10-Q 1 form10-q.htm 10-Q Document
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
þ
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2016
OR
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from                  to                 
Commission File Number: 1-12675 (Kilroy Realty Corporation)
Commission File Number: 000-54005 (Kilroy Realty, L.P.)
KILROY REALTY CORPORATION
KILROY REALTY, L.P.
(Exact name of registrant as specified in its charter)
 
 
 
Kilroy Realty Corporation
Maryland
95-4598246
 
(State or other jurisdiction of
incorporation or organization)
(I.R.S. Employer
Identification No.)
 
 
 
Kilroy Realty, L.P.
Delaware
95-4612685
 
(State or other jurisdiction of
incorporation or organization)
(I.R.S. Employer
Identification No.)
 
 
 
12200 W. Olympic Boulevard, Suite 200, Los Angeles, California 90064
(Address of principal executive offices) (Zip Code)
 
(310) 481-8400
(Registrant's telephone number, including area code)
 
 
 
N/A
(Former name, former address and former fiscal year, if changed since last report)
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.    
Kilroy Realty Corporation    Yes  þ    No   o
Kilroy Realty, L. P.         Yes  þ    No   o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    
Kilroy Realty Corporation     Yes  þ    No   o
Kilroy Realty, L.P.         Yes  þ    No   o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Kilroy Realty Corporation
 
 
 
Large accelerated filer     þ
Accelerated filer     o 
Non-accelerated filer     o
Smaller reporting company     o
(Do not check if a smaller reporting company)
 
 
 
 
Kilroy Realty, L.P.
 
 
 
Large accelerated filer     o
Accelerated filer     o 
Non-accelerated filer     þ
Smaller reporting company     o
(Do not check if a smaller reporting company)
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    
Kilroy Realty Corporation Yes  o     No   þ
Kilroy Realty, L.P. Yes  o     No   þ
As of July 22, 2016, 92,256,063 shares of Kilroy Realty Corporation common stock, par value $.01 per share, were outstanding.
 



EXPLANATORY NOTE
This report combines the quarterly reports on Form 10-Q for the period ended June 30, 2016 of Kilroy Realty Corporation and Kilroy Realty, L.P. Unless stated otherwise or the context otherwise requires, references to “Kilroy Realty Corporation” or the “Company,” “we,” “our,” and “us” mean Kilroy Realty Corporation, a Maryland corporation, and its controlled and consolidated subsidiaries, and references to “Kilroy Realty, L.P.” or the “Operating Partnership” mean Kilroy Realty, L.P., a Delaware limited partnership and its controlled and consolidated subsidiaries.
The Company is a real estate investment trust, or REIT, and the general partner of the Operating Partnership. As of June 30, 2016, the Company owned an approximate 97.2% common general partnership interest in the Operating Partnership. The remaining approximate 2.8% common limited partnership interests are owned by non-affiliated investors and certain directors and officers of the Company. As the sole general partner of the Operating Partnership, the Company exercises exclusive and complete discretion over the Operating Partnership’s day-to-day management and control and can cause it to enter into certain major transactions, including acquisitions, dispositions and refinancings, and cause changes in its line of business, capital structure and distribution policies.
There are a few differences between the Company and the Operating Partnership that are reflected in the disclosures in this Form 10-Q. We believe it is important to understand the differences between the Company and the Operating Partnership in the context of how the Company and the Operating Partnership operate as an interrelated, consolidated company. The Company is a REIT, the only material asset of which is the partnership interests it holds in the Operating Partnership. As a result, the Company generally does not conduct business itself, other than acting as the sole general partner of the Operating Partnership, issuing equity from time to time and guaranteeing certain debt of the Operating Partnership. The Company itself is not directly obligated under any indebtedness, but guarantees some of the debt of the Operating Partnership. The Operating Partnership owns substantially all of the assets of the Company either directly or through its subsidiaries, conducts the operations of the Company’s business and is structured as a limited partnership with no publicly traded equity. Except for net proceeds from equity issuances by the Company, which the Company generally contributes to the Operating Partnership in exchange for units of partnership interest, the Operating Partnership generates the capital required by the Company’s business through the Operating Partnership’s operations, by the Operating Partnership’s incurrence of indebtedness or through the issuance of units of partnership interest.
Noncontrolling interests and stockholders’ equity and partners’ capital are the main areas of difference between the consolidated financial statements of the Company and those of the Operating Partnership. The common limited partnership interests in the Operating Partnership are accounted for as partners’ capital in the Operating Partnership’s financial statements and, to the extent not held by the Company, as noncontrolling interests in the Company’s financial statements. The Operating Partnership’s financial statements reflect the noncontrolling interest in Kilroy Realty Finance Partnership, L.P., a Delaware limited partnership (the “Finance Partnership”). This noncontrolling interest represents the Company’s 1% indirect general partnership interest in the Finance Partnership, which is directly held by Kilroy Realty Finance, Inc., a wholly owned subsidiary of the Company. The differences between stockholders’ equity, partners’ capital and noncontrolling interests result from the differences in the equity issued by the Company and the Operating Partnership, and in the Operating Partnership’s noncontrolling interest in the Finance Partnership.
We believe combining the quarterly reports on Form 10-Q of the Company and the Operating Partnership into this single report results in the following benefits:
Combined reports better reflect how management and the analyst community view the business as a single operating unit;
Combined reports enhance investors’ understanding of the Company and the Operating Partnership by enabling them to view the business as a whole and in the same manner as management;
Combined reports are more efficient for the Company and the Operating Partnership and result in savings in time, effort and expense; and
Combined reports are more efficient for investors by reducing duplicative disclosure and providing a single document for their review.
To help investors understand the significant differences between the Company and the Operating Partnership, this report presents the following separate sections for each of the Company and the Operating Partnership:
consolidated financial statements;
the following notes to the consolidated financial statements:
Note 8, Stockholders’ Equity of the Company;
Note 9, Partners’ Capital of the Operating Partnership;

i


Note 13, Net Income Available to Common Stockholders Per Share of the Company;
Note 14, Net Income Available to Common Unitholders Per Unit of the Operating Partnership;
Note 15, Supplemental Cash Flow Information of the Company; and
Note 16, Supplemental Cash Flow Information of the Operating Partnership;
“Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
—Liquidity and Capital Resources of the Company;” and
—Liquidity and Capital Resources of the Operating Partnership.”
This report also includes separate sections under Part I, Item 4. Controls and Procedures and separate Exhibit 31 and Exhibit 32 certifications for the Company and the Operating Partnership to establish that the Chief Executive Officer and the Chief Financial Officer of each entity have made the requisite certifications and that the Company and Operating Partnership are compliant with Rule 13a-15 or Rule 15d-15 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), and 18 U.S.C. §1350.


ii


KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
QUARTERLY REPORT FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2016
TABLE OF CONTENTS
 
 
 
 
Page
 
 
PART I – FINANCIAL INFORMATION
 
Item 1.
 
 
 
 
  
 
  
 
  
Item 1.
 
 
 
 
 
 
 
 
 
 
 
Item 2.
  
Item 3.
 
Item 4.
 
 
 
PART II – OTHER INFORMATION
 
Item 1.
 
Item 1A.
 
Item 2.
 
Item 3.
 
Item 4.
 
Item 5.
 
Item 6.
 
 




PART I – FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS (UNAUDITED) OF KILROY REALTY CORPORATION

KILROY REALTY CORPORATION
CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)
 
June 30, 2016
 
December 31, 2015
ASSETS
(unaudited)
 
 
REAL ESTATE ASSETS (Note 2):
 
 
 
Land and improvements
$
1,020,287

 
$
875,794

Buildings and improvements
4,639,003

 
4,091,012

Undeveloped land and construction in progress
894,057

 
1,361,340

Total real estate assets held for investment
6,553,347

 
6,328,146

Accumulated depreciation and amortization
(1,054,828
)
 
(994,241
)
Total real estate assets held for investment, net
5,498,519

 
5,333,905

REAL ESTATE ASSETS AND OTHER ASSETS HELD FOR SALE, NET (Note 3)
30,257

 
117,666

CASH AND CASH EQUIVALENTS
26,332

 
56,508

RESTRICTED CASH (Notes 1 and 3)
266,158

 
696

MARKETABLE SECURITIES (Note 12)
13,388

 
12,882

CURRENT RECEIVABLES, NET (Note 5)
10,112

 
11,153

DEFERRED RENT RECEIVABLES, NET (Note 5)
207,851

 
189,704

DEFERRED LEASING COSTS AND ACQUISITION-RELATED INTANGIBLE ASSETS, NET (Note 4)
186,903

 
176,683

PREPAID EXPENSES AND OTHER ASSETS, NET (Note 1)
58,913

 
27,233

TOTAL ASSETS
$
6,298,433

 
$
5,926,430

LIABILITIES AND EQUITY
 
 
 
LIABILITIES:
 
 
 
Secured debt, net (Notes 1, 6 and 12)
$
373,500

 
$
380,835

Unsecured debt, net (Notes 1, 6 and 12)
1,845,992

 
1,844,634

Unsecured line of credit (Notes 6 and 12)
220,000

 

Accounts payable, accrued expenses and other liabilities
211,196

 
246,323

Accrued dividends and distributions (Note 17)
37,733

 
34,992

Deferred revenue and acquisition-related intangible liabilities, net (Note 4)
138,394

 
128,156

Rents received in advance and tenant security deposits
44,663

 
49,361

Liabilities of real estate assets held for sale (Note 3)
321

 
7,543

Total liabilities
2,871,799

 
2,691,844

COMMITMENTS AND CONTINGENCIES (Note 11)

 

EQUITY:
 
 
 
Stockholders’ Equity (Note 8):
 
 
 
Preferred stock, $.01 par value, 30,000,000 shares authorized:
 
 
 
6.875% Series G Cumulative Redeemable Preferred stock, $.01 par value, 4,600,000 shares authorized, 4,000,000 shares issued and outstanding ($100,000 liquidation preference)
96,155

 
96,155

6.375% Series H Cumulative Redeemable Preferred stock, $.01 par value, 4,000,000 shares authorized, issued and outstanding ($100,000 liquidation preference)
96,256

 
96,256

Common stock, $.01 par value, 150,000,000 shares authorized, 92,254,768 and 92,258,690 shares issued and outstanding, respectively
923

 
923

Additional paid-in capital
3,074,508

 
3,047,894

Retained earnings/(distributions in excess of earnings)
62,647

 
(70,262
)
Total stockholders’ equity
3,330,489

 
3,170,966

Noncontrolling Interests:
 
 
 
Common units of the Operating Partnership (Note 7)
89,495

 
57,100

Noncontrolling interest in consolidated subsidiary (Note 1)
6,650

 
6,520

Total noncontrolling interests
96,145

 
63,620

Total equity
3,426,634

 
3,234,586

TOTAL LIABILITIES AND EQUITY
$
6,298,433

 
$
5,926,430


See accompanying notes to consolidated financial statements.

1


KILROY REALTY CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited; in thousands, except share and per share data)
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2016
 
2015
 
2016
 
2015
REVENUES
 
 
 
 
 
 
 
Rental income
$
143,653

 
$
131,450

 
$
277,408

 
$
262,382

Tenant reimbursements
16,138

 
14,174

 
27,542

 
28,599

Other property income
342

 
603

 
629

 
1,328

Total revenues
160,133

 
146,227

 
305,579

 
292,309

EXPENSES
 
 
 
 
 
 
 
Property expenses
29,221

 
26,866

 
55,186

 
51,580

Real estate taxes
13,845

 
12,430

 
24,877

 
25,145

Provision for bad debts

 
47

 

 
289

Ground leases
768

 
813

 
1,597

 
1,589

General and administrative expenses
13,979

 
12,633

 
27,416

 
25,401

Acquisition-related expenses
714

 
265

 
776

 
393

Depreciation and amortization
53,346

 
51,658

 
103,786

 
103,145

Total expenses
111,873

 
104,712

 
213,638

 
207,542

OTHER (EXPENSES) INCOME
 
 
 
 
 
 
 
Interest income and other net investment gains (Note 12)
311

 
511

 
582

 
871

Interest expense (Note 6)
(14,384
)
 
(14,864
)
 
(26,213
)
 
(31,742
)
Total other (expenses) income
(14,073
)
 
(14,353
)
 
(25,631
)
 
(30,871
)
INCOME FROM OPERATIONS BEFORE GAINS (LOSSES) ON SALES OF REAL ESTATE
34,187

 
27,162

 
66,310

 
53,896

Net (loss) gain on sales of land (Note 3)
(295
)
 

 
(295
)
 
17,268

Gains on sales of depreciable operating properties (Note 3)

 
31,428

 
145,990

 
31,428

NET INCOME
33,892

 
58,590

 
212,005

 
102,592

Net income attributable to noncontrolling common units of the Operating Partnership
(829
)
 
(1,090
)
 
(4,439
)
 
(1,905
)
Net income attributable to noncontrolling interest in consolidated subsidiary
(216
)
 

 
(411
)
 

Total income attributable to noncontrolling interests
(1,045
)
 
(1,090
)
 
(4,850
)
 
(1,905
)
NET INCOME ATTRIBUTABLE TO KILROY REALTY CORPORATION
32,847

 
57,500

 
207,155

 
100,687

PREFERRED DIVIDENDS
(3,312
)
 
(3,312
)
 
(6,625
)
 
(6,625
)
NET INCOME AVAILABLE TO COMMON STOCKHOLDERS
$
29,535

 
$
54,188

 
$
200,530

 
$
94,062

Net income available to common stockholders per share – basic (Note 13)
$
0.32

 
$
0.61

 
$
2.17

 
$
1.07

Net income available to common stockholders per share – diluted (Note 13)
$
0.31

 
$
0.61

 
$
2.15

 
$
1.06

Weighted average common shares outstanding – basic (Note 13)
92,209,955

 
88,126,187

 
92,217,238

 
87,514,878

Weighted average common shares outstanding – diluted (Note 13)
92,824,786

 
88,645,868

 
92,784,065

 
88,044,292

Dividends declared per common share
$
0.375

 
$
0.350

 
$
0.725

 
$
0.700

















See accompanying notes to consolidated financial statements.

2


KILROY REALTY CORPORATION
CONSOLIDATED STATEMENTS OF EQUITY
(Unaudited; in thousands, except share and per share/unit data)
 
 
 
 
Common Stock
 
Total
Stock-
holders’
Equity
 
Noncontrolling Interests
 
Total
Equity
 
Preferred
Stock
 
Number of
Shares
 
Common
Stock
 
Additional
Paid-in
Capital
 
Distributions
in Excess of
Earnings
 
BALANCE AS OF DECEMBER 31, 2014
$
192,411

 
86,259,684

 
$
863

 
$
2,635,900

 
$
(162,964
)
 
$
2,666,210

 
$
57,726

 
$
2,723,936

Net income
 
 
 
 
 
 
 
 
100,687

 
100,687

 
1,905

 
102,592

Issuance of common stock
 
 
1,866,267

 
18

 
137,906

 
 
 
137,924

 
 
 
137,924

Issuance of share-based compensation awards
 
 
 
 
 
 
844

 
 
 
844

 
 
 
844

Noncash amortization of share-based compensation
 
 
 
 
 
 
9,251

 
 
 
9,251

 
 
 
9,251

Repurchase of common stock, stock options and restricted stock units
 
 
(20,752
)
 
 
 
(1,836
)
 
 
 
(1,836
)
 
 
 
(1,836
)
Settlement of restricted stock units for shares of common stock
 
 
37,403

 
 
 

 
 
 

 
 
 

Exercise of stock options
 
 
252,000

 
3

 
10,735

 
 
 
10,738

 
 
 
10,738

Exchange of common units of the Operating Partnership
 
 
11,030

 
 
 
316

 
 
 
316

 
(316
)
 

Adjustment for noncontrolling interest
 
 
 
 
 
 
(1,890
)
 
 
 
(1,890
)
 
1,890

 

Contribution by noncontrolling interest in consolidated subsidiary
 
 
 
 
 
 
 
 
 
 
 
 
203

 
203

Preferred dividends
 
 
 
 
 
 
 
 
(6,625
)
 
(6,625
)
 
 
 
(6,625
)
Dividends declared per common share and common unit ($0.70 per share/unit)
 
 
 
 
 
 
 
 
(62,667
)
 
(62,667
)
 
(1,255
)
 
(63,922
)
BALANCE AS OF JUNE 30, 2015
$
192,411

 
88,405,632

 
$
884

 
$
2,791,226

 
$
(131,569
)
 
$
2,852,952

 
$
60,153

 
$
2,913,105

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 


 
 
 
Common Stock
 
Total
Stock-
holders’
Equity
 
Noncontrolling Interests
 
Total
Equity
 
Preferred
Stock
 
Number of
Shares
 
Common
Stock
 
Additional
Paid-in
Capital
 
Retained Earnings /(Distributions
in Excess of
Earnings)
 
BALANCE AS OF DECEMBER 31, 2015
$
192,411

 
92,258,690

 
$
923

 
$
3,047,894

 
$
(70,262
)
 
$
3,170,966

 
$
63,620

 
$
3,234,586

Net income
 
 
 
 
 
 
 
 
207,155

 
207,155

 
4,850

 
212,005

Issuance of share-based compensation awards
 
 

 
 
 
853

 
 
 
853

 
 
 
853

Noncash amortization of share-based compensation
 
 
 
 
 
 
12,538

 
 
 
12,538

 
 
 
12,538

Exercise of stock options
 
 
22,000

 

 
937

 
 
 
937

 
 
 
937

Repurchase of common stock, stock options and restricted stock units
 
 
(96,360
)
 
(1
)
 
(5,882
)
 
 
 
(5,883
)
 
 
 
(5,883
)
Settlement of restricted stock units for shares of common stock
 
 
69,238

 
1

 
(1
)
 
 
 

 
 
 

Issuance of common units in connection with acquisition (Note 2)
 
 
 
 
 
 
 
 
 
 
 
 
48,033

 
48,033

Exchange of common units of the Operating Partnership
 
 
1,200

 

 
39

 
 
 
39

 
(39
)
 

Adjustment for noncontrolling interest
 
 
 
 
 
 
18,130

 
 
 
18,130

 
(18,130
)
 

Distribution to noncontrolling interest in consolidated subsidiary
 
 
 
 
 
 
 
 
 
 
 
 
(281
)
 
(281
)
Preferred dividends
 
 
 
 
 
 
 
 
(6,625
)
 
(6,625
)
 
 
 
(6,625
)
Dividends declared per common share and common unit ($0.725 per share/unit)
 
 
 
 
 
 
 
 
(67,621
)
 
(67,621
)
 
(1,908
)
 
(69,529
)
BALANCE AS OF JUNE 30, 2016
$
192,411

 
92,254,768

 
$
923

 
$
3,074,508

 
$
62,647

 
$
3,330,489

 
$
96,145

 
$
3,426,634




See accompanying notes to consolidated financial statements.

3


KILROY REALTY CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited; in thousands)
 
 
Six Months Ended June 30,
 
2016
 
2015
CASH FLOWS FROM OPERATING ACTIVITIES:
 
 
 
Net income
$
212,005

 
$
102,592

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization of building and improvements and leasing costs
102,127

 
101,812

Depreciation of furniture, fixtures and equipment
1,659

 
1,333

Increase in provision for bad debts

 
289

Noncash amortization of share-based compensation awards
10,034

 
7,650

Noncash amortization of deferred financing costs and debt discounts and premiums
1,306

 
889

Noncash amortization of net below market rents (Note 4)
(3,243
)
 
(5,029
)
Gains on sales of depreciable operating properties (Note 3)
(145,990
)
 
(31,428
)
Loss (gain) on sales of land (Note 3)
295

 
(17,268
)
Noncash amortization of deferred revenue related to tenant-funded tenant improvements
(6,100
)
 
(6,304
)
Straight-line rents
(18,537
)
 
(28,575
)
Net change in other operating assets
(6,071
)
 
(9,100
)
Net change in other operating liabilities
(9,856
)
 
(33
)
Net cash provided by operating activities
137,629

 
116,828

CASH FLOWS FROM INVESTING ACTIVITIES:
 
 
 
Expenditures for development properties and undeveloped land
(162,122
)
 
(199,358
)
Expenditures for acquisition of undeveloped land (Note 2)
(33,513
)
 
(52,134
)
Expenditures for acquisition of operating properties (Note 2)
(55,415
)
 

Expenditures for operating properties and other capital assets
(65,543
)
 
(50,969
)
Net proceeds received from dispositions (Note 3)
276,622

 
165,797

(Increase) decrease in restricted cash (Note 3)
(265,462
)
 
58,444

Decrease (increase) in acquisition-related deposits
1,902

 
(6,800
)
Increase in note receivable
(1,000
)
 

Net cash used in investing activities
(304,531
)
 
(85,020
)
CASH FLOWS FROM FINANCING ACTIVITIES:
 
 
 
Net proceeds from issuance of common stock

 
137,924

Borrowings on unsecured revolving credit facility
270,000

 
250,000

Repayments on unsecured revolving credit facility
(50,000
)
 
(290,000
)
Principal payments on secured debt (Note 6)
(4,808
)
 
(64,771
)
Financing costs
(679
)
 
(769
)
Repurchase of common stock and restricted stock units
(5,883
)
 
(1,836
)
Proceeds from exercise of stock options
937

 
10,738

Distributions to noncontrolling interests in consolidated subsidiary
(281
)
 

Contributions from noncontrolling interests in consolidated subsidiary

 
203

Dividends and distributions paid to common stockholders and common unitholders
(65,935
)
 
(62,311
)
Dividends and distributions paid to preferred stockholders and preferred unitholders
(6,625
)
 
(6,625
)
Net cash provided by (used in) financing activities
136,726

 
(27,447
)
Net (decrease) increase in cash and cash equivalents
(30,176
)
 
4,361

Cash and cash equivalents, beginning of period
56,508

 
23,781

Cash and cash equivalents, end of period
$
26,332

 
$
28,142









See accompanying notes to consolidated financial statements.

4





ITEM 1: FINANCIAL STATEMENTS (UNAUDITED) OF KILROY REALTY, L.P.

KILROY REALTY, L.P.
CONSOLIDATED BALANCE SHEETS
(in thousands, except unit data)
 
 
June 30, 2016
 
December 31, 2015
ASSETS 
(unaudited)
 
 
REAL ESTATE ASSETS (Note 2):
 
 
 
Land and improvements
$
1,020,287

 
$
875,794

Buildings and improvements
4,639,003

 
4,091,012

Undeveloped land and construction in progress
894,057

 
1,361,340

Total real estate assets held for investment
6,553,347

 
6,328,146

Accumulated depreciation and amortization
(1,054,828
)
 
(994,241
)
Total real estate assets held for investment, net
5,498,519

 
5,333,905

REAL ESTATE ASSETS AND OTHER ASSETS HELD FOR SALE, NET (Note 3)
30,257

 
117,666

CASH AND CASH EQUIVALENTS
26,332

 
56,508

RESTRICTED CASH (Notes 1 and 3)
266,158

 
696

MARKETABLE SECURITIES (Note 12)
13,388

 
12,882

CURRENT RECEIVABLES, NET (Note 5)
10,112

 
11,153

DEFERRED RENT RECEIVABLES, NET (Note 5)
207,851

 
189,704

DEFERRED LEASING COSTS AND ACQUISITION-RELATED INTANGIBLE ASSETS, NET (Note 4)
186,903

 
176,683

PREPAID EXPENSES AND OTHER ASSETS, NET (Note 1)
58,913

 
27,233

TOTAL ASSETS
$
6,298,433

 
$
5,926,430

LIABILITIES AND CAPITAL
 
 
 
LIABILITIES:
 
 
 
Secured debt, net (Notes 1, 6 and 12)
$
373,500

 
$
380,835

Unsecured debt, net (Notes 1, 6 and 12)
1,845,992

 
1,844,634

Unsecured line of credit (Notes 6 and 12)
220,000

 

Accounts payable, accrued expenses and other liabilities
211,196

 
246,323

Accrued distributions (Note 17)
37,733

 
34,992

Deferred revenue and acquisition-related intangible liabilities, net (Note 4)
138,394

 
128,156

Rents received in advance and tenant security deposits
44,663

 
49,361

Liabilities of real estate assets held for sale (Note 3)
321

 
7,543

Total liabilities
2,871,799

 
2,691,844

COMMITMENTS AND CONTINGENCIES (Note 11)

 

CAPITAL:
 
 
 
Partners’ Capital (Note 9):
 
 
 
6.875% Series G Cumulative Redeemable Preferred units, 4,000,000 units issued and
outstanding ($100,000 liquidation preference)
96,155

 
96,155

6.375% Series H Cumulative Redeemable Preferred units, 4,000,000 units issued and
outstanding ($100,000 liquidation preference)
96,256

 
96,256

Common units, 92,254,768 and 92,258,690 held by the general partner and 2,631,276 and 1,764,775
held by common limited partners issued and outstanding, respectively
3,223,356


3,031,609

Total partners’ capital
3,415,767

 
3,224,020

Noncontrolling interests in consolidated subsidiaries (Note 1)
10,867


10,566

Total capital
3,426,634


3,234,586

TOTAL LIABILITIES AND CAPITAL
$
6,298,433


$
5,926,430






See accompanying notes to consolidated financial statements.

5


KILROY REALTY, L.P.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited; in thousands, except unit and per unit data)

 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2016
 
2015
 
2016
 
2015
REVENUES
 
 
 
 
 
 
 
Rental income
$
143,653

 
$
131,450

 
$
277,408

 
$
262,382

Tenant reimbursements
16,138

 
14,174

 
27,542

 
28,599

Other property income
342

 
603

 
629

 
1,328

Total revenues
160,133

 
146,227

 
305,579

 
292,309

EXPENSES
 
 
 
 
 
 
 
Property expenses
29,221

 
26,866

 
55,186

 
51,580

Real estate taxes
13,845

 
12,430

 
24,877

 
25,145

Provision for bad debts

 
47

 

 
289

Ground leases
768

 
813

 
1,597

 
1,589

General and administrative expenses
13,979

 
12,633

 
27,416

 
25,401

Acquisition-related expenses
714

 
265

 
776

 
393

Depreciation and amortization
53,346

 
51,658

 
103,786

 
103,145

Total expenses
111,873

 
104,712

 
213,638

 
207,542

OTHER (EXPENSES) INCOME
 
 
 
 
 
 
 
Interest income and other net investment gains (Note 12)
311

 
511

 
582

 
871

Interest expense (Note 6)
(14,384
)
 
(14,864
)
 
(26,213
)
 
(31,742
)
Total other (expenses) income
(14,073
)
 
(14,353
)
 
(25,631
)
 
(30,871
)
INCOME FROM OPERATIONS BEFORE GAINS (LOSSES) ON SALES OF REAL ESTATE
34,187

 
27,162

 
66,310

 
53,896

Net (loss) gain on sales of land (Note 3)
(295
)
 

 
(295
)
 
17,268

Gains on sales of depreciable operating properties (Note 3)

 
31,428

 
145,990

 
31,428

NET INCOME
33,892

 
58,590

 
212,005

 
102,592

Net income attributable to noncontrolling interests in consolidated subsidiaries
(302
)
 
(72
)
 
(582
)
 
(147
)
NET INCOME ATTRIBUTABLE TO KILROY REALTY, L.P.
33,590

 
58,518

 
211,423

 
102,445

PREFERRED DISTRIBUTIONS
(3,312
)
 
(3,312
)
 
(6,625
)
 
(6,625
)
NET INCOME AVAILABLE TO COMMON UNITHOLDERS
$
30,278

 
$
55,206

 
$
204,798

 
$
95,820

Net income available to common unitholders per unit – basic (Note 14)
$
0.31

 
$
0.61

 
$
2.16

 
$
1.06

Net income available to common unitholders per unit – diluted (Note 14)
$
0.31

 
$
0.61

 
$
2.15

 
$
1.06

Weighted average common units outstanding – basic (Note 14)
94,841,231

 
89,919,357

 
94,514,876

 
89,309,718

Weighted average common units outstanding – diluted (Note 14)
95,456,062

 
90,439,038

 
95,081,703

 
89,839,132

Dividends declared per common unit
$
0.375

 
$
0.350

 
$
0.725

 
$
0.700



















See accompanying notes to consolidated financial statements.

6


KILROY REALTY, L.P.
CONSOLIDATED STATEMENTS OF CAPITAL
(Unaudited; in thousands, except unit and per unit data)
 
 
Partners’ Capital
 
Total
Partners’ 
Capital
 
Noncontrolling Interests in Consolidated Subsidiaries
 
 
 
Preferred
Units
 
Number of
Common
Units
 
Common
Units
 
 
 
Total
Capital
BALANCE AS OF DECEMBER 31, 2014
$
192,411

 
88,063,884

 
$
2,521,900

 
$
2,714,311

 
$
9,625

 
$
2,723,936

Net income
 
 
 
 
102,445

 
102,445

 
147

 
102,592

Issuance of common units
 
 
1,866,267

 
137,924

 
137,924

 
 
 
137,924

Issuance of share-based compensation awards
 
 
 
 
844

 
844

 
 
 
844

Noncash amortization of share-based compensation
 
 
 
 
9,251

 
9,251

 
 
 
9,251

Repurchase of common units, stock options and restricted stock units
 
 
(20,752
)
 
(1,836
)
 
(1,836
)
 
 
 
(1,836
)
Settlement of restricted stock units
 
 
37,403

 

 

 
 
 

Exercise of stock options
 
 
252,000

 
10,738

 
10,738

 
 
 
10,738

Contribution by noncontrolling interest in consolidated subsidiary
 
 
 
 
 
 
 
 
203

 
203

Preferred distributions
 
 
 
 
(6,625
)
 
(6,625
)
 
 
 
(6,625
)
Distributions declared per common unit ($0.70 per unit)
 
 
 
 
(63,922
)
 
(63,922
)
 
 
 
(63,922
)
BALANCE AS OF JUNE 30, 2015
$
192,411

 
90,198,802

 
$
2,710,719

 
$
2,903,130

 
$
9,975

 
$
2,913,105

 
 
 
 
 
 
 
 
 
 
 
 




 
Partners’ Capital
 
Total
Partners’ 
Capital
 
Noncontrolling Interests in Consolidated Subsidiaries
 
 
 
Preferred
Units
 
Number of
Common
Units
 
Common
Units
 
 
Total
Capital
BALANCE AS OF DECEMBER 31, 2015
$
192,411

 
94,023,465

 
$
3,031,609

 
$
3,224,020

 
$
10,566

 
$
3,234,586

Net income
 
 
 
 
211,423

 
211,423

 
582

 
212,005

Issuance of common units in connection with acquisition (Note 2)
 
 
867,701

 
48,033

 
48,033

 
 
 
48,033

Issuance of share-based compensation awards
 
 
 
 
853

 
853

 
 
 
853

Noncash amortization of share-based compensation
 
 
 
 
12,538

 
12,538

 
 
 
12,538

Exercise of stock options
 
 
22,000

 
937

 
937

 
 
 
937

Repurchase of common units, stock options and restricted stock units
 
 
(96,360
)
 
(5,883
)
 
(5,883
)
 
 
 
(5,883
)
Settlement of restricted stock units
 
 
69,238

 

 

 
 
 

Distribution to noncontrolling interest in consolidated subsidiary
 
 
 
 
 
 
 
 
(281
)
 
(281
)
Preferred distributions
 
 
 
 
(6,625
)
 
(6,625
)
 
 
 
(6,625
)
Distributions declared per common unit ($0.725 per unit)
 
 
 
 
(69,529
)
 
(69,529
)
 
 
 
(69,529
)
BALANCE AS OF JUNE 30, 2016
$
192,411

 
94,886,044

 
$
3,223,356

 
$
3,415,767

 
$
10,867

 
$
3,426,634















See accompanying notes to consolidated financial statements.

7


KILROY REALTY, L.P.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited; in thousands)

 
Six Months Ended June 30,
 
2016
 
2015
CASH FLOWS FROM OPERATING ACTIVITIES:
 
 
 
Net income
$
212,005

 
$
102,592

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization of building and improvements and leasing costs
102,127

 
101,812

Depreciation of furniture, fixtures and equipment
1,659

 
1,333

Increase in provision for bad debts

 
289

Noncash amortization of share-based compensation awards
10,034

 
7,650

Noncash amortization of deferred financing costs and debt discounts and premiums
1,306

 
889

Noncash amortization of net below market rents (Note 4)
(3,243
)
 
(5,029
)
Gains on sales of depreciable operating properties (Note 3)
(145,990
)
 
(31,428
)
Loss (gain) on sales of land (Note 3)
295

 
(17,268
)
Noncash amortization of deferred revenue related to tenant-funded tenant improvements
(6,100
)
 
(6,304
)
Straight-line rents
(18,537
)
 
(28,575
)
Net change in other operating assets
(6,071
)
 
(9,100
)
Net change in other operating liabilities
(9,856
)
 
(33
)
Net cash provided by operating activities
137,629

 
116,828

CASH FLOWS FROM INVESTING ACTIVITIES:
 
 
 
Expenditures for development properties and undeveloped land
(162,122
)
 
(199,358
)
Expenditures for acquisition of undeveloped land (Note 2)
(33,513
)
 
(52,134
)
Expenditures for acquisition of operating properties (Note 2)
(55,415
)
 

Expenditures for operating properties and other capital assets
(65,543
)
 
(50,969
)
Net proceeds received from dispositions (Note 3)
276,622

 
165,797

(Increase) decrease in restricted cash (Note 3)
(265,462
)
 
58,444

Decrease (increase) in acquisition-related deposits
1,902

 
(6,800
)
Increase in note receivable
(1,000
)
 

Net cash used in investing activities
(304,531
)
 
(85,020
)
CASH FLOWS FROM FINANCING ACTIVITIES:
 
 
 
Net proceeds from issuance of common stock

 
137,924

Borrowings on unsecured revolving credit facility
270,000

 
250,000

Repayments on unsecured revolving credit facility
(50,000
)
 
(290,000
)
Principal payments on secured debt (Note 6)
(4,808
)
 
(64,771
)
Financing costs
(679
)
 
(769
)
Repurchase of common stock and restricted stock units
(5,883
)
 
(1,836
)
Proceeds from exercise of stock options
937

 
10,738

Distributions to noncontrolling interests in consolidated subsidiary
(281
)
 

Contributions from noncontrolling interests in consolidated subsidiary

 
203

Distributions paid to common unitholders
(65,935
)
 
(62,311
)
Distributions paid to preferred unitholders
(6,625
)
 
(6,625
)
Net cash provided by (used in) financing activities
136,726

 
(27,447
)
Net (decrease) increase in cash and cash equivalents
(30,176
)
 
4,361

Cash and cash equivalents, beginning of period
56,508

 
23,781

Cash and cash equivalents, end of period
$
26,332

 
$
28,142

 








See accompanying notes to consolidated financial statements.

8


KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
Three and Six Months Ended June 30, 2016 and 2015

1.    Organization and Basis of Presentation

Organization

Kilroy Realty Corporation (the “Company”) is a self-administered real estate investment trust (“REIT”) active in premier office submarkets along the West Coast. We own, develop, acquire and manage real estate assets, consisting primarily of Class A properties in the coastal regions of Los Angeles, Orange County, San Diego County, the San Francisco Bay Area and Greater Seattle, which we believe have strategic advantages and strong barriers to entry. Class A real estate encompasses attractive and efficient buildings of high quality that are attractive to tenants, are well-designed and constructed with above-average material, workmanship and finishes and are well-maintained and managed. We qualify as a REIT under the Internal Revenue Code of 1986, as amended (the “Code”). The Company’s common stock is publicly traded on the New York Stock Exchange (“NYSE”) under the ticker symbol “KRC.”

We own our interests in all of our real estate assets through Kilroy Realty, L.P. (the “Operating Partnership”) and Kilroy Realty Finance Partnership, L.P. (the “Finance Partnership”). We generally conduct substantially all of our operations through the Operating Partnership. Unless stated otherwise or the context indicates otherwise, the terms “Kilroy Realty Corporation” or the “Company,” “we,” “our,” and “us” refer to Kilroy Realty Corporation and its consolidated subsidiaries and the term “Operating Partnership” refers to Kilroy Realty, L.P. and its consolidated subsidiaries. The descriptions of our business, employees and properties apply to both the Company and the Operating Partnership.

Our stabilized portfolio of operating properties was comprised of the following office properties at June 30, 2016:

 
Number of
Buildings
 
Rentable
Square Feet
 
Number of
Tenants
 
Percentage 
Occupied
Stabilized Office Properties
102

 
13,660,231

 
526

 
95.5
%

Our stabilized office portfolio includes all of our properties with the exception of development and redevelopment properties currently under construction or committed for construction, “lease-up” properties, real estate assets held for sale, undeveloped land and our recently completed residential property. We define redevelopment properties as those properties for which we expect to spend significant development and construction costs on the existing or acquired buildings pursuant to a formal plan, the intended result of which is a higher economic return on the property. We define “lease-up” properties as office properties we recently developed or redeveloped that have not yet reached 95% occupancy and are within one year following cessation of major construction activities.

During the six months ended June 30, 2016, we stabilized two development projects consisting of 455,340 rentable square feet and 185,602 rentable square feet in San Francisco, California which were included in our stabilized office portfolio as of June 30, 2016. As of June 30, 2016, the following properties, in addition to our recently completed residential property, were excluded from our stabilized office portfolio. We did not have any redevelopment properties at June 30, 2016.

 
Number of
Properties/Projects
 
Estimated Rentable
Square Feet (1)
Properties held for sale (2)
2
 
136,908

Development projects in lease-up
2
 
443,000

Development projects under construction
1
 
700,000

________________________
(1)
Estimated rentable square feet upon completion.
(2)
These properties include two operating properties totaling 136,908 rentable square feet and a 7.0 acre undeveloped land parcel. See Note 3 “Dispositions and Real Estate Assets Held for Sale” for additional information.

Our stabilized office portfolio also excludes our near-term and future development pipeline, which as of June 30, 2016 was comprised of eight development sites, representing approximately 70 gross acres of undeveloped land.

As of June 30, 2016, all of our properties and development projects were owned and all of our business was conducted in the state of California with the exception of twelve office properties and one future development project located in the state of

9


KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)


Washington. As of June 30, 2016, we owned 100% of our properties and development projects, excluding two office properties owned by Redwood City Partners, LLC (“Redwood LLC”), a consolidated subsidiary.

Ownership and Basis of Presentation

The consolidated financial statements of the Company include the consolidated financial position and results of operations of the Company, the Operating Partnership, the Finance Partnership, KSLLC, Redwood LLC and all of our wholly owned and controlled subsidiaries. The consolidated financial statements of the Operating Partnership include the consolidated financial position and results of operations of the Operating Partnership, the Finance Partnership, KSLLC, Redwood LLC and all wholly-owned and controlled subsidiaries of the Operating Partnership. All intercompany balances and transactions have been eliminated in the consolidated financial statements.

As of June 30, 2016, the Company owned an approximate 97.2% common general partnership interest in the Operating Partnership. The remaining approximate 2.8% common limited partnership interest in the Operating Partnership as of June 30, 2016 was owned by non-affiliated investors and certain of our executive officers and directors (see Note 7). Both the general and limited common partnership interests in the Operating Partnership are denominated in common units. Generally, the number of common units held by the Company is equivalent to the number of outstanding shares of the Company’s common stock, and the rights of all the common units to quarterly distributions and payments in liquidation mirror those of the Company’s common stockholders. The common limited partners have certain redemption rights as provided in the Operating Partnership’s Seventh Amended and Restated Agreement of Limited Partnership, as amended, the “Partnership Agreement” (see Note 7).

Kilroy Realty Finance, Inc., which is a wholly owned subsidiary of the Company, is the sole general partner of the Finance Partnership and owns a 1.0% common general partnership interest in the Finance Partnership. The Operating Partnership owns the remaining 99.0% common limited partnership interest. Kilroy Services, LLC (“KSLLC”), which is a wholly owned subsidiary of the Operating Partnership, is the entity through which we generally conduct substantially all of our development activities. As of June 30, 2016, the Company owned an approximate 93% equity interest in Redwood LLC. The remaining interest was owned by an unrelated third party. With the exception of the Operating Partnership and Redwood LLC, all of our subsidiaries are wholly owned.

The accompanying interim financial statements have been prepared by management in accordance with accounting principles generally accepted in the United States of America (“GAAP”) and in conjunction with the rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures required for annual financial statements have been condensed or excluded pursuant to SEC rules and regulations. Accordingly, the interim financial statements do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, the accompanying interim financial statements reflect all adjustments of a normal and recurring nature that are considered necessary for a fair presentation of the results for the interim periods presented. However, the results of operations for the interim periods are not necessarily indicative of the results that may be expected for the year ending December 31, 2016. The interim financial statements for the Company and the Operating Partnership should be read in conjunction with the audited consolidated financial statements and notes thereto included in our annual report on Form 10-K for the year ended December 31, 2015.

Adoption of New Accounting Pronouncements    
Variable Interest Entities
Effective January 1, 2016, the Company adopted Financial Accounting Standards Board (“FASB”) Accounting Standards Update (“ASU”) No. 2015-02 (“ASU 2015-02”), which amended certain guidance with respect to the evaluation of Variable Interest Entities (“VIEs”) and when a reporting entity is required to consolidate certain legal entities. Specifically, the amendments: (i) modify the evaluation of whether limited partnerships and similar legal entities are VIEs or voting interest entities, (ii) eliminate the presumption that a general partner should consolidate a limited partnership, (iii) affect the consolidation analysis of reporting entities that are involved with VIEs, and (iv) provide a scope exception for certain entities. 
Under the new guidance, effective January 1, 2016 the Operating Partnership was determined to be a VIE of the Company as the Operating Partnership is a limited partnership in which the common limited partners do not have substantive kick-out rights or participating rights. However, given that the Company was deemed to be the primary beneficiary of the Operating Partnership, the adoption of this new guidance and the conclusion that the Operating Partnership was a VIE did not have any impact on our consolidated financial statements since the conclusion to consolidate the Operating Partnership still applied. The Operating Partnership was the only new VIE identified as part of the adoption of the guidance as of January 1, 2016.

10


KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)


At June 30, 2016, the consolidated financial statements of the Company included only one VIE, the Operating Partnership, and the consolidated financial statements of the Operating Partnership did not include any VIEs.

At December 31, 2015, the consolidated financial statements of the Company and the Operating Partnership included two VIEs in which we were deemed to be the primary beneficiary: Redwood LLC and one other VIE to facilitate potential future Section 1031 Exchanges to defer taxable gains on dispositions for federal income tax purposes. At December 31, 2015, the impact of consolidating the VIEs increased the Company’s total assets, liabilities and noncontrolling interests by approximately $203.3 million (of which $187.3 million related to real estate held for investment on our consolidated balance sheet), approximately $28.8 million and approximately $6.5 million, respectively. During the three months ended June 30, 2016, Redwood LLC had a VIE reconsideration event and was determined to no longer be a VIE and the VIE to facilitate potential future Section 1031 Exchanges was terminated.
Reclassification of Debt Issuance Costs
Effective January 1, 2016, the Company adopted FASB ASU No. 2015-03 and No. 2015-15, which requires that debt issuance costs related to a recognized debt liability be presented on the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. However, for line-of-credit arrangements, entities may defer and present debt issuance costs as an asset and amortize the costs ratably over the term of the line of credit arrangement, regardless of whether there are any outstanding borrowings on the line of credit arrangement. As a result of our adoption of the guidance, $1.1 million of deferred financing costs as of December 31, 2015 were reclassified to reduce secured debt, net and $12.0 million of deferred financing costs as of December 31, 2015 were reclassified to reduce unsecured debt, net in the December 31, 2015 balances on our consolidated balance sheets. In addition, $4.6 million of deferred financing costs relating to our unsecured line of credit as of December 31, 2015 were reclassified to prepaid expenses and other assets, net in the December 31, 2015 balances on our consolidated balance sheets. The guidance did not have a material impact on our consolidated financial statements.
Recently Issued Accounting Pronouncements

On June 16, 2016, the FASB issued ASU No. 2016-13 (“ASU 2016-13”) to amend the accounting for credit losses for certain financial instruments. Under the new guidance, an entity recognizes its estimate of expected credit losses as an allowance, which the FASB believes will result in more timely recognition of such losses.  ASU 2016-13 is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. Early adoption is permitted for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. The Company is currently assessing the impact of the guidance on our consolidated financial statements and notes to our consolidated financial statements.
On May 9, 2016, the FASB issued ASU No. 2016-12, which clarifies and provides practical expedients for certain aspects of ASU No. 2014-09, which outlines a single comprehensive model for entities to use in accounting for revenues arising from contracts with customers and notes that lease contracts with customers are a scope exception. Public business entities may elect to adopt the amendments as of the original effective date; however, adoption is required for annual reporting periods beginning after December 15, 2017. The Company is currently assessing the impact of the guidance on our consolidated financial statements and notes to our consolidated financial statements.
On March 30, 2016, the FASB issued ASU No. 2016-09 (“ASU 2016-09”) to amend the accounting guidance for share-based payment accounting. The areas for simplification in ASU 2016-09 involve several aspects of the accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities, and classification on the statement of cash flows. ASU 2016-09 is effective for annual periods beginning after December 15, 2016 and interim periods within those annual periods and early adoption is permitted. The Company is currently assessing the impact of the guidance on our consolidated financial statements and notes to our consolidated financial statements.
On February 25, 2016, the FASB issued ASU No. 2016-02 (“ASU 2016-02”) to amend the accounting guidance for leases. The accounting applied by a lessor is largely unchanged under ASU 2016-02. However, the standard requires lessees to recognize lease assets and lease liabilities for leases classified as operating leases on the balance sheet. Lessees will recognize in the statement of financial position a liability to make lease payments and a right-of-use asset representing its right to use the underlying asset for the lease term. For leases with a term of 12 months or less, a lessee is permitted to make an accounting policy election by class of underlying asset not to recognize lease assets and lease liabilities. If a lessee makes this election, it will recognize lease expense for such leases generally on a straight-line basis over the lease term. ASU 2016-02 is effective for fiscal years beginning after December 15, 2018 and early adoption is permitted. The Company is currently assessing the impact of the guidance on our consolidated financial statements and notes to our consolidated financial statements.

11


KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)


On January 5, 2016, the FASB issued ASU No. 2016-01 (“ASU 2016-01”) to amend the accounting guidance on the classification and measurement of financial instruments. The standard requires that all investments in equity securities, including other ownership interests, are carried at fair value through net income. This requirement does not apply to investments that qualify for equity method accounting or to those that result in consolidation of the investee or for which the entity has elected the predictability exception to fair value measurement. Additionally, the standard requires that the portion of the total fair value change caused by a change in instrument-specific credit risk for financial liabilities for which the fair value option has been elected would be recognized in other comprehensive income. Any accumulated amount remaining in other comprehensive income is reclassified to earnings when the liability is extinguished. ASU 2016-01 is effective for fiscal years beginning after December 15, 2017. The Company does not anticipate the guidance to have a material impact on our consolidated financial statements or notes to our consolidated financial statements.
2.    Acquisitions

Operating Property Acquisitions

During the six months ended June 30, 2016, we acquired the one operating property listed below from an unrelated third party. The acquisition was funded with proceeds from the Company’s unsecured revolving credit facility as well as proceeds from our capital recycling program.
Property
 
Date of Acquisition
 
Number of Buildings
 
Rentable Square Feet (unaudited)
 
Purchase Price (in millions) (1)
1290-1300 Terra Bella Avenue, Mountain View, CA
 
June 8, 2016
 
1
 
114,175

 
$
55.4

 
 
 
 
 
 
 
 
 
________________________ 
(1)
In connection with this acquisition, we assumed $0.2 million in accrued liabilities that are not included in the purchase price above.

The related assets, liabilities and results of operations of the acquired property are included in the consolidated financial statements as of the date of acquisition. The following table summarizes the estimated fair values of the assets acquired and liabilities assumed as of the date of acquisition:

 
Total 2016 Operating Property Acquisitions (1)
 
 
Assets
 
Land and improvements
$
28,730

Buildings and improvements (2)
27,555

Deferred leasing costs and acquisition-related intangible assets (3)
4,180

Total assets acquired
60,465

Liabilities
 
Accounts payable, accrued expenses and other liabilities
170

Deferred revenue and acquisition-related intangible liabilities (4)
4,880

Total liabilities assumed
5,050

Net assets and liabilities acquired
$
55,415

________________________ 
(1)
The purchase price of the acquisition completed during the six months ended June 30, 2016 was less than 5% of the Company’s total assets as of June 30, 2016.
(2)
Represents buildings, building improvements and tenant improvements.
(3)
Represents in-place leases (approximately $2.5 million with a weighted average amortization period of 3.6 years) and leasing commissions (approximately $1.7 million with a weighted average amortization period of 3.7 years).
(4)
Represents below-market leases (approximately $4.9 million with a weighted average amortization period of 3.4 years).

Development Project Acquisitions

On March 11, 2016, we acquired an approximately 1.75 acre development site located at 610-620 Brannan Street in San Francisco, California from an unrelated third party. This land parcel is immediately adjacent to our Flower Mart project in the SOMA submarket of San Francisco. The acquisition was funded through $31.0 million in cash and the issuance of 867,701 common units in the Operating Partnership valued at approximately $48.0 million (see Note 9). In addition, the Company paid $2.4 million in seller transaction costs and recorded $4.7 million in accrued liabilities in connection with this acquisition. As of June 30, 2016, the underlying assets were included as undeveloped land and construction in progress on our consolidated balance sheets.


12


KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)



3.    Dispositions and Real Estate Assets Held for Sale

Land Dispositions

The following table summarizes the land dispositions completed during the six months ended June 30, 2016:

Property
 
Submarket
 
Month of Disposition
 
Gross Site Acreage (unaudited)
 
Sales Price (1)
(in millions)
Carlsbad Oaks - Lot 7 (2)
 
Carlsbad
 
January
 
7.6
 
$
4.5

Carlsbad Oaks - Lots 4 & 5
 
Carlsbad
 
June
 
11.2
 
6.0

Carlsbad Oaks - Lot 8
 
Carlsbad
 
June
 
13.2
 
8.9

Total Land Dispositions (3)
 
 
 
 
 
32.0
 
$
19.4

________________________ 
(1)
Represents gross sales price before the impact of broker commissions and closing costs.
(2)
This land parcel was classified as held for sale as of December 31, 2015.
(3)
In connection with these land dispositions, $2.3 million of secured debt was assumed by the buyers. See Note 6 “Secured and Unsecured Debt of the Operating Partnership” for additional information.

The net loss on the four undeveloped land parcels sold during the six months ended June 30, 2016 was approximately $0.3 million.

Operating Property Dispositions

The following table summarizes the operating properties sold during the six months ended June 30, 2016.
Location
 
Property Type
 
Month of Disposition
 
Number of Buildings
 
Rentable Square Feet
 
Sales Price (1)
(in millions)
Torrey Santa Fe Properties (2)
 
Office
 
January
 
4
 
465,812

 
$
262.3

 
 
 
 
 
 
 
 
 
 
 
________________________ 
(1)
Represents gross sales price before the impact of broker commissions and closing costs.
(2)
The Torrey Santa Fe Properties include the following: 7525 Torrey Santa Fe, 7535 Torrey Santa Fe, 7545 Torrey Santa Fe, and 7555 Torrey Santa Fe. These properties were classified as held for sale at December 31, 2015.

The total gain on the four operating properties sold during the six months ended June 30, 2016 was $146.0 million. As of June 30, 2016, approximately $258.1 million of net proceeds related to this disposition were temporarily being held at qualified intermediaries, at our direction, for the purpose of facilitating potential future Section 1031 Exchanges. The cash proceeds are included in restricted cash on our consolidated balance sheets at June 30, 2016.

Real Estate Assets Held for Sale

As of June 30, 2016, the following properties were classified as held for sale:

Location
 
Submarket
 
Property Type
 
Number of Buildings
 
Rentable Square Feet
4930, 4939 & 4955 Directors Place (1)
 
Sorrento Mesa
 
Office
 
2
 
136,908

 
 
 
 
 
 
 
 
 
________________________ 
(1)
These properties include two operating properties totaling 136,908 rentable square feet and a 7.0 acre undeveloped land parcel. On July 21, 2016, the Company completed the sale of these properties for a gross sales price of $49.0 million.










13


KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)



The major classes of assets and liabilities of the properties held for sale as of June 30, 2016 were as follows:
Real estate assets and other assets held for sale
 
(in thousands)
Land and improvements
 
$
5,377

Buildings and improvements
 
34,246

Undeveloped land
 
12,355

Total real estate held for sale
 
51,978

Accumulated depreciation and amortization
 
(22,400
)
Total real estate held for sale, net
 
29,578

Deferred rent receivables, net
 
467

Deferred leasing costs and acquisition-related intangible assets, net
 
57

Prepaid expenses and other assets, net
 
155

Real estate and other assets held for sale, net
 
$
30,257

Liabilities and deferred revenue of real estate assets held for sale
 
 
Accounts payable, accrued expenses and other liabilities
 
$
120

Deferred revenue and acquisition-related intangible liabilities, net
 
201

Liabilities and deferred revenue of real estate assets held for sale
 
$
321

 
 
 


14


KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)



4.    Deferred Leasing Costs and Acquisition-Related Intangible Assets and Liabilities, net

The following table summarizes our deferred leasing costs and acquisition-related intangible assets (acquired value of leasing costs, above-market operating leases, in-place leases and below-market ground lease obligation) and intangible liabilities (acquired value of below-market operating leases and above-market ground lease obligation) as of June 30, 2016 and December 31, 2015:

 
June 30, 2016
 
December 31, 2015
 
(in thousands)
Deferred Leasing Costs and Acquisition-Related Intangible Assets, net: (1)
 
 
 
Deferred leasing costs
$
228,701

 
$
205,888

Accumulated amortization
(81,460
)
 
(72,745
)
Deferred leasing costs, net
147,241

 
133,143

Above-market operating leases
10,662

 
10,989

Accumulated amortization
(7,188
)
 
(6,739
)
Above-market operating leases, net
3,474

 
4,250

In-place leases
72,944

 
72,639

Accumulated amortization
(37,212
)
 
(33,810
)
In-place leases, net
35,732

 
38,829

Below-market ground lease obligation
490

 
490

Accumulated amortization
(34
)
 
(29
)
Below-market ground lease obligation, net
456

 
461

Total deferred leasing costs and acquisition-related intangible assets, net
$
186,903

 
$
176,683

Acquisition-Related Intangible Liabilities, net: (2) (3)
 
 
 
Below-market operating leases
$
57,166

 
$
53,502

Accumulated amortization
(29,899
)
 
(27,074
)
Below-market operating leases, net
27,267

 
26,428

Above-market ground lease obligation
6,320

 
6,320

Accumulated amortization
(475
)
 
(424
)
Above-market ground lease obligation, net
5,845

 
5,896

Total acquisition-related intangible liabilities, net
$
33,112

 
$
32,324

________________________
(1)
Excludes deferred leasing costs and acquisition-related intangible assets, net related to properties held for sale.
(2)
Excludes acquisition-related intangible liabilities, net related to properties held for sale.
(3)
Included in deferred revenue and acquisition-related intangible liabilities, net in the consolidated balance sheets.

The following table sets forth amortization related to deferred leasing costs and acquisition-related intangibles for the three and six months ended June 30, 2016 and 2015:

 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2016
 
2015
 
2016
 
2015
 
(in thousands)
Deferred leasing costs (1)
$
6,961

 
$
7,093

 
$
13,744

 
$
13,914

Above-market operating leases (2)
384

 
737

 
776

 
1,648

In-place leases (1)
2,669

 
4,416

 
5,557

 
8,637

Below-market ground lease obligation (3)
2

 
2

 
4

 
4

Below-market operating leases (4)
(2,024
)
 
(3,838
)
 
(4,019
)
 
(6,677
)
Above-market ground lease obligation (5)
(25
)
 
(25
)
 
(50
)
 
(50
)
Total
$
7,967

 
$
8,385

 
$
16,012

 
$
17,476

________________________
(1)
The amortization of deferred leasing costs and in-place leases is recorded to depreciation and amortization expense in the consolidated statements of operations for the periods presented.
(2)
The amortization of above-market operating leases is recorded as a decrease to rental income in the consolidated statements of operations for the periods presented.
(3)
The amortization of the below-market ground lease obligation is recorded as an increase to ground lease expense in the consolidated statements of operations for the periods presented.
(4)
The amortization of below-market operating leases is recorded as an increase to rental income in the consolidated statements of operations for the periods presented.
(5)
The amortization of the above-market ground lease obligation is recorded as a decrease to ground lease expense in the consolidated statements of operations for the periods presented.

15


KILROY REALTY CORPORATION AND KILROY REALTY, L.P.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS – (Continued)



The following table sets forth the estimated annual amortization expense related to deferred leasing costs and acquisition-related intangibles as of June 30, 2016 for future periods:

Year
Deferred Leasing Costs
 
Above-Market Operating Leases (1)
 
In-Place Leases
 
Below-Market Ground Lease Obligation (2)
 
Below-Market Operating Leases (3)
 
Above-Market Ground Lease Obligation (4)
 
(in thousands)
Remaining 2016
$
14,251

 
$
725

 
$
5,466

 
$
4

 
$
(4,494
)
 
$
(50
)
2017
26,180

 
1,241

 
9,738

 
8

 
(8,437
)
 
(101
)
2018
22,883

 
831

 
6,998

 
8

 
(7,159
)
 
(101
)
2019
18,748

 
643

 
5,149

 
8

 
(4,583
)
 
(101
)
2020
14,495

 
16

 
2,923

 
8

 
(2,169
)
 
(101
)
Thereafter
50,684

 
18

 
5,458

 
420

 
(425
)
 
(5,391
)
Total
$
147,241

 
$
3,474

 
$
35,732

 
$
456

 
$
(27,267
)
 
$
(5,845
)
________________________
(1)
Represents estimated annual amortization related to above-market operating leases. Amounts will be recorded as a decrease to rental income in the consolidated statements of operations.
(2)
Represents estimated annual amortization related to below-market ground lease obligations. Amounts will be recorded as an increase to ground lease expense in the consolidated statements of operations.
(3)
Represents estimated annual amortization related to below-market operating leases. Amounts will be recorded as an increase to rental income in the consolidated statements of operations.
(4)
Represents estimated annual amortization related to above-market ground lease obligations. Amounts will be recorded as a decrease to ground lease expense in the consolidated statements of operations.

5.    Receivables

Current Receivables, net

Current receivables, net is primarily comprised of contractual rents and other lease-related obligations due from tenants. The balance consisted of the following as of June 30, 2016 and December 31, 2015:

 
June 30, 2016
 
December 31, 2015
 
(in thousands)
Current receivables
$
11,930

 
$
13,233

Allowance for uncollectible tenant receivables
(1,818
)
 
(2,080
)
Current receivables, net (1)
$
10,112

 
$
11,153

________________________
(1)
Excludes current receivables, net related to real estate held for sale.

Deferred Rent Receivables, net

Deferred rent receivables, net consisted of the following as of June 30, 2016 and December 31, 2015:

 
June 30, 2016
 
December 31, 2015
 
(in thousands)
Deferred rent receivables
$
209,378