 31, 2017 compared to the same period in the prior year. Of the total variance, approximately $10.3 million of expense is due to additional amortization of intangible lease assets recognized as part of acquiring new properties during 2016 and 2017. This increase was almost entirely offset by certain lease intangible assets at our existing properties becoming fully amortized subsequent to January 1, 2016, or sold as part of our net property sales activity.

During the year ended December 31, 2017, we recognized a non-recurring impairment charge related to the 2017 Disposition Portfolio totaling approximately $46.5 million, which closed in January 2018. During the year ended December 31, 2016, we recognized non-recurring impairment charges related to our 150 West Jefferson building located in Detroit, Michigan, and our 9200, 9211, and 9221 Corporate Boulevard buildings located in Rockville, Maryland totaling approximately $33.9 million (see Note 9 for details).

General and administrative expenses increased approximately $1.8 million for the year ended December 31, 2017 compared to the same period in the prior year primarily due to increased accruals for potential performance-based stock compensation.

Other Income (Expense)

Interest expense increased approximately $3.2 million for the year ended December 31, 2017 as compared to the same period in the prior year. Approximately $4.4 million of the increase is due to placing our development projects into service in 2017, which caused associated interest to be expensed rather than be capitalized as part of the development. This increase is offset by lower net interest resulting from repayments of debt during the current year, specifically the secured debt on our 1201 and 1225 Eye Street buildings in Washington, D.C.

Equity in income of unconsolidated joint ventures increased approximately $3.4 million for the year ended December 31, 2017 as compared to the same period in the prior year. The increase is primarily due to the recognition of our portion of the gain on the sale of our last unconsolidated joint venture property, the 8560 Upland Drive building in Denver, Colorado.

Gain on sale of real estate assets, net, during the year ended December 31, 2017 represents the gain recognized on the sale of the Sarasota Commerce Center II in Sarasota, Florida and the Two Independence Square building. During the year ended December 31, 2016, gain on sale of real estate assets, net, is comprised of the following sold properties: 1055 East Colorado Boulevard in Pasadena, California; Fairway Center II in Brea, California; 1901 Main Street in Irvine, California; 9221 Corporate Boulevard; 150 West Jefferson; 9200 and 9211 Corporate Boulevard; 11695 Johns Creek Parkway in Johns Creek, Georgia, and Braker Pointe III in Austin, Texas.



31

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Index to Financial Statements

Results of Operations (2016 vs. 2015)

Overview

Income from continuing operations and gain on sale of real estate assets per share on a fully diluted basis decreased from $0.87 for the year ended December 31, 2015 to $0.69 for the year ended December 31, 2016 primarily due to gains recognized on the sale of several of our properties, including Aon Center in Chicago, Illinois, during 2015 of $129.7 million as compared to gains recognized on sale transactions during 2016 of $93.4 million. The decrease was partially offset by a $9.1 million decrease in interest expense for the year ended December 31, 2016 as compared to the year ended December 31, 2015 as a result of a net decrease in our average debt outstanding.

Comparison of the accompanying consolidated statements of income for the year ended December 31, 2016 vs. the year ended December 31, 2015

The following table sets forth selected data from our consolidated statements of income for the years ended December 31, 2016 and 2015, respectively, as well as each balance as a percentage of total revenues for the years presented (dollars in millions):

 
December 31, 2016
 
% of Revenues
 
December 31, 2015
 
% of Revenues
 
Variance
Revenue:
 
 
 
 
 
 
 
 
 
Rental income
$
459.9

 
 
 
$
468.9

 
 
 
$
(9.0
)
Tenant reimbursements
93.9

 
 
 
113.9

 
 
 
(20.0
)
Property management fee revenue
1.9

 
 
 
2.0

 
 
 
(0.1
)
Total revenues
555.7

 
100
%
 
584.8

 
100
%
 
(29.1
)
Expense:
 
 
 
 
 
 
 
 
 
Property operating costs
218.9

 
39
%
 
242.0

 
41
%
 
(23.1
)
Depreciation
127.7

 
23
%
 
134.5

 
23
%
 
(6.8
)
Amortization
75.1

 
14
%
 
60.9

 
11
%
 
14.2

Impairment loss on real estate assets
33.9

 
6
%
 
43.3

 
7
%
 
(9.4
)
General and administrative expense
29.3

 
5
%
 
30.4

 
5
%
 
(1.1
)
Real estate operating income
70.8

 
13
%
 
73.7

 
13
%
 
(2.9
)
Other income (expense):
 
 
 
 
 
 
 
 
 
Interest expense
(64.9
)
 
12
%
 
(74.0
)
 
13
%
 
9.1

Other income/(expense)

 
%
 
1.6

 
%
 
(1.6
)
Net loss from casualty events

 
%
 
(0.3
)
 
%
 
0.3

Equity in income of unconsolidated joint ventures
0.4

 
%
 
0.6

 
%
 
(0.2
)
Income from continuing operations
$
6.3

 
1
%
 
$
1.6

 
%
 
$
4.7

Income from discontinued operations
$

 
 
 
$
0.1

 
 
 
$
(0.1
)
Gain on sale of real estate assets
$
93.4

 
 
 
$
129.7

 
 
 
$
(36.3
)

Revenue

Rental income decreased approximately $9.0 million for the year ended December 31, 2016 as compared to the same period in the prior year primarily due to net property sales activity since January 1, 2015, which included the sale of our then-largest asset, Aon Center, during the fourth quarter of 2015. The net property sales activity contributed approximately $24.9 million to the variance; however, new leases commencing during 2015 and 2016 across our portfolio provided additional revenue of approximately $15.5 million which substantially offset the decrease.

Tenant reimbursements decreased approximately $20.0 million for the year ended December 31, 2016 as compared to the same period in the prior year. The decrease was primarily driven by net property sales activity during 2015 and 2016, which contributed approximately $24.5 million to the variance. This decrease in reimbursement income was partially offset by the expiration of operating expense abatements for certain of our tenants, coupled with increased reimbursements due to occupancy gains across our portfolio.


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Expense

Property operating costs decreased approximately $23.1 million for the year ended December 31, 2016 as compared to the same period in the prior year due to net property sales activity during 2015 and 2016.

Depreciation expense decreased approximately $6.8 million for the year ended December 31, 2016 compared to the same period in the prior year. Approximately $14.3 million of the variance was attributable to net property sales activity during 2015 and 2016, partially offset by approximately $5.0 million of depreciation on additional tenant and building improvements placed in service subsequent to January 1, 2015, as well as a $1.2 million increase in expense in the current year associated with accelerated depreciation due to lease modifications or terminations as compared to the prior year.

Amortization expense increased approximately $14.2 million for the year ended December 31, 2016 compared to the same period in the prior year. Of the total variance, approximately $20.2 million of expense is due to additional amortization of intangible lease assets recognized as part of acquiring new properties during 2015 and 2016. This increase was partially offset by certain lease intangible assets at our existing properties becoming fully amortized subsequent to January 1, 2015.

During the year ended December 31, 2016, we recognized impairment charges to adjust the carrying values of our 150 West Jefferson building and our 9200, 9211, and 9221 Corporate Boulevard buildings to their estimated fair values in conjunction with changes in hold period assumptions for these assets. The total impairment loss recognized during the year ended December 31, 2016 was approximately $33.9 million (see Note 9 for details). During the year ended December 31, 2015, we recognized impairment charges of $43.3 million related to our 2 Gatehall Drive building in Parsippany, New Jersey and our Eastpoint I & II buildings in Mayfield Heights, Ohio.

General and administrative expenses decreased approximately $1.1 million for the year ended December 31, 2016 compared to the same period in the prior year primarily due to decreased accruals for potential performance-based stock compensation.

Other Income (Expense)

Interest expense decreased approximately $9.1 million for the year ended December 31, 2016 as compared to the prior year, primarily as a result of a net decrease in our average debt outstanding as we used a portion of the proceeds from our disposition activity in both 2015 and 2016 to pay down secured debt and borrowings under our line of credit.

Other income/(expense) decreased approximately $1.6 million for the year ended December 31, 2016 as compared to the prior year. The variance is attributable to interest income recognized on a note receivable extended to the purchaser of our Copper Ridge Center building located in Lyndhurst, New Jersey during 2015, which was repaid in full in February 2016.

During the year ended December 31, 2016, gain on sale of real estate assets, net, is comprised of the following sold properties: 1055 East Colorado Boulevard; Fairway Center II; 1901 Main Street; 9221 Corporate Boulevard; 150 West Jefferson; 9200 and 9211 Corporate Boulevard; 11695 Johns Creek Parkway; and Braker Pointe III. During the year ended December 31, 2015, gain on sale of real estate assets, net, is comprised of the following sold properties: 3900 Dallas Parkway in Plano, Texas; 5601 Headquarters Drive in Plano, Texas; River Corporate Center in Tempe, Arizona; Copper Ridge Center in Lyndhurst, New Jersey; Eastpoint I & II in Mayfield Heights, Ohio; 3750 Brookside Parkway in Alpharetta, Georgia; Chandler Form in Chandler, Arizona; Aon Center in Chicago, Illinois; and 2 Gatehall Drive in Parsippany, New Jersey.


Funds From Operations ("FFO"), Core Funds From Operations ("Core FFO"), and Adjusted Funds From Operations (“AFFO”)

Net income calculated in accordance with GAAP is the starting point for calculating FFO, Core FFO, and AFFO. These metrics are non-GAAP financial measures and should not be viewed as an alternative measurement of our operating performance to net income. Management believes that accounting for real estate assets in accordance with GAAP implicitly assumes that the value of real estate assets diminishes predictably over time. Since real estate values have historically risen or fallen with market conditions, many industry investors and analysts have considered the presentation of operating results for real estate companies that use historical cost accounting to be insufficient by themselves. As a result, we believe that the additive use of FFO, Core FFO, and AFFO, together with the required GAAP presentation, provides a more complete understanding of our performance relative to our competitors and a more informed and appropriate basis on which to make decisions involving operating, financing, and investing activities.

We calculate FFO in accordance with the current National Association of Real Estate Investment Trusts ("NAREIT") definition. NAREIT currently defines FFO as follows: Net income (computed in accordance with GAAP), excluding gains or losses from

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sales of property and impairment charges (including our proportionate share of any impairment charges and/or gains or losses from sales of property related to investments in unconsolidated joint ventures), plus depreciation and amortization on real estate assets (including our proportionate share of depreciation and amortization related to investments in unconsolidated joint ventures). Other REITs may not define FFO in accordance with the NAREIT definition, or may interpret the current NAREIT definition differently than we do; therefore, our computation of FFO may not be comparable to such other REITs.

We calculate Core FFO by starting with FFO, as defined by NAREIT, and adjusting for gains or losses on the extinguishment of swaps and/or debt, acquisition-related expenses, and any significant non-recurring items. Core FFO is a non-GAAP financial measure and should not be viewed as an alternative to net income calculated in accordance with GAAP as a measurement of our operating performance. We believe that Core FFO is helpful to investors as a supplemental performance measure because it excludes the effects of certain items which can create significant earnings volatility, but which do not directly relate to our core recurring business operations. As a result, we believe that Core FFO can help facilitate comparisons of operating performance between periods and provides a more meaningful predictor of future earnings potential. Other REITs may not define Core FFO in the same manner as us; therefore, our computation of Core FFO may not be comparable to that of other REITs.

We calculate AFFO by starting with Core FFO and adjusting for non-incremental capital expenditures and acquisition-related costs and then adding back non-cash items including: non-real estate depreciation, straight-lined rents and fair value lease adjustments, non-cash components of interest expense and compensation expense, and by making similar adjustments for unconsolidated partnerships and joint ventures. AFFO is a non-GAAP financial measure and should not be viewed as an alternative to net income calculated in accordance with GAAP as a measurement of our operating performance. We believe that AFFO is helpful to investors as a meaningful supplemental comparative performance measure of our ability to make incremental capital investments. Other REITs may not define AFFO in the same manner as us; therefore, our computation of AFFO may not be comparable to that of other REITs.


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Reconciliations of net income to FFO, Core FFO, and AFFO are presented below (in thousands except per share amounts):
 
2017
 
Per
Share (1)
 
2016
 
Per
Share(1)
 
2015
 
Per
Share(1)
GAAP net income applicable to common stock
$
133,564

 
$
0.92

 
$
99,732

 
$
0.69

 
$
131,304

 
$
0.87

Depreciation of real assets (2)
118,577

 
0.82

 
127,129

 
0.87

 
133,992

 
0.89

Amortization of lease-related costs (2)
75,327

 
0.52

 
75,139

 
0.52

 
60,951

 
0.40

Impairment loss on real estate assets
46,461

 
0.32

 
33,901

 
0.23

 
43,301

 
0.29

Gain on sale- wholly-owned properties
(115,874
)
 
(0.80
)
 
(93,410
)
 
(0.64
)
 
(129,682
)
 
(0.86
)
Gain on sale- unconsolidated partnerships
(3,683
)
 
(0.03
)
 

 

 

 

NAREIT Funds From Operations applicable to common stock
$
254,372

 
$
1.75

 
$
242,491

 
$
1.67

 
$
239,866

 
$
1.59

Adjustments:
 
 
 
 
 
 
 
 
 
 
 
Acquisition costs
6

 

 
976

 

 
919

 
0.01

Loss on settlement of swaps

 

 

 

 
38

 

Net loss/(recoveries) from casualty events

 

 
(34
)
 

 
278

 

Core Funds From Operations applicable to common stock
$
254,378

 
$
1.75

 
$
243,433

 
$
1.67

 
$
241,101

 
$
1.60

Adjustments:
 
 
 
 
 
 
 
 
 
 
 
Amortization of debt issuance costs, fair market adjustments on notes payable, and discount on Unsecured Senior Notes
2,496

 
 
 
2,610

 
 
 
2,547

 
 
Depreciation of non real estate assets
809

 
 
 
841

 
 
 
755

 
 
Straight-line effects of lease revenue (2)
(21,492
)
 
 
 
(21,544
)
 
 
 
(15,734
)
 
 
Stock-based and other non-cash compensation
6,139

 
 
 
5,620

 
 
 
7,090

 
 
Net effect of amortization of below-market in-place lease intangibles
(6,575
)
 
 
 
(5,065
)
 
 
 
(4,571
)
 
 
Acquisition costs
(6
)
 
 
 
(976
)
 
 
 
(919
)
 
 
Non-incremental capital expenditures (3)
(35,437
)
 
 
 
(35,568
)
 
 
 
(44,136
)
 
 
Adjusted Funds From Operations applicable to common stock
$
200,312

 
 
 
$
189,351

 
 
 
$
186,133

 
 
Weighted-average shares outstanding – diluted
145,380

 
 
 
145,635

 
 
 
150,880

 
 

(1) 
Based on weighted-average shares outstanding—diluted.
(2) 
Includes adjustments for wholly-owned properties (including discontinued operations), as well as such adjustments for our proportionate ownership in unconsolidated joint ventures.
(3) 
Piedmont defines non-incremental capital expenditures as capital expenditures of a recurring nature related to tenant improvements, leasing commissions, and building capital that do not incrementally enhance the underlying assets' income generating capacity. Tenant improvements, leasing commissions, building capital and deferred lease incentives incurred to lease space that was vacant at acquisition, leasing costs for spaces vacant for greater than one year, leasing costs for spaces at newly acquired properties for which in-place leases expire shortly after acquisition, improvements associated with the expansion of a building, and renovations that either enhance the rental rates of a building or change the property's underlying classification, such as from a Class B to a Class A property, are excluded from this measure.


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Property and Same Store Net Operating Income

Property Net Operating Income ("Property NOI") is a non-GAAP measure which we use to assess our operating results. We calculate Property NOI beginning with Net income (computed in accordance with GAAP) before interest, taxes, depreciation and amortization and incrementally removing any impairment losses, gains or losses from sales of property and other significant infrequent items that create volatility within our earnings and make it difficult to determine the earnings generated by our core ongoing business. Furthermore, we adjust for general and administrative expense, income associated with property management performed by us for other organizations, and other income or expense items such as interest income from loan investments or costs from the pursuit of non-consummated transactions. For Property NOI (cash basis), the effects of straight-lined rents and fair value lease revenue are also eliminated; while such effects are not adjusted in calculating Property NOI (accrual basis). Property NOI is a non-GAAP financial measure and should not be viewed as an alternative to net income calculated in accordance with GAAP as a measurement of our operating performance. We believe that Property NOI, on either a cash or accrual basis, is helpful to investors as a supplemental comparative performance measure of income generated by our properties alone without our administrative overhead. Other REITs may not define Property NOI in the same manner as we do; therefore, our computation of Property NOI may not be comparable to that of other REITs.

We calculate Same Store Net Operating Income ("Same Store NOI") as Property NOI applicable to the properties owned or placed in service during the entire span of the current and prior year reporting periods. Same Store NOI also excludes amounts applicable to unconsolidated joint venture assets. Same Store NOI is a non-GAAP financial measure and should not be viewed as an alternative to net income calculated in accordance with GAAP as a measurement of our operating performance. We believe that Same Store NOI, on either a cash or accrual basis is helpful to investors as a supplemental comparative performance measure of the income generated from the same group of properties from one period to the next. Other REITs may not define Same Store NOI in the same manner as we do; therefore, our computation of Same Store NOI may not be comparable to that of other REITs.

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The following table sets forth a reconciliation from net income calculated in accordance with GAAP to Property NOI, on both a cash and accrual basis, and Same Store NOI, on both a cash and accrual basis, for the years ended December 31, 2017 and December 31, 2016, respectively (in thousands):
 
Cash Basis
 
Accrual Basis
 
December 31,
2017
 
December 31,
2016
 
December 31,
2017
 
December 31,
2016
 
 
 
 
 
 
 
 
Net income applicable to Piedmont (GAAP basis)
$
133,564

 
$
99,732

 
$
133,564

 
$
99,732

 
 
 
 
 
 
 
 
Net income applicable to noncontrolling interest
(15
)
 
(15
)
 
(15
)
 
(15
)
Interest expense
68,124

 
64,860

 
68,124

 
64,860

Depreciation (1)
119,386

 
127,970

 
119,386

 
127,970

Amortization (1)
75,327

 
75,139

 
75,327

 
75,139

Acquisition costs
6

 
976

 
6

 
976

Impairment loss on real estate assets (1)
46,461

 
33,901

 
46,461

 
33,901

Net recoveries from casualty events

 
(34
)
 

 
(34
)
Gain on sale of real estate assets, net (1)
(119,557
)
 
(93,410
)
 
(119,557
)
 
(93,410
)
General & administrative expenses(1)
31,186

 
29,306

 
31,186

 
29,306

Management fee revenue
(872
)
 
(1,034
)
 
(872
)
 
(1,034
)
Other income(1)
(303
)
 
(458
)
 
(303
)
 
(458
)
Straight-line rent effects of lease revenue(1)
(21,492
)
 
(21,544
)
 
 
 
 
Amortization of lease-related intangibles(1)
(6,575
)
 
(5,065
)
 
 
 
 
 
 
 
 
 
 
 
 
Property NOI
$
325,240

 
$
310,324

 
$
353,307

 
$
336,933

 
 
 
 
 
 
 
 
Net operating income from:
 
 
 
 
 
 
 
Acquisitions(2)
(18,385
)
 
(7,333
)
 
(29,216
)
 
(9,175
)
Dispositions(3)
(11,431
)
 
(32,550
)
 
(11,491
)
 
(33,761
)
Other investments(4)
(371
)
 
(497
)
 
(2,987
)
 
(1,311
)
 
 
 
 
 
 
 
 
Same Store NOI
$
295,053

 
$
269,944

 
$
309,613

 
$
292,686

 
 
 
 
 
 
 
 
Change period over period in Same Store NOI
9.3
%
 
N/A

 
5.8
%
 
N/A


(1) 
Includes amounts attributable to consolidated properties, including discontinued operations, and our proportionate share of amounts attributable to unconsolidated joint ventures.
(2) 
Acquisitions consist of CNL Center I and CNL Center II in Orlando, Florida, purchased on August 1, 2016; One Wayside Road in Burlington, Massachusetts, purchased on August 10, 2016; Galleria 200 in Atlanta, Georgia, purchased on October 7, 2016; 750 West John Carpenter Freeway in Irving, Texas, purchased on November 30, 2016; and Norman Pointe I in Bloomington, Minnesota, purchased on December 28, 2017.
(3) 
Dispositions consist of 1055 East Colorado Boulevard in Pasadena, California, sold on April 21, 2016; Fairway Center II in Brea, California, sold on April 28, 2016; 1901 Main Street in Irvine, California, sold on May 2, 2016; 9221 Corporate Boulevard in Rockville, Maryland, sold on July 27, 2016; 150 West Jefferson in Detroit, Michigan, sold on July 29, 2016; 9200 and 9211 Corporate Boulevard in Rockville, Maryland, sold on September 28, 2016; 11695 Johns Creek Parkway in Johns Creek, Georgia, sold on December 22, 2016; Braker Pointe III in Austin, Texas, sold on December 29, 2016; Sarasota Commerce Center II in Sarasota, Florida, sold on June 16, 2017; and Two Independence Square in Washington, D.C., sold on July 5, 2017.
(4) 
Other investments consist of our investments in unconsolidated joint ventures, active redevelopment and development projects, land, and recently completed redevelopment and development projects for which some portion of operating expenses were capitalized during the current and/or prior year reporting periods. The operating results from 3100 Clarendon Boulevard in Arlington, Virginia, Enclave Place in Houston, Texas, and 500 TownPark in Lake Mary, Florida, are included in this line item.


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Overview

Our portfolio is a diverse geographical portfolio primarily located in select sub-markets within eight major office markets located in the Eastern-half of the United States. Property NOI attributable to each of our geographical regions for the years ended December 31, 2017 and 2016 was as follows:

 
Cash Basis
 
Accrual Basis
 
December 31,
2017
 
December 31,
2016
 
December 31,
2017
 
December 31,
2016
Washington, D.C.
$
44,795

 
$
49,181

 
$
53,125

 
$
60,878

New York
40,884

 
39,335

 
39,617

 
37,567

Chicago
36,014

 
29,489

 
37,570

 
33,064

Atlanta
33,216

 
28,930

 
39,378

 
33,871

Minneapolis
26,300

 
24,686

 
24,932

 
23,713

Dallas
29,901

 
26,907

 
31,461

 
27,518

Boston
35,914

 
34,451

 
40,721

 
34,381

Orlando
25,206

 
16,728

 
30,384

 
19,671

Other (1)
53,010

 
60,617

 
56,119

 
66,270

 
$
325,240

 
$
310,324

 
$
353,307

 
$
336,933


(1) 
Includes amounts attributable to corporate entities, as well as properties outside of our core operating markets.

We typically lease space to large, credit-worthy corporate or governmental tenants on a long-term basis. As of December 31, 2017, our average lease was approximately 20,000 square feet with approximately seven years of lease term remaining. Consequently, leased percentage, as well as rent roll ups and roll downs, which we experience as a result of re-leasing, can fluctuate widely between markets, between buildings, and between tenants within a given market depending on when a particular lease is scheduled to expire.

Leased Percentage

As of December 31, 2017, our in-service portfolio of 67 office properties was 89.7% leased, down from 94.2% leased as of December 31, 2016, due primarily to placing three recently completed development properties totaling 700,000 square feet in service on January 1, 2017, as well as the expiration of two large tenant leases and sale of a 100% leased, 606,000 square foot, asset in our Washington, D.C. portfolio during the year ended December 31, 2017. Our occupancy increased to 91.8% after the close of the 2017 Disposition Portfolio on January 4, 2018. As of December 31, 2017, scheduled lease expirations for the portfolio as a whole for 2018 after consideration of the 2017 Disposition Portfolio were modest, representing approximately 7.5% of our ALR. To the extent new leases for currently vacant space outweigh or fall short of scheduled expirations, such leases would increase or decrease our leased percentage, respectively. Our leased percentage may also fluctuate from the impact of various occupancy levels associated with our net acquisition and disposition activity.

Impact of Downtime, Abatement Periods, and Rental Rate Changes

Commencement of new leases typically occurs 6-18 months after the lease execution date, after refurbishment of the space is completed. The downtime between a lease expiration and the new lease's commencement can negatively impact Property NOI and Same Store NOI comparisons (both accrual and cash basis). In addition, office leases, both new and lease renewals, often contain upfront rental and/or operating expense abatement periods which delay the cash flow benefits of the lease even after the new lease or renewal has commenced and will continue to negatively impact Property NOI and Same Store NOI on a cash basis until such abatements expire. As of December 31, 2017, we had approximately 400,000 square feet of executed leases related to currently vacant space that had not yet commenced and approximately 1.2 million square feet of commenced leases that were in some form of rental and/or operating expense abatement.

If we are unable to replace expiring leases with new or renewal leases at rental rates equal to or greater than the expiring rates, rental rate roll downs could occur and negatively impact Property NOI and Same Store NOI comparisons. As mentioned above, our geographically diverse portfolio and larger than industry average tenant model result in rent roll ups and roll downs that can fluctuate widely on a building-by-building and a quarter-to-quarter and year over year basis.

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Same Store NOI increased 9.3% and 5.8% on a cash and accrual basis, respectively, during the year ended December 31,