10-K 1 y06524e10vk.txt FORM 10-K UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D. C. 20549 ------------------------- FORM 10-K [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 2004 OR [ ] 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: 000-25771 ------------------------- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) MARYLAND 13-3951476 (STATE OF INCORPORATION) (I.R.S. EMPLOYER IDENTIFICATION NO.) 50 ROCKEFELLER PLAZA 10020 NEW YORK, NEW YORK (ZIP CODE) (ADDRESS OF PRINCIPAL EXECUTIVE OFFICE) REGISTRANT'S TELEPHONE NUMBERS: INVESTOR RELATIONS (212) 492-8920 (212) 492-1100 ------------------------- SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE SECURITIES REGISTERED PURSUANT TO SECTION 12 (g) OF THE ACT: COMMON STOCK, $.001 PAR VALUE ------------------------- Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained in this report, 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.[ ] Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes [X] No[ ] Registrant has no active market for its common stock as of March 8, 2005. Non-affiliates held 65,324,469 shares as of March 8, 2005. As of March 8, 2005, there are 67,803,760 shares of common stock of Registrant outstanding. The Registrant incorporates by reference its definitive Proxy Statement with respect to its 2005 Annual Meeting of Shareholders, to be filed with the Securities and Exchange Commission within 120 days following the end of its fiscal year, into Part III of this Report. CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED PART I This Annual Report on Form 10-K contains certain forward-looking statements relating to Corporate Property Associates 14 Incorporated. As used in this Annual Report on Form 10-K, the terms "the Company," "we," "us" and "our" include Corporate Property Associates 14 Incorporated, its consolidated subsidiaries and predecessors, unless otherwise indicated. Forward-looking statements discuss matters that are not historical facts. Because they discuss future events or conditions, forward-looking statements may include words such as "anticipate," "believe," "estimate," "intend," "could," "should," "would," "may," "seeks," "plans" or similar expressions. Do not unduly rely on forward-looking statements. They give our expectations about the future and are not guarantees, and speak only as of the date they are made. Such statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievement to be materially different from the results of operations or plan expressed or implied by such forward-looking statements. While we cannot predict all of the risks and uncertainties, they include, but are not limited to, those described below in "Factors Affecting Future Operating Results." Accordingly, such information should not be regarded as representations that the results or conditions described in such statements or that our objectives and plans will be achieved. (In thousands, except share and per share amounts) ITEM 1. BUSINESS. (a) GENERAL DEVELOPMENT OF BUSINESS Overview We are a Real Estate Investment Trust ("REIT") that invests in commercial properties leased to companies domestically and internationally. As of December 31, 2004, our portfolio consisted of 236 properties leased to 72 tenants and totaled more than 24.8 million square feet. Our core investment strategy is to purchase and own properties leased to a diversified group of companies on a single tenant net lease basis. These leases generally place the economic burden of ownership on the tenant by requiring them to pay the costs of maintenance, insurance, taxes, structural repairs and other operating expenses. We also generally seek to include in our leases: - clauses providing for mandated rent increases or periodic rent increases tied to increases in the consumer price index ("CPI") or other indices for the jurisdiction in which the property is located or, when appropriate, increases tied to the volume of sales at the property; - indemnification for environmental and other liabilities; and - when appropriate, guarantees from parent companies. We were formed as a Maryland corporation on June 4, 1997. Between November 1997 and November 2001, we sold a total of 65,794,280 shares of common stock for a total of $657,943 in gross offering proceeds. Through December 31, 2004, we have also issued 704,596 shares ($7,598) through our dividend reinvestment and share purchase plan. These proceeds have been used along with limited recourse mortgage debt to acquire a portfolio of properties. As a REIT, we are not subject to federal income taxation as long as we satisfy certain requirements relating to the nature of our income, the level of our distributions and other factors. W. P. Carey & Co. LLC ("WPC"), our advisor, provides us with both strategic and day-to-day management, including acquisition services, research, investment analysis, asset management, capital funding services, disposition of assets, investor relations and administrative services. WPC also provides office space and other facilities for us. We pay asset management fees and certain transactional fees to WPC and also reimburse WPC for certain expenses. WPC also serves in this capacity for Corporate Property Associates 12 Incorporated ("CPA(R):12"), Corporate Property Associates 15 Incorporated ("CPA(R):15"), Corporate Property Associates 16 - Global Incorporated ("CPA(R):16 - Global") and Carey Institutional Properties Incorporated ("CIP(R)") until its merger into CPA(R):15 in September 2004 (collectively, including us, the "CPA(R) REITs"). WPC is listed on the New York Stock Exchange under the symbol "WPC." Our principal executive offices are located at 50 Rockefeller Plaza, New York, NY 10020 and our telephone number is (212) 492-1100. As of December 31, 2004, we had no employees. WPC employs 129 individuals who are available to perform services for us. -2- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED Significant Developments During 2004 ACQUISITIONS. On April 29, 2004, along with two affiliates, Corporate Property Associates 15 Incorporated and Corporate Property Associates 16 - Global Incorporated, through a limited partnership in which we own an 11.54% limited partnership interest, we purchased 78 retail self-storage and truck rental facilities and entered into master lease agreements with two lessees that operate the facilities under the U-Haul brand name. The self-storage facilities are leased to Mercury Partners, LP ("Mercury"), and the truck rental facilities are leased to U-Haul Moving Partners, Inc. ("U-Haul"). The total cost of the facilities was $312,445. In connection with the purchase, the limited partnership obtained $183,000 of limited recourse mortgage financing collateralized by the properties and lease assignments. The loan, which matures in May 2014, provides for monthly payments of principal and interest of $1,230 at an annual interest rate of 6.449% and a 25-year amortization schedule. The Mercury lease has an initial term of 20 years with two 10-year renewal options and provides for annual rent of $18,551. The U-Haul lease has an initial term 10 years with two 10-year renewal options and provides for annual rent of $9,990. In the event that U-Haul does not renew its lease, Mercury will assume the lease obligation for the truck rental facilities. Each lease provides for rent increases every five years based on a formula indexed to the CPI. RE-LEASING OF PREVIOUSLY VACANT PROPERTY. In January 2004, we entered into a net lease with The Retail Distribution Group for a property in Grand Rapids, Michigan that had been vacant since May 2003. We own a 60% interest in this property. The Retail Distribution lease provides for initial annual rent of $903, of which our share is $542, and has an initial term through August 2009. The Retail Distribution lease provides for reductions to its rent as it vacated another property in order to lease the Grand Rapids property. Any reductions to rent will be adjusted for any rentals Retail Distribution receives from the other property or upon its sale of the other property. In December 2003, we entered into a net lease with Wavetronix LLC for a portion of a partially vacant property in Lindon, Utah, which began contributing $301 of annual lease revenue in June 2004 when improvements at the property were completed. The lease has an initial term of five years and seven months. We entered into a lease for the former Scott Companies property in Gardena, California with Moonlight Molds in September 2004 which provides for initial annual rent of $356 and provides the lessee an option to purchase the property. SEC INVESTIGATION. As previously reported by WPC, WPC and Carey Financial Corporation ("Carey Financial"), the wholly-owned broker-dealer subsidiary of WPC, are currently subject to an investigation by the United States Securities and Exchange Commission ("SEC") into payments made to third party broker dealers in connection with the distribution of REITs managed by WPC and other matters. Although no regulatory action has been initiated against WPC or Carey Financial in connection with the matters being investigated, it is possible that the SEC may pursue an action in the future. The potential timing of any such action and the nature of the relief or remedies the SEC may seek cannot be predicted at this time. If such an action is brought, it could materially affect WPC and the REITs managed by WPC, including us. See Item 3 - Legal Proceedings for a discussion of this investigation. (b) FINANCIAL INFORMATION ABOUT SEGMENTS We operate in one industry segment, investment in net leased real property. For the year ended December 31, 2004, no lessee represented 10% or more of our total operating revenue. (c) NARRATIVE DESCRIPTION OF BUSINESS Business Objectives and Strategy Our objectives are to: - own a diversified portfolio of net-leased real estate that will increase in value; - provide increasing revenue rental streams by generally including scheduled rent increases in our leases; - fund dividends to shareholders; and - increase the value of the equity in our real estate by making regular mortgage principal payments. We seek to achieve these objectives by purchasing and holding industrial and commercial properties each net leased to a single corporate tenant. We intend our portfolio to be diversified by tenant and tenant industry. Investment Strategies In analyzing potential investments, WPC reviews many aspects of a transaction, including the tenant, the real estate and the lease, to determine whether a potential investment can be structured to satisfy our investment criteria. The aspects of a transaction which are reviewed and structured by WPC include the following: TENANT EVALUATION. WPC evaluates each potential tenant for its credit, management, position within its industry, operating history and profitability. WPC generally seeks tenants it believes will have stable or improving credit. By leasing -3- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED properties to these tenants, we can generally charge rent that is higher than the rent charged to tenants with recognized credit and thereby enhance our current return from these properties as compared with properties leased to companies whose credit potential has already been recognized by the market. Furthermore, if a tenant's credit does improve, the value of our property will likely increase (if all other factors affecting value remain unchanged). WPC may also seek to enhance the likelihood of a tenant's lease obligations being satisfied, such as through a security deposit which may be in the form of a letter of credit or cash, or through a guarantee of lease obligations from the tenant's corporate parent. In evaluating a possible investment, the creditworthiness of a tenant generally will be a more significant factor than the value of the property absent the lease with such tenant. While WPC will select tenants it believes are creditworthy, tenants will not be required to meet any minimum rating established by an independent credit rating agency. WPC's and the investment committee's standards for determining whether a particular tenant is creditworthy vary in accordance with a variety of factors relating to specific prospective tenants. The creditworthiness of a tenant is determined on a tenant by tenant, case by case basis. Therefore, general standards for creditworthiness cannot be applied. LEASES WITH INCREASING RENTS. WPC typically includes, or attempts to include, a clause in each lease that provides for increases in rent over the term of the lease. These increases are generally tied to increases in indices such as the CPI or mandated rental increases on specific dates and, in the case of retail stores, participation in gross sales above a stated level. PROPERTIES IMPORTANT TO TENANT OPERATIONS. WPC generally seeks to invest in properties with operations that are essential or important to the ongoing operations of the tenant. WPC believes that these properties provide better protection in the event a tenant files for bankruptcy, since leases on properties essential or important to the operations of a bankrupt tenant are less likely to be terminated by a bankrupt tenant. WPC also seeks to assess the income, cash flow and profitability of the business conducted at the property so that, if the tenant is unable to operate its business, we can either continue operating the business conducted at the property or re-lease the property to another entity in the same industry as the tenant which can operate the property profitably. LEASE PROVISIONS THAT ENHANCE AND PROTECT VALUE. When available, WPC attempts to include provisions in our leases that require our consent to specified tenant activity or require the tenant to satisfy specific operating tests. These provisions could include, for example, operational and financial covenants of the tenant, prohibitions on a change in control of the tenant without our consent and indemnification from the tenant against environmental and other contingent liabilities. DIVERSIFICATION. WPC seeks to diversify our portfolio to avoid dependence on any one particular tenant or tenant industry, which also generally results in diversification by type of facility and geographic location. Diversification, to the extent achieved, helps reduce the adverse effect of a single under-performing investment or a downturn in any particular industry or geographic region. INVESTMENT COMMITTEE. WPC has an investment committee that provides services to both the CPA(R) REITs and WPC. As a transaction is structured, it is evaluated by the chairman of the investment committee with respect to the potential tenant's credit, business prospects, position within its industry and other characteristics important to the long-term value of the property and the capability of the tenant to meet its lease obligations. Before a property is acquired, the transaction is reviewed by the investment committee to ensure that it satisfies the investment criteria. For transactions that meet the investment criteria, the investment committee has sole discretion as to which CPA(R) REIT or if WPC will hold the investment. In cases where the investment committee determines that two or more entities among the CPA(R) REITs and WPC should hold the investment, the independent directors of each participating CPA(R) REIT (and the WPC directors if WPC participates) must also approve the transaction. The investment committee is not directly involved in originating or negotiating potential acquisitions, but instead functions as a separate and final step in the acquisition process. WPC places special emphasis on having experienced individuals serve on its investment committee and we do not invest in a transaction unless it is approved by the investment committee. -4- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED The following people serve on the investment committee: - George E. Stoddard, Chairman (1), was formerly responsible for the direct corporate investments of The Equitable Life Assurance Society of the United States and has been involved with the CPA(R) programs for over 20 years. - Frank J. Hoenemeyer, Vice Chairman, was formerly Vice Chairman, Director and Chief Investment Officer of The Prudential Insurance Company of America. As Chief Investment Officer, Mr. Hoenemeyer was responsible for all of Prudential's investments, including stocks, bonds, private placements, real estate and mortgages. - Nathaniel S. Coolidge (1) previously served as Senior Vice President -- Head of Bond & Corporate Finance Department of the John Hancock Mutual Life Insurance Company. His responsibilities included overseeing fixed income investments for Hancock, its affiliates and outside clients. - Lawrence R. Klein (1) is the Benjamin Franklin Professor of Economics Emeritus at the University of Pennsylvania and its Wharton School. Dr. Klein has been awarded the Alfred Nobel Memorial Prize in Economic Sciences and currently advises various governments and government agencies. - Ralph F. Verni (1) is a private investor and business consultant and formerly Chief Investment Officer of The New England Mutual Life Insurance Company. - Karsten von Koller (1) was formerly Chairman and Member of the Board of Managing Directors of Eurohypo AG, the leading commercial real estate financing company in Europe. (1) Investment committee member also serves as a director of WPC. Each property we purchase has been, and future purchases will be, appraised by a third party appraiser. We will not purchase any property that has a total property cost (the purchase price of the property inclusive of acquisition fees) which is in excess of its appraised value. These appraisals may take into consideration, among other things, the terms and conditions of the particular lease transaction, the quality of the lessee's credit and the conditions of the credit markets at the time the lease transaction is negotiated. The appraised value may be greater than the construction cost or the replacement cost of a property, and the actual sale price of a property if sold by us may be greater or less than the appraised value. WPC's practices include obtaining evaluations of the physical condition of properties and obtaining environmental surveys in an attempt to determine potential environmental liabilities associated with a property prior to its acquisition. We will also consider factors peculiar to the laws of foreign countries, in addition to the risk normally associated with real property investments, when considering an investment located outside the United States. Financing Strategies Consistent with our investment policies, we use leverage when available on favorable terms. Substantially all of our mortgages are limited recourse and bear interest at fixed rates. Accordingly, our near term cash flow should not be adversely affected by increases in interest rates, which are near historical lows. We may seek to refinance maturing or recently paid-off mortgage debt with new property-level financing. There is no assurance that existing debt will be refinanced at lower rates of interest as such debt matures. Many of the loans restrict our ability to prepay a loan or provide for payment of premiums if paid prior to the scheduled maturity, but allow defeasance of the loan, that is, a deposit is made to service the loan commitment even if the underlying property is sold. A lender on limited recourse mortgage debt has recourse only to the property collateralizing such debt and not to any of our other assets, while full recourse financing would give a lender recourse to all of our assets. The use of limited recourse debt, therefore, will allow us to limit the exposure of all of our assets to any one debt obligation. We believe that the strategy of combining equity and limited recourse mortgage debt will help us to meet our short-term and -5- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED long-term liquidity needs and will help to diversify our portfolio and, therefore, reduce concentration of risk in any particular lessee. WPC continually seeks opportunities and considers alternative financing techniques to finance properties not currently subject to debt, refinance debt, reduce interest expense or improve its capital structure. Asset Management We believe that effective management of our net lease assets is essential to maintain and enhance property values. Important aspects of asset management include restructuring transactions to meet the evolving needs of current tenants, re-leasing properties, refinancing debt, selling properties and knowledge of the bankruptcy process. WPC monitors, on an ongoing basis, compliance by tenants with their lease obligations and other factors that could affect the financial performance of any of our properties. Monitoring involves receiving assurances that each tenant has paid real estate taxes, assessments and other expenses relating to the properties it occupies and confirming that appropriate insurance coverage is being maintained by the tenant. WPC reviews financial statements of our tenants and undertakes regular physical inspections of the condition and maintenance of our properties. Additionally, WPC periodically analyzes each tenant's financial condition, the industry in which each tenant operates and each tenant's relative strength in its industry. Holding Period We intend to hold each property we acquire for an extended period. The determination of whether a particular property should be sold or otherwise disposed of will be made after consideration of relevant factors with a view to achieving maximum capital appreciation and after-tax return for our shareholders. If our common stock is not listed for trading on a national securities exchange or included for quotation on NASDAQ, our intention is to generally begin selling properties within eight years after the proceeds of the public offering are substantially invested, subject to market conditions. The board of directors will consider whether to list the shares, liquidate or devise an alternative liquidity strategy. Competition We face competition for the acquisition of office and industrial properties in general, and such properties net leased to major corporations in particular, from insurance companies, credit companies, pension funds, private individuals, investment companies and other REITs. We also face competition from institutions that provide or arrange for other types of commercial financing through private or public offerings of equity or debt or traditional bank financings. We believe our management's experience in real estate, credit underwriting and transaction structuring should allow us to compete effectively for office and industrial properties. Environmental Matters Under various federal, state and local environmental laws, regulations and ordinances, current or former owners of real estate, as well as other parties, we may be required to investigate and clean up hazardous or toxic chemicals, substances or waste or petroleum product or waste, releases on, under, in or from a property. These parties may be held liable to governmental entities or to third parties for specified damages and for investigation and cleanup costs incurred by these parties in connection with the release or threatened release of hazardous materials. These laws typically impose responsibility and liability without regard to whether the owner knew of or was responsible for the presence of hazardous materials, and the liability under these laws has been interpreted to be joint and several under some circumstances. Our leases often provide that the tenant is responsible for all environmental liability and for compliance with environmental regulations relating to the tenant's operations. We typically undertake an investigation of potential environmental risks when evaluating an acquisition. Phase I environmental assessments are performed by third party environmental consulting and engineering firms for all properties we acquire. Where we believe them to be warranted, Phase II environmental assessments are performed. Phase I assessments do not involve subsurface testing, whereas Phase II assessments involve some degree of soil and/or groundwater testing. We may acquire a property which is known to have had a release of hazardous materials in the past, subject to a determination of the level of risk and potential cost of remediation. We normally require property sellers to indemnify us fully against any environmental problem existing as of the date of purchase. Additionally, we often structure our leases to require the tenant to assume most or all responsibility for compliance with the environmental provisions of the lease or environmental remediation relating to the tenant's operations and to -6- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED provide that non-compliance with environmental laws is a lease default. In some cases, we may also require a cash reserve, a letter of credit or a guarantee from the tenant, the tenant's parent company or a third party to assure lease compliance and funding of remediation. The value of any of these protections depends on the amount of the collateral and/or financial strength of the entity providing the protection. Such a contractual arrangement does not eliminate our statutory liability or preclude claims against us by governmental authorities or persons who are not a party to the arrangement. Contractual arrangements in our leases may provide a basis for us to recover from the tenant damages or costs for which we have been found liable. Factors Affecting Future Operating Results Our future results may be affected by certain risks and uncertainties including the following: WE ARE SUBJECT TO THE RISKS OF REAL ESTATE OWNERSHIP WHICH COULD REDUCE THE VALUE OF OUR PROPERTIES. Our performance and asset value are subject to risks incident to the ownership and operation of net leased industrial and commercial property, including: - changes in the general economic climate; - changes in local conditions such as an oversupply of space or reduction in demand for real estate; - changes in interest rates and the availability of financing; and - changes in laws and governmental regulations, including those governing real estate usage, zoning and taxes. WE MAY HAVE DIFFICULTY RE-LEASING OR SELLING OUR PROPERTIES. Real estate investments generally lack liquidity compared to other financial assets and this lack of liquidity will limit our ability to quickly change our portfolio in response to changes in economic or other conditions. The net leases we may enter into or acquire may be for properties that are specially suited to the particular needs of our tenant. With these properties, if the current lease is terminated or not renewed, we may be required to renovate the property or to make rent concessions in order to lease the property to another tenant. In addition, in the event we are forced to sell the property, we may have difficulty selling it to a party other than the tenant due to the special purpose for which the property may have been designed. These and other limitations, such as a property's location and/or local economic conditions, may affect our ability to re-lease or sell properties without adversely affecting returns to our shareholders. THE INABILITY OF A TENANT IN A SINGLE TENANT PROPERTY TO PAY RENT WILL REDUCE OUR REVENUES. Most of our properties are each occupied by a single tenant and, therefore, the success of our investments is materially dependent on the financial stability of such tenants. Lease payment defaults by tenants could cause us to reduce the amount of distributions to shareholders. A default of a tenant on its lease payments to us would cause us to lose the revenue from the property and to seek an alternative source of revenue to meet any mortgage payment and prevent a foreclosure if the property is subject to a mortgage. In the event of a default, we may experience delays in enforcing our rights as landlord and may incur substantial costs in protecting our investment and reletting our property. If a lease is terminated, there is no assurance that we will be able to lease the property for the rent previously received or sell the property without incurring a loss. IF OUR TENANTS ARE HIGHLY LEVERAGED, THEY MAY HAVE A HIGHER POSSIBILITY OF FILING FOR BANKRUPTCY OR INSOLVENCY. Of tenants that experience downturns in their operating results due to adverse changes to their business or economic conditions, those that are highly leveraged may have a higher possibility of filing for bankruptcy or insolvency. In bankruptcy or insolvency, a tenant may have the option of vacating a property instead of paying rent. THE BANKRUPTCY OR INSOLVENCY OF TENANTS MAY CAUSE A REDUCTION IN REVENUE. Bankruptcy or insolvency of a tenant could cause: - the loss of lease payments; - an increase in the costs incurred to carry the property; - a reduction in the value of shares; and - a decrease in distributions to shareholders. Under bankruptcy law, a tenant who is the subject of bankruptcy proceedings has the option of continuing or terminating any unexpired lease. If the tenant terminates the lease, any claim we have for breach of the lease (excluding collateral securing the claim) will be treated as a general unsecured claim. -7- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED The maximum claim will be capped at the amount owed for unpaid rent prior to the bankruptcy unrelated to the termination, plus the greater of one year's lease payments or 15% of the remaining lease payments payable under the lease (but no more than three years' lease payments). In addition, due to the long-term nature of our leases and terms providing for the repurchase of a property by the tenant, a bankruptcy court could recharacterize a net-lease transaction as a secured lending transaction. If that were to occur, we would not be treated as the owner of the property, but might have additional rights as a secured creditor. Those rights would not include a right to compel the tenant to timely perform its obligations under the lease but would instead entitle us to "adequate protection," a bankruptcy concept that applies to protect us against further a decrease in the value of the property if the value of the property is less than the balance owed to us. As a general rule, insolvency laws outside the United States are not as favorable to reorganization or to the protection of a debtor's rights as tenants under a lease as are the laws in the United States. Our rights to terminate a lease for default are more likely to be enforceable in countries other than the United States, while a debtor/tenant or its insolvency representative is less likely to have rights to force continuation of lease without our consent. Nonetheless, most such laws would permit a tenant or an appointed insolvency representative to terminate a lease if it so chose. However, because the bankruptcy laws of the United States are considered to be more favorable to debtors and to their reorganization, entities which are not ordinarily perceived as United States entities may seek to take advantage of the United States bankruptcy laws if they are eligible. An entity would be eligible to be a debtor under the United States bankruptcy laws if it had a domicile (state of incorporation or registration), place of business or assets in the United States. If a tenant became a debtor under the United States bankruptcy laws, then it would have the option of continuing or terminating any unexpired lease. Prior to taking the requisite procedural steps to continue or terminate an unexpired lease, the tenant (or its trustee if one has been appointed) must timely perform all obligations of the tenant under the lease. The programs managed by WPC or its affiliates have had tenants file for bankruptcy protection and are involved in litigation (including two international tenants). Four of the other fourteen CPA(R) programs reduced the rate of distributions to their investors as a result of adverse developments involving tenants. OUR TENANTS GENERALLY WILL NOT HAVE ACCESS TO TRADITIONAL SOURCES OF CREDIT, WHICH MAY CREATE A HIGHER RISK OF LEASE DEFAULTS AND THEREFORE LOWER REVENUES. Generally, no credit rating agencies evaluate or rank the debt or the credit risk of many of our tenants, as we seek tenants that we believe will have stable or improving credit profiles that have not been recognized by the traditional credit market. Our long-term leases with certain of these tenants may therefore pose a higher risk of default. THERE IS NOT, AND MAY NEVER BE A PUBLIC MARKET FOR OUR SHARES, SO IT WILL BE DIFFICULT FOR SHAREHOLDERS TO SELL SHARES QUICKLY. There is no current public market for the shares and, therefore, it will be difficult for shareholders to sell their shares promptly. In addition, the price received for any shares sold prior to a liquidity event is likely to be less than the proportionate value of the real estate we own. Investor suitability standards imposed by certain states may also make it more difficult to sell shares to someone in those states. The shares should be considered as a long-term investment only. LIABILITY FOR UNINSURED LOSSES COULD ADVERSELY AFFECT OUR FINANCIAL CONDITION. Losses from disaster-type occurrences (such as wars, terrorist activities or earthquakes) may be either uninsurable or not insurable on economically viable terms. Should an uninsured loss occur, we could lose our capital investment and/or anticipated profits and cash flow from one or more properties, which in turn could cause the value of the shares and distributions to shareholders to be reduced. POTENTIAL LIABILITY FOR ENVIRONMENTAL MATTERS COULD ADVERSELY AFFECT OUR FINANCIAL CONDITION. We may own industrial and commercial properties that will cause us to be subject to the risk of liabilities under federal, state and local environmental laws. Some of these laws could impose the following on us: - Responsibility and liability for the cost of removal or remediation of hazardous substances released on our property, generally without regard to our knowledge or responsibility of the presence of the contaminants; - Liability for the costs of removal or remediation of hazardous substances at disposal facilities for persons who arrange for the disposal or treatment of these substances; and -8- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED - Potential liability for common law claims by third parties based on damages and costs of environmental contaminants. Our costs of investigation, remediation or removal of hazardous substances may be substantial. In addition, the presence of hazardous substances on one of our properties, or the failure to properly remediate a contaminated property, could adversely affect our ability to sell or lease the property or to borrow using the property as collateral. OUR USE OF DEBT TO FINANCE ACQUISITIONS COULD ADVERSELY AFFECT OUR CASH FLOW. Most of our property acquisitions are made by borrowing a portion of the purchase price of our properties and securing the loan with a mortgage on the property. If we are unable to make our debt payments as required, a lender could foreclose on the property or properties securing its debt. This could cause us to lose part or all of our investment which in turn could cause the value of the shares and distributions to shareholders to be reduced. We generally borrow on a limited recourse basis to limit our exposure on any property to the amount of equity invested in the property. We generally borrow approximately 60% of the purchase price of our properties. There is no limitation on the amount borrowed on a single property and the aggregate borrowings may not exceed 75% of the value of all properties without board approval. BALLOON PAYMENT OBLIGATIONS MAY ADVERSELY AFFECT OUR FINANCIAL CONDITION. Some of our financing may require us to make a lump-sum or "balloon" payment at maturity. Our ability to make any balloon payment is uncertain and may depend upon our ability to refinance the mortgage or our ability to sell the property. At the time the balloon payment is due, we may or may not be able to refinance the balloon payment on terms as favorable as the original loan or sell the property at a price sufficient to make the balloon payment. A refinancing or sale could affect the rate of return to shareholders and the projected time of disposition of our assets. Scheduled balloon payments, including our pro rata share of mortgage obligations on equity investees, for the next five years are as follows: 2005 - $0 2006 - $6,930 2007 - $0 2008 - $5,321 2009 - $73,877
THE IRS MAY TREAT SALE-LEASEBACK TRANSACTIONS AS LOANS, WHICH COULD JEOPARDIZE OUR REIT STATUS. The Internal Revenue Service may take the position that specific sale-leaseback transactions which we treat as true leases are not true leases for federal income tax purposes but are, instead, financing arrangements or loans. If a sale-leaseback transaction were so recharacterized, we might fail to satisfy the Asset Tests or the Income Tests and consequently lose our REIT status effective with the year of recharacterization. Alternatively, the amount of our REIT Taxable Income could be recalculated which could cause us to fail the Distribution Test. FAILURE TO QUALIFY AS A REIT WOULD ADVERSELY AFFECT OUR OPERATIONS AND ABILITY TO MAKE DISTRIBUTIONS. If we fail to qualify as a REIT in any taxable year, we would be subject to United States federal income tax on our taxable income at corporate rates. In addition, we would generally be disqualified from treatment as a REIT for the four taxable years following the year we lost our REIT status. Failing to obtain, or losing our REIT status would reduce our net earnings available for investment or distribution to shareholders because of the additional United States tax liability, and we would no longer be required to make distributions. We might be required to borrow funds or liquidate some investments in order to pay the applicable tax. Qualification as a REIT is subject to the satisfaction of tax requirements and various factual matters and circumstances which are not entirely within our control. New legislation, regulations, administrative interpretations or court decisions could change the tax laws with respect to qualification as a REIT or the federal income tax consequences of being a REIT. THE LIMIT ON THE NUMBER OF OUR SHARES A PERSON MAY OWN MAY DISCOURAGE A TAKEOVER. Our articles of incorporation restrict beneficial ownership of more than 9.8% of the outstanding shares by one person or affiliated group in order to meet REIT qualification rules. These restrictions may discourage a change of control and may deter individuals or entities from making tender offers for shares, which offers might be financially attractive to shareholders or which may cause a change in our management. -9- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED OUR BOARD OF DIRECTORS MAY CHANGE OUR INVESTMENT POLICIES WITHOUT SHAREHOLDER APPROVAL, WHICH COULD ALTER THE NATURE OF YOUR INVESTMENT. Our bylaws require that our independent directors review our investment policies at least annually to determine that the policies we are following are in the best interest of the shareholders. These policies may change over time. The methods of implementing our investment policies may also vary, as new investment techniques are developed. Our investment policies, the methods for their implementation, and our other objectives, policies and procedures may be altered by a majority of the directors (including a majority of the independent directors), without the approval of our shareholders. As a result, the nature of an investment in our shares could change without shareholder consent. WE MAY NEED TO USE LEVERAGE TO MAKE DISTRIBUTIONS. We may incur indebtedness if necessary to satisfy the requirement that we distribute at least 90% of our real estate investment trust taxable income or otherwise, as is necessary or advisable to assure that we maintain our qualification as a REIT for federal income tax purposes. In such an event, it is possible that we could make distributions in excess of our earnings and profits and, accordingly, that such distributions could constitute a return of capital for federal income tax purposes. It is also possible that we will make distributions in excess of our income as calculated in accordance with generally accepted accounting principles. A CHANGE IN ACCOUNTING STANDARDS REGARDING OPERATING LEASES MAY MAKE THE LEASING OF FACILITIES IN THE FUTURE LESS ATTRACTIVE TO OUR POTENTIAL TENANTS, WHICH COULD REDUCE OVERALL DEMAND FOR OUR LEASING SERVICES. Under Statement of Financial Accounting Standard No. 13, "Accounting for Leases", if the present value of a company's minimum lease payments equals 90% or more of a property's fair value, the lease is classified as a capital lease, and the lease obligation is included as a liability on the company's balance sheet. However, if the present value of the minimum lease payments is less than 90% of the property's value, the lease is considered an operating lease, and the obligation does not appear on the company's balance sheet, but rather in the footnotes thereto. Thus, entering an operating lease can appear to enhance a tenant's balance sheet. The SEC is currently conducting a study of off-balance-sheet financing, including leasing, and the Financial Accounting Standards Board has recently indicated that it is considering addressing the issue. If the accounting standards regarding the financial statement classification of operating leases are revised, then companies may be less willing to enter into new leases because the apparent benefits to their balance sheets could be reduced or eliminated. This in turn could make it more difficult for us to enter into new leases on terms we find favorable. OUR SUCCESS IS DEPENDENT ON THE PERFORMANCE OF WPC. Our ability to achieve our investment objectives and to pay distributions is dependent upon the performance of WPC in the acquisition of investments, the selection of tenants, the determination of any financing arrangements, and upon the management of the assets. Shareholders must rely entirely on the management ability of WPC and the oversight of the board of directors. The past performance of WPC managed partnerships and REITs may not be indicative of the performance of WPC with respect to our company. We cannot guarantee that WPC will be able to successfully manage and achieve liquidity for us to the extent it has done so for prior programs. WPC MAY BE SUBJECT TO CONFLICTS OF INTEREST. WPC manages our business and selects our real estate investments. WPC has some conflicts of interest in its management of us, which arise primarily from the involvement of WPC and its affiliates in other activities that may conflict with us and the payment of fees by us to WPC and its affiliates. The activities in which a conflict could arise between us and WPC are: - competition with certain affiliates for property acquisitions, which may cause WPC and its affiliates to direct properties suitable for us to other related entities or itself; - the receipt of compensation by WPC and its affiliates for property purchases, leases, sales and financing for us, which may cause WPC and its affiliates to engage in transactions that generate higher fees, rather than transactions that are more appropriate or beneficial for our business; - agreements between us and WPC or any of its affiliates, including agreements regarding compensation of WPC and its affiliates, will not be negotiated on an arm's length basis as would occur if the agreements were with unaffiliated third parties; - purchases and loans from affiliates, subject to our investment procedures, objectives and policies, which will increase fees and interest payable to affiliates, thereby decreasing our net income and possibly causing us to incur higher leverage levels; -10- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED - disposition, incentive and termination fees, which are based on the sale price of properties, may cause a conflict between the advisor's desire to sell a property and our plans to hold or sell the property. - WPC allocates expenses it incurs in connection with providing services to us and other affiliated entities pursuant to methodologies and procedures developed by it, and based on its judgment, which methodologies may have the effect of favoring WPC and other affiliates at our expense. Inherent in these transactions is the conflict of interest that arises due to the potential impact of the transaction on the amount of fees received by WPC and/or its affiliates, which may reduce our cash available for distributions to shareholders and may negatively impact the distribution rate. MARYLAND LAW COULD RESTRICT CHANGE IN CONTROL. Provisions of Maryland law applicable to us prohibit business combinations with: - any person who beneficially owns 10% or more of the voting power of outstanding shares; - an affiliate 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 outstanding shares, referred to as an interested shareholder; or - an affiliate of an interested shareholder. These prohibitions last for five years after the most recent date on which the interested shareholder became an interested shareholder. Thereafter, any business combination must be recommended by our board of directors and approved by the affirmative vote of at least 80% of the votes entitled to be cast by holders of our outstanding shares and two-thirds of the votes entitled to be cast by holders of our shares other than shares held by the interested shareholder. These requirements could have the effect of inhibiting a change in control even if a change in control were in our shareholders' interest. These provisions of Maryland law do not apply, however, to business combinations that are approved or exempted by our board of directors prior to the time that someone becomes an interested shareholder. OUR PARTICIPATION IN JOINT VENTURES CREATES ADDITIONAL RISK. We may participate in joint ventures and purchase properties jointly with other entities, some of which may be unaffiliated with us. There are additional risks involved in these types of transactions. These risks include the potential of our joint venture partner becoming bankrupt and the possibility of diverging or inconsistent economic or business interests of us and our partner. These diverging interests could result in, among other things, exposing us to liabilities of the joint venture in excess of our proportionate share of these liabilities. The partition rights of each owner in a jointly owned property could reduce the value of each portion of the divided property. In addition, the fiduciary obligation that WPC or our board may owe to our partner in an affiliated transaction may make it more difficult for us to enforce our rights. INTERNATIONAL INVESTMENT RISKS, INCLUDING CURRENCY FLUCTUATION, ADVERSE POLITICAL OR ECONOMIC DEVELOPMENTS, LACK OF UNIFORM ACCOUNTING STANDARDS (INCLUDING AVAILABILITY OF INFORMATION IN ACCORDANCE WITH U.S. GENERALLY ACCEPTED ACCOUNTING PRINCIPLES), UNCERTAINTY OF FOREIGN LAWS AND THE DIFFICULTY OF ENFORCING CERTAIN OBLIGATIONS IN OTHER COUNTRIES MAY AFFECT OUR OPERATIONS AND OUR ABILITY TO MAKE DISTRIBUTIONS. We own interests in properties located in France, Finland, The Netherlands and the United Kingdom and we may purchase additional properties located outside the United States. Foreign real estate investments involve certain risks not generally associated with investments in the United States. These risks include unexpected changes in regulatory requirements, political and economic instability in certain geographic locations, potential imposition of adverse or confiscatory taxes, possible currency transfer restrictions, expropriation, the difficulty of enforcing obligations in other countries and the burden of complying with a wide variety of foreign laws. Any such events may adversely affect our performance and/or impair our ability to make expected distributions to shareholders. In addition, there is less publicly available information about foreign companies and a lack of uniform financial accounting standards and practices (including the availability of information in accordance with accounting principles generally accepted in the U.S.) which could impair our ability to analyze transactions and receive timely and accurate financial information from tenants necessary to meet our reporting obligations to financial institutions or governmental or regulatory agencies. Certain of these risks may be greater in emerging markets and less developed countries. -11- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED WE MAY INCUR COSTS TO FINISH BUILD-TO-SUIT PROPERTIES. We may sometimes acquire undeveloped or partially developed land parcels for the purpose of owning to-be-built facilities for a prospective tenant. Often, completion risk, cost overruns and on-time delivery are the obligations of the prospective tenant. To the extent that the tenant or the third-party developer experiences financial difficulty or other complications during the construction process, we may be required to incur project costs to complete all or part of the project within a specified time frame. The incurrence of these costs or the non-occupancy by the tenant may reduce the project's and our portfolio's returns. WE MAY FACE COMPETITION FOR ACQUISITION OF PROPERTIES. We face competition for the acquisition of office and industrial properties in general, and such properties net leased to major corporations in particular, from insurance companies, credit companies, pension funds, private individuals, investment companies and other REITs. We also face competition from institutions that provide or arrange for other types of commercial financing through private or public offerings of equity or debt or traditional bank financings. THE NET ASSET VALUE IS BASED ON INFORMATION THAT OUR ADVISOR PROVIDES TO A THIRD PARTY. Our asset management and performance fees are based on an annual third party valuation of our real estate. Any valuation includes the use of estimates and our valuation may be influenced by the information provided by the advisor. Because net asset value is an estimate and can change as interest rate and real estate markets fluctuate, there is no assurance that a shareholder will realize net asset value in connection with any liquidity event. (d) FINANCIAL INFORMATION ABOUT GEOGRAPHIC AREAS See Note 13 of the Consolidated Financial Statements for financial data pertaining to our segment and geographic operations. (e) AVAILABLE INFORMATION All filings we make with the SEC, including our Annual Report on Form 10-K, our Quarterly Reports on Form 10-Q, and our Current Reports on Form 8-K, and any amendments, are available for free on our website as soon as reasonably practicable after they are filed or furnished to the SEC. Our website address is http://www.cpa14.com. Our SEC filings are available to be read or copied at the SEC's Public Reference Room at 450 Fifth Street, N.W., Washington, D.C. 20549. Information regarding the operation of the Public Reference Room can be obtained by calling the SEC at 1-800-SEC-0330. Our filings can also be obtained for free on the SEC's Internet site at http://www.sec.gov. The reference to our website address does not constitute incorporation by reference of the information contained on our website in this Report or other filings with the SEC, and the information contained on our website is not part of this document. -12- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED ITEM 2. PROPERTIES. Set forth below is certain information relating to our properties owned as of December 31, 2004.
RENT PER SHARE OF LEASE OBLIGOR/ OWNERSHIP SQUARE CURRENT ANNUAL INCREASE LOCATION INTEREST(1) SQUARE FOOTAGE FOOT RENTS(2) FACTOR ------------------------------------- ------------------ -------------- -------- -------------- ---------- CARREFOUR FRANCE, SAS (3) Boe, Carpiquet, Le Mans, Vendin-le-Vieil, Lagnieu, Luneville, and St. Germain du Puy, France 100% 2,973,115 $ 2.43 $ 8,699,513 (4) INSEE (5) Lieusaint, France 100% 100,561 19.52 1,962,601 (4) INSEE (5) Le Mans, France 100% 840,974 3.44 2,896,413 (4) INSEE (5) --------- ----------- Total: 3,914,650 13,558,527 STARMARK CAMHOOD, L.L.C. (3) Tampa and Boca Raton, FL; Newton, MA; Bloomington (2), Brooklyn 41% interest in a Center, Bumsville, Eden Prairie limited liability 1,652,154 11.06 7,491,683 CPI (2), Fridley, Minnetonka and St. company owning Louis Park, MN; Albuquerque, NM (4) land and buildings(8) NORTEL NETWORKS LIMITED (3) Richardson, TX 100% 281,758 18.77 5,287,500 Stated PETSMART, INC. (3) Phoenix, AZ; Westlake Village, CA; Boca Raton, Lake Mary, 70% interest in Tallahassee, Plantation, FL; two limited Evanston, IL; Braintree, MA; partnerships 946,177 7.68 5,083,924 Stated Oxon Hill, MD; Flint, MI; Fridley, owning land and MN; Dallas, Southlake, TX buildings(8) ATRIUM COMPANIES, INC. (3) Dallas and Greenville, TX 100% 823,713 2.40 1,977,683 CPI Welcome, NC; Murrysville, PA; 100% 826,702 3.38 2,791,356 CPI Wylie, TX --------- ------------ Total: 1,650,415 4,769,039 CLEAR CHANNEL COMMUNICATIONS, INC. (3) New York, NY 40% interest in a limited partnership 227,685 47.94 4,365,725 Stated owning land and buildings(8) CAREMARK RX, INC. (ADVANCE PCS) (3) Scottsdale, AZ 100% 354,888 12.12 4,300,000 Fair value(6) TRUE VALUE COMPANY (3) Kingman, AZ; Woodland, CA; 35% interest in Jonesboro, GA; Kansas City, MO; three limited Springfield, OR; Fogelsville, PA; partnerships 3,628,156 3.36 4,264,076 Stated Corsicana, TX owning land and buildings(8) FEDERAL EXPRESS CORPORATION (3) Collierville, TN 60% interest in a limited liability company owning 394,404 17.03 4,030,632 CPI land and building(8) KATUN CORPORATION (3) Davenport, IA; Bloomington, MN 100% 343,423 8.65 2,971,350 CPI Gorinchem, The Netherlands 100% 133,500 6.93 925,392 (4) CPI --------- ------------ Total: 476,923 3,896,742 TOWER AUTOMOTIVE (3) Granite City, IL; Kendallville, IN; Clinton Township, MI; 100% 1,047,400 3.72 3,895,126 CPI Upper Sandusky, OH LEASE OBLIGOR/ LOCATION LEASE TERM MAXIMUM TERM ------------------------------------- ---------- ------------ CARREFOUR FRANCE, SAS (3) Boe, Carpiquet, Le Mans, Vendin-le-Vieil, Lagnieu, Luneville, and St. Germain du Puy, Mar. 2011 Mar. 2011 France Lieusaint, France Jun. 2011 Jun. 2011 Le Mans, France Jul. 2012 Jul. 2012 Total: STARMARK CAMHOOD, L.L.C. (3) Tampa and Boca Raton, FL; Newton, MA; Bloomington (2), Brooklyn Center, Bumsville, Eden Prairie Feb. 2023 Feb. 2053 (2), Fridley, Minnetonka and St. Louis Park, MN; Albuquerque, NM (4) NORTEL NETWORKS LIMITED (3) Richardson, TX Dec. 2016 Dec. 2031 PETSMART, INC. (3) Phoenix, AZ; Westlake Village, CA; Boca Raton, Lake Mary, Tallahassee, Plantation, FL; Evanston, IL; Braintree, MA; Nov. 2021 Nov. 2041 Oxon Hill, MD; Flint, MI; Fridley, MN; Dallas, Southlake, TX ATRIUM COMPANIES, INC. (3) Dallas and Greenville, TX Nov. 2019 Nov. 2029 Welcome, NC; Murrysville, PA; Nov. 2021 Nov. 2031 Wylie, TX Total: CLEAR CHANNEL COMMUNICATIONS, INC. (3) New York, NY Sep. 2020 Sep. 2040 CAREMARK RX, INC. (ADVANCE PCS) (3) Scottsdale, AZ Sep. 2021 Sep. 2051 TRUE VALUE COMPANY (3) Kingman, AZ; Woodland, CA; Jonesboro, GA; Kansas City, MO; Springfield, OR; Fogelsville, PA; Dec. 2022 Nov. 2042 Corsicana, TX FEDERAL EXPRESS CORPORATION (3) Collierville, TN Aug. 2019 Aug. 2039 KATUN CORPORATION (3) Davenport, IA; Bloomington, MN Jul. 2022 Jul. 2042 Gorinchem, The Netherlands Jul. 2022 Jul. 2042 Total: TOWER AUTOMOTIVE (3) Granite City, IL; Kendallville, IN; Clinton Township, MI; Apr. 2020 Apr. 2040 Upper Sandusky, OH
-13- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED
RENT PER SHARE OF LEASE OBLIGOR/ OWNERSHIP SQUARE CURRENT ANNUAL INCREASE LOCATION INTEREST(1) SQUARE FOOTAGE FOOT RENTS(2) FACTOR ------------------------------------- ----------------- -------------- -------- -------------- ----------- PERKINELMER, INC. (3) Turku, Finland 100% 266,310 13.79 3,671,519 (4) Finnish CPI DICK'S SPORTING GOODS, INC. (3),(7) Kennesaw, GA; Plainfield, IN; 100% 401,569 8.72 3,502,793 Stated Leawood, KS COLLINS & AIKMAN CORPORATION (3) Manchester, MI; Albemarle, Farmville and Old Fort, NC; 100% 1,948,586 1.77 3,443,475 CPI Holmesville, OH; Springfield, TN METALDYNE COMPANY LLC (3) Rome, GA; Niles, IL; Plymouth, MI; 100% 534,501 6.20 3,312,740 CPI Solon and Twinsburg, OH U-HAUL MOVING PARTNERS AND MERCURY PARTNERS, LP (3) Mercury Partners, LP - 11.54% interest 78 Locations in 24 States in a limited partnership owning land and buildings(8) 3,779,262 4.91 2,140,799 CPI U-Haul Moving Partners - 78 Locations in 24 States 2,035,000 4.91 1,152,846 CPI --------- ---------- Total: 5,814,262 3,293,645 ADVANCED MICRO DEVICES, INC. (3) Sunnyvale, CA 33 1/3% interest in a limited liability company 361,965 27.01 3,258,938 CPI owning land and buildings(8) APPLIED MATERIALS, INC. (ETEC SYSTEMS, INC.) (3) Hayward, CA 49.99% interest in a building owned by a 129,000 50.13 3,232,840 CPI limited liability company(8) APW NORTH AMERICA, INC. (3) Monon, IN; Champlin, MN; Robbinsville, NJ; North Salt Lake 100% 816,665 3.64 2,972,913 CPI City, UT; Radford, VA AMERIX CORP. (3) Columbia, MD 100% 160,000 15.61 2,497,022 CPI GERBER SCIENTIFIC, INC. (3) South Windsor (2) and Manchester, CT 100% 347,500 6.73 2,337,644 CPI BUFFETS, INC.3 Eagan, MN 100% 99,342 23.45 2,329,684 CPI WADDINGTON NORTH AMERICA, INC. (3) City of Industry, CA; Florence, KY; 100% 448,600 5.17 2,321,146 CPI Chemsford, MA; Lancaster, TX NEXPAK CORPORATION (3) Duluth, GA 100% 221,374 6.29 1,392,721 CPI Helmond, The Netherlands 100% 117,000 7.33 857,678 (4) CPI ------- ---------- Total: 338,374 2,250,399 MAYO FOUNDATION (7) Rochester, MN 100% 204,846 10.71 2,193,900 CPI CHECKFREE HOLDINGS, INC. (3) Norcross, GA 50% interest in a limited liability company owning 220,676 19.79 2,180,360 CPI land and building(8) LEASE OBLIGOR/ LOCATION LEASE TERM MAXIMUM TERM ------------------------------------- ----------- ------------ PERKINELMER, INC. (3) Turku, Finland Dec. 2021 Dec. 2031 DICK'S SPORTING GOODS, INC. (3),(7) Kennesaw, GA; Plainfield, IN; Dec. 2020 Dec. 2060 Leawood, KS COLLINS & AIKMAN CORPORATION (3) Manchester, MI; Albemarle, Farmville and Old Fort, NC; Sep. 2021 Sep. 2041 Holmesville, OH; Springfield, TN METALDYNE COMPANY LLC (3) Rome, GA; Niles, IL; Plymouth, MI; Jul. 2021 Jul. 2041 Solon and Twinsburg, OH U-HAUL MOVING PARTNERS AND MERCURY PARTNERS, LP (3) Mercury Partners, LP - 78 Locations in 24 States Apr. 2024 Apr. 2034 U-Haul Moving Partners - 78 Locations in 24 States Apr. 2014 Apr. 2034 Total: ADVANCED MICRO DEVICES, INC. (3) Sunnyvale, CA Dec. 2018 Dec. 2038 APPLIED MATERIALS, INC. (ETEC SYSTEMS, INC.) (3) Hayward, CA Sep. 2014 Jan. 2030 APW NORTH AMERICA, INC. (3) Monon, IN; Champlin, MN; Robbinsville, NJ; North Salt Lake May 2017 May. 2027 City, UT; Radford, VA AMERIX CORP. (3) Columbia, MD Feb. 2017 Feb. 2037 GERBER SCIENTIFIC, INC. (3) South Windsor (2) and Manchester, CT Jul. 2018 Jul. 2038 BUFFETS, INC. (3) Eagan, MN Sep. 2020 Sep. 2040 WADDINGTON NORTH AMERICA, INC. (3) City of Industry, CA; Florence, KY; Apr. 2021 Apr. 2041 Chemsford, MA; Lancaster, TX NEXPAK CORPORATION (3) Duluth, GA Mar. 2021 Mar. 2041 Helmond, The Netherlands Jun. 2021 Jun. 2041 Total: MAYO FOUNDATION (7) Rochester, MN Jun. 2016 Jun. 2026 CHECKFREE HOLDINGS, INC. (3) Norcross, GA Dec. 2015 Dec. 2030
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RENT PER SHARE OF LEASE OBLIGOR/ OWNERSHIP SQUARE CURRENT ANNUAL INCREASE LOCATION INTEREST(1) SQUARE FOOTAGE FOOT RENTS(2) FACTOR ------------------------------------- ------------------ -------------- -------- -------------- ----------- TORRANCE, CA Best Buy Co., Inc. 100% 102,470 19.00 1,946,930 Stated Big O Development, Inc. 100% 4,500 22.80 102,600 CPI ------- --------- Total: 106,970 2,049,530 STELLEX TECHNOLOGIES, INC. (3) Valencia, CA; North Amityville, NY 100% 281,889 7.27 2,048,234 CPI MCLANE COMPANY FOODSERVICE, INC. (3) Shawnee, KS; Burlington, NJ; 60% interest in Manassas, VA two limited liability 529,428 6.44 2,044,635 CPI companies owning land and buildings(8) SPECIAL DEVICES, INC.(3) Mesa, AZ; Moorpark, CA 50% as 249,276 16.36 2,038,513 CPI tenants-in-common(8) INSTITUTIONAL JOBBERS COMPANY (3) Valdosta, GA; Johnson City, TN 100% 411,417 4.84 1,990,713 Stated CAREER EDUCATION CORPORATION (3) Upper Saucon Township, PA 100% 97,285 20.22 1,966,752 CPI BUILDERS FIRSTSOURCE, INC. (3) Harrisburg, NC 100% 174,000 6.16 1,071,128 CPI Norcross, GA; Cincinnati, OH; 60% interest in a Elkwood, VA limited partnership owning land and 389,261 3.70 863,789 CPI buildings(8) ------- --------- Total: 563,261 1,934,917 RAVE REVIEWS CINEMAS, L.L.C. Pensacola, FL 100% 72,156 15.04 1,085,164 CPI Port St. Lucie, FL 100% 53,104 13.89 737,839 CPI ------- --------- Total: 125,260 1,823,003 GIBSON GUITAR CORP. (3) Elgin, IL ;Bozeman, MT; 82.5% interest in Nashville, TN (2) two limited partnerships 336,721 6.44 1,790,239 CPI owning land and buildings(9) PW EAGLE, INC. (3) Perris, CA; Eugene, OR; West 100% 1,079,424 1.59 1,719,170 CPI Jordan, UT; Tacoma, WA AMERICAN TIRE DISTRIBUTORS, INC. (3) Charlotte, NC; Lincolnton, NC; 100% 465,588 3.68 1,715,085 CPI Mauldin, SC NEW CREATIVE ENTERPRISES, INC. (3) Milford, OH 100% 437,000 3.73 1,629,114 CPI CONSOLIDATED THEATERS HOLDING, G.P. (3) Midlothian, VA 100% 80,730 19.21 1,550,489 Stated PRODUCTION RESOURCE GROUP LLC (3) Las Vegas, NV 100% 127,496 7.68 979,034 CPI Burbank and Los Angeles, CA 100% 49,374 8.80 434,305 CPI ------- --------- Total: 176,870 1,413,339 COMPUCOM SYSTEMS, INC. (3) Dallas, TX 33 1/3% interest in a limited liability company 255,378 16.54 1,408,043 CPI owning land and building(8) LEASE OBLIGOR/ LOCATION LEASE TERM MAXIMUM TERM ------------------------------------- ----------- ------------ TORRANCE, CA Best Buy Co., Inc. Jan. 2005 Jan. 2010 Big O Development, Inc. Jun. 2012 Jun. 2022 Total: STELLEX TECHNOLOGIES, INC. (3) Valencia, CA; North Amityville, NY Feb. 2020 Feb. 2040 MCLANE COMPANY FOODSERVICE, INC. (3) Shawnee, KS; Burlington, NJ; Manassas, VA Nov. 2015 Nov. 2025 SPECIAL DEVICES, INC. (3) Mesa, AZ; Moorpark, CA Jun. 2021 Jun. 2041 INSTITUTIONAL JOBBERS COMPANY (3) Valdosta, GA; Johnson City, TN Dec. 2019 Dec. 2028 CAREER EDUCATION CORPORATION (3) Upper Saucon Township, PA Jun. 2023 Jun. 2043 BUILDERS FIRSTSOURCE, INC. (3) Harrisburg, NC Jun. 2020 Jun. 2030 Norcross, GA; Cincinnati, OH; Elkwood, VA Jan. 2017 Jan. 2037 Total: RAVE REVIEWS CINEMAS, L.L.C. Pensacola, FL Oct. 2023 Oct. 2032 Port St. Lucie, FL Jun. 2021 Jun. 2041 Total: GIBSON GUITAR CORP. (3) Elgin, IL ;Bozeman, MT; Nashville, TN (2) Mar. 2021 Mar. 2041 PW EAGLE, INC. (3) Perris, CA; Eugene, OR; West Feb. 2022 Feb. 2042 Jordan, UT; Tacoma, WA AMERICAN TIRE DISTRIBUTORS, INC. (3) Charlotte, NC; Lincolnton, NC; Mar. 2022 Mar. 2042 Mauldin, SC NEW CREATIVE ENTERPRISES, INC. (3) Milford, OH Sep. 2021 Sep. 2046 CONSOLIDATED THEATERS HOLDING, G.P. (3) Midlothian, VA Aug. 2020 Aug. 2030 PRODUCTION RESOURCE GROUP LLC (3) Las Vegas, NV Mar. 2014 Mar. 2024 Burbank and Los Angeles, CA Oct. 2014 Oct. 2024 Total: COMPUCOM SYSTEMS, INC. (3) Dallas, TX Mar. 2019 Mar. 2029
-15- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED
RENT PER SHARE OF LEASE OBLIGOR/ OWNERSHIP SQUARE CURRENT ANNUAL INCREASE LOCATION INTEREST(1) SQUARE FOOTAGE FOOT RENTS(2) FACTOR ------------------------------------- ------------------ -------------- -------- -------------- ----------- 24 HOUR FITNESS (3) Salt Lake City, UT 100% 36,851 16.80 618,949 CPI St. Charles, MO 100% 38,432 19.46 747,790 CPI ------ --------- Total: 75,283 1,366,739 UTI HOLDINGS, INC. AND NASCARTECHNICAL INSTITUTE, INC. (3) Mooresville, NC 100% 144,995 9.15 1,326,533 CPI METAGENICS, INC. San Clemente, CA 100% 88,070 14.96 1,317,477 Stated BARJAN PRODUCTS L.L.C. (3) Rock Island, IL 100% 241,950 5.44 1,316,906 Stated THE BON-TON DEPARTMENT STORES,INC.(3) York, PA (2) 100% 301,337 4.35 1,309,526 CPI TEXTRON, INC. (3) Gilbert, AZ 50% interest in a limited liability company owning 243,370 10.19 1,239,739 CPI land and building(8) BLP GROUP PLC (3) Doncaster, South Yorkshire, United 100% 225,998 5.40 1,221,014(4) Stated Kingdom LINCOLN TECHNICAL INSTITUTE, INC. (3) Union, NJ; Allentown and 100% 158,202 7.72 1,220,917 CPI Philadelphia, PA; Grand Prairie, TX MERIDIAN AUTOMOTIVE SYSTEMS, INC. (3) Salisbury, NC 100% 333,830 3.62 1,207,160 Stated TOWNE HOLDINGS, INC. (3) Elk Grove Village, IL 100% 46,672 19.67 918,225 CPI INTERNATIONAL GARDEN PRODUCTS, INC. (3) Lakewood, NJ 100% 218,201 4.15 905,674 CPI LENNAR CORPORATION (3) Houston, TX 100% 52,144 14.04 731,854 CPI L-3 COMMUNICATIONS (BRASHEAR LP) (3) Pittsburgh, PA 100% 146,103 4.79 699,200 CPI TRANSCORE HOLDINGS INC. (AMTECH) (3) Albuquerque, NM 100% 74,747 8.69 649,881 Stated EARLE M. JORGENSEN COMPANY (3) Kansas City, MO 100% 120,855 5.19 627,059 Stated MOONLIGHT MOLDS (3) Gardena, CA 100% 88,793 6.38 566,470 Stated LINDON, UT Wasatch Summit LLC 100% 20,100 12.36 248,436 Stated Wavetronix LLC 100% 24,110 12.50 301,380 Stated Vacant 100% 39,190 - ------- --------- Total: 83,400 549,816 VAN EERDEN - THE RETAIL DISTRIBUTION GROUP 60% interest in a limited liability Grand Rapids, MI company owning land and buildings(8) 179,461 5.03 541,578 Stated LEASE OBLIGOR/ LOCATION LEASE TERM MAXIMUM TERM ------------------------------------- ----------- ------------ 24 HOUR FITNESS (3) Salt Lake City, UT May 2020 May 2035 St. Charles, MO Dec. 2020 Dec. 2035 Total: UTI HOLDINGS, INC. AND NASCARTECHNICAL INSTITUTE, INC. (3) Mooresville, NC Sep. 2022 Sep. 2043 METAGENICS, INC. San Clemente, CA Aug. 2011 Aug. 2021 BARJAN PRODUCTS L.L.C. (3) Rock Island, IL Oct. 2016 Oct. 2026 THE BON-TON DEPARTMENT STORES, INC. (3) York, PA (2) Dec. 2020 Dec. 2046 TEXTRON, INC. (3) Gilbert, AZ Jan. 2019 Jan. 2039 BLP GROUP PLC (3) Doncaster, South Yorkshire, United Jan. 2031 Jan. 2031 Kingdom LINCOLN TECHNICAL INSTITUTE, INC. (3) Union, NJ; Allentown and Dec. 2016 Dec. 2016 Philadelphia, PA; Grand Prairie, TX MERIDIAN AUTOMOTIVE SYSTEMS, INC. (3) Salisbury, NC Sep. 2021 Sep. 2041 TOWNE HOLDINGS, INC. (3) Elk Grove Village, IL Oct. 2020 Oct. 2040 INTERNATIONAL GARDEN PRODUCTS, INC. (3) Lakewood, NJ Dec. 2021 Dec. 2031 LENNAR CORPORATION (3) Houston, TX Oct. 2015 Oct. 2035 L-3 COMMUNICATIONS (BRASHEAR LP) (3) Pittsburgh, PA Mar. 2014 Mar. 2024 TRANSCORE HOLDINGS INC. (AMTECH) (3) Albuquerque, NM Sep. 2015 Sep. 2030 EARLE M. JORGENSEN COMPANY (3) Kansas City, MO Mar. 2020 Mar. 2035 MOONLIGHT MOLDS (3) Gardena, CA Nov. 2009 Nov 2019 LINDON, UT Wasatch Summit LLC Mar. 2008 Mar. 2013 Wavetronix LLC Nov. 2009 Nov. 2009 Vacant Total: VAN EERDEN - THE RETAIL DISTRIBUTION GROUP Grand Rapids, MI Aug. 2009 Aug. 2013
-16- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED
RENT PER SHARE OF LEASE OBLIGOR/ OWNERSHIP SQUARE CURRENT ANNUAL INCREASE LOCATION INTEREST(1) SQUARE FOOTAGE FOOT RENTS(2) FACTOR ------------------------------------- ------------------ -------------- -------- -------------- ----------- MCCOY, INC. (3) Houston, TX 90% interest in a limited partnership 140,000 4.26 536,760 Stated owning land and building(9) WEST UNION CORPORATION (3) Tempe, AZ 100% 116,922 4.55 532,350 Stated NEWPARK RESOURCES, INC. Lafayette, LA 100% 34,425 11.52 394,495 CPI NASHVILLE, TN (3) 82.5% interest in a Various Tenants limited 16,973 13.56 230,095 Stated Vacant partnership owning land and 12,783 0.00 - building(9) ------- ------- Total: 29,756 230,095 DALEVILLE, IN Clarke-Detroit Diesel-Allison 100% 7,020 4.50 31,590 Stated Vacant 88,000 ------- Total: 95,020 LEASE OBLIGOR/ LOCATION LEASE TERM MAXIMUM TERM ------------------------------------- ----------- ------------ MCCOY, INC. (3) Houston, TX Sep. 2007 Sep. 2007 WEST UNION CORPORATION (3) Tempe, AZ Jan. 2015 Jan. 2035 NEWPARK RESOURCES, INC. Lafayette, LA Nov. 2017 Nov. 2027 NASHVILLE, TN (3) Various Tenants Sep. 2004 Sep. 2004 Vacant through through Total: Nov. 2008 Nov. 2008 DALEVILLE, IN Clarke-Detroit Diesel-Allison Aug. 2006 Aug. 2006 Vacant Total:
1. Percentage of ownership in land and building, except as noted. Fee simple ownership interest unless otherwise noted. 2. Share of Current Annual Rents is the product of the Square Footage, the Rent per Square Foot, and the Ownership Interest percentage. 3. These properties are encumbered by mortgage notes payable. 4. Based on exchange rates at December 31, 2004. 5. INSEE construction index, an index published quarterly by the French Government. 6. Increase Factor is applicable to the Renewal terms, not the Initial term. 7. Tenant name change due to merger, acquisition or assignment. 8. Remaining interest in this property is owned by an affiliate(s). 9. Remaining interest in this property is owned by a non-affiliated third party. ITEM 3. LEGAL PROCEEDINGS. As of the date hereof, we are not a party to any material pending legal proceedings. In March 2004, following a broker-dealer examination of Carey Financial, the wholly-owned broker-dealer subsidiary of WPC, by the staff of the SEC, Carey Financial received a letter from the staff of the SEC alleging certain infractions by Carey Financial of the Securities Act of 1933, the Securities Exchange Act of 1934, the rules and regulations thereunder and those of the National Association of Securities Dealers, Inc. ("NASD"). The staff alleged that in connection with a public offering of shares of CPA(R): 15, Carey Financial and its retail distributors sold certain securities without an effective registration statement and failed to make certain disclosures. In the event the SEC pursues these allegations, or if affected CPA(R): 15 investors bring a similar private action, CPA(R): 15 might be required to offer the affected investors the opportunity to receive a return of their investment. It cannot be determined at this time if, as a consequence of investor funds being returned by CPA(R): 15, Carey Financial would be required to return to CPA(R): 15 the commissions paid by CPA(R): 15 on purchases actually rescinded. Further, as part of any action against WPC, the SEC could seek disgorgement of any such commissions or different or additional penalties or relief, including without limitation, injunctive relief and/or civil monetary penalties, irrespective of the outcome of any rescission offer. The potential effect such a rescission offer or SEC action may ultimately have on the operations of WPC, Carey Financial or the REITs managed by WPC, including us cannot be predicted at this time. In June 2004, the Division of Enforcement of the SEC ("Enforcement Staff") commenced an investigation into compliance with the registration requirements of the Securities Act of 1933 in connection with the public offerings of shares of CPA(R): 15 during 2002 and 2003. In December 2004, the scope of the Enforcement Staff's inquiries broadened to include broker-dealer compensation arrangements in connection with CPA(R): 15 and other REITs managed by WPC, as well as the disclosure of such arrangements. At that time WPC and Carey Financial received a subpoena from the Enforcement Staff seeking documents relating to payments by WPC, Carey Financial, and REITs managed by WPC to (or requests for payment received from) any broker-dealer, excluding selling commissions and selected dealer fees. WPC and Carey Financial subsequently received additional subpoenas and requests for information from the Enforcement Staff seeking, among other things, information relating to any revenue sharing agreements or payments (defined to include any payment to a broker-dealer, excluding selling commissions and selected dealer fees) made by WPC, Carey Financial or any REIT managed by WPC in connection with the distribution of REITs managed by WPC or the retention or maintenance of REIT assets. Other information sought by the SEC includes information concerning the accounting treatment and disclosure of any such payments, communications with third parties (including other REIT issuers) concerning revenue sharing, and documents concerning the calculation of underwriting compensation in connection with the REIT offerings under applicable NASD rules. In response to the Enforcement Staff's subpoenas and requests, WPC and Carey Financial have produced documents relating to payments made to certain broker-dealers both during and after the offering process, for certain of the REITs managed by WPC (including Corporate Property Associates 10 Incorporated, CIP(R), CPA(R): 12, us and CPA(R): 15), in addition to selling commissions and selected dealer fees. The expenses associated with these payments, which were made during the period from early 2000 through the end of 2003, were borne by the REITs, including us. WPC is continuing to gather information relating to these types of payments made to broker-dealers and supply it to the SEC. WPC, Carey Financial and the REITs, including us, are cooperating fully with this investigation and are in the process of providing information to the Enforcement Staff in response to the subpoenas and requests. Although no regulatory action has been initiated against WPC or Carey Financial in connection with the matters being investigated, it is possible that the SEC may pursue an action against either WPC or Carey Financial in the future. The potential timing of any such action and the nature of the relief or remedies the SEC may seek cannot be predicted at this time. If such an action is brought, it could have a material adverse effect on WPC and the REITs managed by WPC, including us. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. No matter was submitted during the fourth quarter of the year ended December 31, 2004 to a vote of security holders, through the solicitation of proxies or otherwise. -17- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES. Information with respect to our common equity is hereby incorporated by reference to page 34 of our Annual Report contained in Appendix A. ITEM 6. SELECTED FINANCIAL DATA. Selected Financial Data are hereby incorporated by reference to page 2 of our Annual Report contained in Appendix A. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. Management's Discussion and Analysis are hereby incorporated by reference to pages 3 to 13 of our Annual Report contained in Appendix A. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK: (In thousands) Market risk is the exposure to loss resulting from changes in interest rates, credit spreads, foreign currency exchange rates and equity prices. In pursuing our business plan, the primary market risks to which we are exposed are interest rate and foreign currency exchange rate risks. INTEREST RATE RISK The value of our real estate is subject to fluctuations based on changes in interest rates, local and regional economic conditions and changes in the creditworthiness of lessees, and which may affect our ability to refinance our debt when balloon payments are scheduled. Our marketable securities consist of our ownership interests in Carey Commercial Mortgage Trust ("CCMT") and auction-rate securities. The value of the marketable securities is subject to fluctuation based on changes in interest rates, economic conditions and the creditworthiness of lessees at the mortgaged properties. As of December 31, 2004, our marketable securities had a fair value of $13,904. Approximately $675,360 of our long-term debt bears interest at fixed rates, and therefore the fair value of these instruments is affected by changes in the market interest rates. The following table presents principal cash flows based upon expected maturity dates of the debt obligations and the related weighted-average interest rates by expected maturity dates for the fixed rate debt. The interest rate on the fixed rate debt as of December 31, 2004 ranged from 5.15% to 8.85%. The interest rate on the variable rate debt as of December 31, 2004 ranged from 3.55% to 6.27%.
2005 2006 2007 2008 2009 Thereafter Total Fair Value -------- -------- -------- -------- -------- ---------- -------- ---------- Fixed rate debt $ 11,915 $ 12,915 $ 13,892 $ 20,086 $ 63,116 $ 553,436 $675,360 $ 690,336 Weighted average interest rate 7.11% 7.11% 7.12% 7.28% 7.97% 7.37% Variable rate debt $ 270 $ 252 $ 260 $ 267 $ 278 $ 26,684 $ 28,011 $ 28,011
Annual interest expense from variable rate debt would increase or decrease by approximately $280 for each change of 1% in annual interest rates. We have an interest rate swap agreement on a variable rate obligation with a balance at December 31, 2004 of $8,873 which is therefore not affected by changes in interest rates. A change in interest rates of 1% would impact the fair value of our fixed rate debt at December 31, 2004 by approximately $36,131. FOREIGN CURRENCY EXCHANGE RATE RISK We have foreign operations in the United Kingdom, Finland, France and The Netherlands and as such are subject to risk from the effects of exchange rate movements of foreign currencies, which may affect future costs and cash flows. Our foreign operations for the preceding year were conducted in the Euro and the Great Britain Pound. For these currencies we are a net receiver of the foreign currency (we receive more cash then we pay out) and therefore we -18- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED benefit from a weaker U.S. dollar and are adversely affected by a stronger U.S. dollar relative to the foreign currency. The foreign operations were not significant to our consolidated financial position, results of operations or cash flows during the three-year period ended December 31, 2004. Realized and unrealized foreign currency translation gains of $1,357 and $90, respectively, for the year ended December 31, 2004 are included in the accompanying consolidated financial statements and are primarily due to changes in foreign currency on accrued interest receivable on notes receivable from wholly-owned subsidiaries. To date, we have not entered into any foreign currency forward exchange contracts to hedge the effects of adverse fluctuations in foreign currency exchange rates. Scheduled future minimum rents, exclusive of renewals, under non-cancelable leases resulting from our foreign operations are as follows:
2005 2006 2007 2008 2009 Thereafter Total -------- -------- -------- -------- -------- ---------- -------- Rental income (1) $ 19,800 $ 19,800 $ 19,800 $ 19,800 $ 19,800 $ 87,052 $186,052 Interest income from direct financing leases (1) 1,221 1,221 1,334 1,334 1,334 40,637 47,081
Scheduled principal payments for the mortgage notes payable during each of the next five years and thereafter are as follows:
2005 2006 2007 2008 2009 Thereafter Total -------- -------- -------- -------- -------- ---------- -------- Fixed rate debt (1) $ 4,787 $ 5,214 $ 5,571 $ 5,940 $ 11,897 $ 113,929 $147,338 Variable rate debt (1) 95 102 110 118 128 6,460 7,013
(1) Based on December 31, 2004 exchange rate. Contractual rents and mortgage notes are denominated in the functional currency of the country of each property. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. The following consolidated financial statements and supplementary data are hereby incorporated by reference to pages 15 to 33 of our Annual Report contained in Appendix A: (i) Report of Independent Registered Public Accounting Firm. (ii) Consolidated Balance Sheets at December 31, 2004 and 2003. (iii) Consolidated Statements of Income for the years ended December 31, 2004, 2003, and 2002. (iv) Consolidated Statement of Shareholders' Equity for the years ended December 31, 2002, 2003, and 2004. (v) Consolidated Statements of Cash Flows for the years ended December 31, 2004, 2003, and 2002. (vi) Notes to Consolidated Financial Statements. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. None. ITEM 9A. CONTROLS AND PROCEDURES. Our co-chief executive officers and chief financial officer have conducted a review of our disclosure controls and procedures as of December 31, 2004. Our disclosure controls and procedures include our controls and other procedures designed to ensure that information required to be disclosed in this and other reports filed under the Securities Exchange Act of 1934, as amended (the "Exchange Act") is accumulated and communicated to our management, including our chief executive officers and chief financial officer, to allow timely decisions regarding required disclosure and to ensure that such information is recorded, processed, summarized and reported, within the required time periods. Based upon this review, our chief executive officers and chief financial officer have concluded that our disclosure controls (as defined in Rule 13a-14(c) under the Exchange Act) are sufficiently effective to ensure that the information required to be disclosed by us in the reports we file under the Exchange Act is recorded, processed, summarized and reported within the required time periods. -19- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED MANAGEMENT'S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING Our management is responsible for establishing and maintaining adequate internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act). Internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with accounting principles generally accepted in the United States of America. Our internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of our assets; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with accounting principles generally accepted in the United States of America, and that our receipts and expenditures are being made only in accordance with authorizations of our management and directors; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of our assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. We assessed the effectiveness of our internal control over financial reporting as of December 31, 2004. In making this assessment, we used criteria set forth in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based on our assessment, we concluded that, as of December 31, 2004, our internal control over financial reporting is effective based on those criteria. Our assessment of the effectiveness of internal control over financial reporting as of December 31, 2004 has been audited by PricewaterhouseCoopers LLP, an independent registered public accounting firm who also audited our consolidated financial statements included in Item 8, as stated in their report in Item 8. -20- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT. This information will be contained in our definitive Proxy Statement with respect to our Annual Meeting of Shareholders, to be filed with the Securities and Exchange Commission within 120 days following the end of our fiscal year, and is hereby incorporated by reference. ITEM 11. EXECUTIVE COMPENSATION. This information will be contained in our definitive Proxy Statement with respect to our Annual Meeting of Shareholders, to be filed with the Securities and Exchange Commission within 120 days following the end of our fiscal year, and is hereby incorporated by reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT. This information will be contained in our definitive Proxy Statement with respect to our Annual Meeting of Shareholders, to be filed with the Securities and Exchange Commission within 120 days following the end of our fiscal year, and is hereby incorporated by reference. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. This information will be contained in our definitive Proxy Statement with respect to our Annual Meeting of Shareholders, to be filed with the Securities and Exchange Commission within 120 days following the end of our fiscal year, and is hereby incorporated by reference. ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES. This information will be contained in our definitive Proxy Statement with respect to our Annual Meeting of Shareholders, to be filed with the Securities and Exchange Commission within 120 days following the end of our fiscal year, and is hereby incorporated by reference. -21- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED PART IV ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES. (a) 1. Consolidated Financial Statements: The following consolidated financial statements are filed as a part of this Report: Report of Independent Registered Public Accounting Firm. Consolidated Balance Sheets, December 31, 2004 and 2003. Consolidated Statements of Income for the years ended December 31, 2004, 2003, and 2002. Consolidated Statement of Shareholders' Equity for the years ended December 31, 2002, 2003, and 2004. Consolidated Statements of Cash Flows for the years ended December 31, 2004, 2003, and 2002. Notes to Consolidated Financial Statements. The Consolidated Financial Statements are hereby incorporated by reference to pages 15 to 33 of our Annual Report contained in Appendix A. (a) 2. Financial Statement Schedule: The following schedule is filed as a part of this Report: Report of Independent Registered Public Accounting Firm. Schedule III - Real Estate and Accumulated Depreciation as of December 31, 2004. Schedule III of Registrant is contained on pages 30 to 37 of this Form 10-K. Financial Statement Schedules other than those listed above are omitted because the required information is given in the Consolidated Financial Statements, including the Notes thereto, or because the conditions requiring their filing do not exist. -22- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED (a) 3. Exhibits: The following exhibits are filed as part of this Report. Documents other than those designated as being filed herewith are incorporated herein by reference.
Exhibit No. Description Method of Filing 3.1 Articles of Amendment Exhibit 3.1 to Registration Statement (Form S-11) No. 333-76761 3.1(2) Articles of Incorporation of Registrant Exhibit 3.1 to Registration Statement (Form S-11) No. 333-31437 3.2 Form of Bylaws of Registrant Exhibit 3.2 to Registration Statement (Form S-11) No. 333-31437 4.1 Dividend Reinvestment and Share Purchase Plan Exhibit 4.1 to Registrant's Form S-3D dated July 22, 2002 10.1 Amended and Restated Advisory Agreement Exhibit 10.5 to Registrant's Form 8-K dated February 22, 2005 10.2 Lease Agreement dated July 27, 1998 by and between Best Exhibit 10.1 to Registrant's Form 8-K (CA) QRS 14-4, as Landlord, and Best Buy Co. Inc., as dated February 2, 1999 Tenants. 10.2(5) Lease Agreement dated February 3, 1998 by and between ESI Exhibit 10.2 to Registrant's Form 8-K (CA) QRS 12-6 INC., as Landlord and Etec Systems, Inc. dated February 2, 1999 as Tenants. 10.3(5) Lease Agreement date July 29, 1998 by and between META Exhibit 10.3 to Registrant's Form 8-K (CA) QRS 14-16, as Landlord, and Metagenics Incorporated, dated February 2, 1999 as Tenants. 10.4(5) Lease Agreement dated July 30, 1998 by and between TRUCK Exhibit 10.4 to Registrant's Form 8-K (IN) QRS 14-3, INC., as Landlord, and Burlington Motor dated February 2, 1999 Carrier as Tenant. 10.5(5) Lease Agreement dated November 24, 1998 by and between Exhibit 10.5 to Registrant's Form 8-K BAC (MO) QRS 14-10, Inc., as Landlord, and The Benjamin dated February 2, 1999 Ansehl Co., as Tenants 10.7 Lease Agreement dated December 22, 1998 by and between Exhibit 10.6 to Registrant's Form 8-K Conductor (CA) QRS 14-11, Inc., as Landlord, and Advance dated February 2, 1999 Micro Devices, Inc., as Tenants. 10.7(5) Lease Agreement dated December 28, 1998 by and between Exhibit 10.7 to Registrant's Form 8-K, CBS (PA) QRS 14-12, Inc. as Landlord, and Contraves dated February 2, 1999 Brashear Systems L. P., as Tenants 10.28(4) Form of Sales Agency Agreement. Exhibit 10.28 to Registration Statement (Form S-11) No. 333-76761 10.29(4) Form of Selected Dealer Agreement. Exhibit 10.29 to Registration Statement (Form S-11) No. 333-76761
-23- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED 10.31(4) Form of Wholesaling Agreement. Exhibit 10.31 to Registration Statement (Form S-11) No. 333-76761 10.32(4) Form of Escrow Agreement. Exhibit 10.32 to Registration Statement (Form S-11) No. 333-76761 21.1 Subsidiaries of Registrant as of March 11, 2005 Filed herewith 23.1 Consent of PricewaterhouseCoopers LLP Filed herewith 31.1 Certification of Co-Chief Executive Officers Filed herewith 31.2 Certification of Chief Financial Officer Filed herewith 32.1 Section 906 Certification of Co-Chief Executive Officers Filed herewith 32.2 Section 906 Certification of Chief Financial Officer Filed herewith
-24- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED a Maryland corporation 3/15/05 BY: /s/ John J. Park -------------------- ------------------------------------------ Date John J. Park Managing Director and Chief Financial Officer (Principal Financial Officer) Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED 3/15/05 BY: /s/ William Polk Carey -------------------- ------------------------------------------ Date William Polk Carey Chairman of the Board, Co-Chief Executive Officer and Director (Co-Principal Executive Officer) 3/15/05 BY: /s/ Gordon F. DuGan -------------------- ------------------------------------------ Date Gordon F. DuGan Vice Chairman of the Board, Co-Chief Executive Officer, Director, Senior Managing Director and Chief Acquisitions Officer (Co-Principal Executive Officer) 3/15/05 BY: /s/ Charles E. Parente -------------------- ------------------------------------------ Date Charles E. Parente Director 3/15/05 BY: /s/ Warren G. Wintrub -------------------- ------------------------------------------ Date Warren G. Wintrub Director 3/15/05 BY: /s/ John J. Park -------------------- ------------------------------------------ Date John J. Park Managing Director and Chief Financial Officer (Principal Financial Officer) 3/15/05 BY: /s/ Claude Fernandez -------------------- ------------------------------------------ Date Claude Fernandez Managing Director and Chief Accounting Officer (Principal Accounting Officer) -25- REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM ON FINANCIAL STATEMENT SCHEDULE To the Board of Directors and Shareholders of Corporate Property Associates 14 Incorporated: Our audits of the consolidated financial statements, of management's assessment of the effectiveness of internal control over financial reporting and of the effectiveness of internal control over financial reporting referred to in our report dated March 15, 2005 appearing in the 2004 Annual Report to Shareholders of Corporate Property Associates 14 Incorporated (which report, consolidated financial statements and assessment are incorporated by reference in this Annual Report on Form 10-K) also included an audit of the financial statement schedule listed in Item 15(a)(2) of this Form 10-K. In our opinion, this financial statement schedule presents fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. PricewaterhouseCoopers LLP New York, New York March 15, 2005 -30- CORPORATE PROPERTY ASSOCIATES 14, INCORPORATED SCHEDULE III - REAL ESTATE and ACCUMULATED DEPRECIATION as of December 31, 2004
Costs Increase Initial Cost to Company Capitalized (Decrease) in ----------------------------- Subsequent to Net Investment Description Encumbrances Land Buildings Acquisition (a) (b) ----------- ------------ ---- --------- --------------- --- Operating Method: Partially occupied office and trucking facility in Daleville, Indiana $ 2,100,000 $5,439,267 $ (3,810,000) Retail store leased to BestBuy Co., Inc. and Big O Development, Inc. 13,059,980 6,933,851 $ 45,914 Research and development facility leased to Metagenics, Inc. 2,390,000 8,957,798 Manufacturing facility leased to L-3 Communications $ 3,818,511 620,000 6,186,283 Manufacturing and distribution facilities leased to Production Resource Group L.L.C 7,177,336 3,860,000 8,263,455 Industrial/manufacturing facilities leased to Moonlight Molds 2,849,655 2,340,000 3,942,723 (2,900,000) Distribution and warehouse facilities leased to McLane Company, Inc. 20,738,649 3,604,000 8,613,172 21,321,241 Distribution and warehouse facility leased to The Retail Distribution Group, Inc. 5,764,183 740,000 3,042,828 7,638,183 Land leased to Consolidated Theaters Holding, G.P. 1,964,085 3,515,000 Office and warehouse facility leased to Builders FirstSource, Inc. 13,562,271 3,929,891 10,397,514 8,476,016 Life on which Depreciation Gross Amount at which Carried in Latest at Close of Period Statement of --------------------------- Accumulated Income Description Land Buildings Total Depreciation (d) Date Acquired is Computed ----------- ---- --------- ----- ---------------- ------------- ----------- Operating Method: Partially occupied office and trucking facility in Daleville, Indiana $ 2,100,000 $1,629,267 $ 3,729,267 $ 603,797 June 29, 1998 40 yrs. Retail store leased to BestBuy Co., Inc. and Big O Development, Inc. 13,059,980 6,979,765 20,039,745 1,126,393 July 28, 1998 40 yrs. Research and development facility leased to Metagenics, Inc. 2,390,000 8,957,798 11,347,798 1,171,212 July 29, 1998 40 yrs. Manufacturing facility leased to L-3 Communications 620,000 6,186,283 6,806,283 934,387 December 28, 1998 40 yrs. Manufacturing and distribution facilities leased to Production Resource March 31, 1999 and Group L.L.C 3,860,000 8,263,455 12,123,455 1,166,242 October 15, 1999 40 yrs. Industrial/manufacturing facilities leased to Moonlight Molds 2,340,000 1,042,723 3,382,723 27,154 July 19, 1999 40 yrs. Distribution and warehouse facilities leased to McLane Company, Inc. 3,604,000 29,934,413 33,538,413 3,633,417 August 18, 1999 40 yrs. Distribution and warehouse facility leased to The Retail Distribution Group, Inc. 740,000 10,681,011 11,421,011 1,359,804 August 18, 1999 40 yrs. Land leased to Consolidated Theaters Holding, G.P. 3,515,000 3,515,000 September 22, 1999 N/A Office and warehouse facility leased to Builders June 29, 1999 and FirstSource, Inc. 3,945,275 18,858,146 22,803,421 1,830,560 December 20, 2001 40 yrs.
-31- CORPORATE PROPERTY ASSOCIATES 14, INCORPORATED SCHEDULE III - REAL ESTATE and ACCUMULATED DEPRECIATION as of December 31, 2004
Costs Increase Initial Cost to Company Capitalized (Decrease) in ----------------------------- Subsequent to Net Investment Description Encumbrances Land Buildings Acquisition (a) (b) ----------- ------------ ---- --------- --------------- --- Operating Method: Office and research facility leased to Amerix Corporation 13,663,803 2,622,500 20,232,580 3,113,719 Industrial and manufacturing facility leased to Atrium Companies, Inc. 15,565,760 1,596,442 23,910,092 322,771 Retail and service facility leased to 24-Hour Fitness, Inc. 6,895,133 2,920,000 8,659,950 743,654 Office and research facility leased to West Union Corporation 3,231,884 940,000 4,557,382 12,498 Office and warehouse facility leased to Barjan Products, LLC 6,995,488 500,000 9,944,545 1,887,506 Industrial and manufacturing facility leased to Stellex Technologies, Inc. 10,573,561 2,932,000 16,397,988 17,904 (4,119,723) Manufacturing and distribution facility leased to APW North America Inc. 16,688,192 4,580,000 24,844,084 14,784 Distribution and warehouse facility leased to International Garden Products, Inc. 6,515,118 710,000 4,531,037 3,438,798 Retail and services facility leased to Dick's Sporting Goods, Inc. 18,921,329 7,330,000 22,305,554 4,177,399 Land leased to Caremark Rx, Inc. 8,536,174 14,600,000 Industrial and manufacturing facility leased to Transcore Holdings, Inc. 3,383,493 1,490,000 4,635,655 7,176 Life on which Depreciation Gross Amount at which Carried in Latest at Close of Period Statement of ---------------------------- Accumulated Income Description Land Buildings Total Depreciation (d) Date Acquired is Computed ----------- ---- --------- ----- ---------------- ------------- ----------- Operating Method: Office and research facility leased to Amerix Corporation 2,622,500 23,346,299 25,968,799 2,863,395 November 1, 1999 40 yrs. Industrial and manufacturing facility leased to Atrium November 18, 1999 and Companies, Inc. 1,596,442 24,232,863 25,829,305 2,104,038 December 1, 2001 40 yrs. Retail and service facility leased to 24-Hour Fitness, December 29, 1999 and Inc. 2,920,000 9,403,604 12,323,604 1,005,489 December 28, 2000 40 yrs. Office and research facility leased to West Union Corporation 940,000 4,569,880 5,509,880 547,434 January 12, 2000 40 yrs. Office and warehouse facility leased to Barjan Products, LLC 500,000 11,832,051 12,332,051 1,208,426 February 3, 2000 40 yrs. Industrial and manufacturing facility leased to Stellex Technologies, Inc. 1,482,000 13,746,169 15,228,169 1,675,314 February 29, 2000 40 yrs. Manufacturing and distribution facility leased to APW North America Inc. 4,580,000 24,858,868 29,438,868 2,874,307 May 30, 2000 40 yrs. Distribution and warehouse facility leased to International Garden Products, Inc. 710,000 7,969,835 8,679,835 820,370 June 29, 2000 40 yrs. Retail and services facility leased to Dick's Sporting Goods, Inc. 7,830,000 25,982,953 33,812,953 2,893,211 June 29, 2000 40 yrs. Land leased to Caremark Rx, Inc. 14,600,000 14,600,000 September 21, 2000 N/A Industrial and manufacturing facility leased to Transcore Holdings, Inc. 1,490,000 4,642,831 6,132,831 498,137 September 25, 2000 40 yrs.
-32- CORPORATE PROPERTY ASSOCIATES 14, INCORPORATED SCHEDULE III - REAL ESTATE and ACCUMULATED DEPRECIATION as of December 31, 2004
Costs Increase Initial Cost to Company Capitalized (Decrease) in ------------------------- Subsequent to Net Investment Description Encumbrances Land Buildings Acquisition (a) (b) ----------- ------------ ---- --------- --------------- --- Operating Method: Office and research facility leased to Lennar Corporation 4,824,658 570,000 6,759,843 Office and research facility leased to Buffets, Inc. 11,097,559 4,225,000 15,518,481 1,420 Distribution and warehouse facility leased to Earle M.Jorgensen Company 3,684,492 570,000 5,869,790 39,219 Distribution and warehouse facility leased to Institutional Jobbers Company 12,668,688 650,000 16,889,267 409,990 Land leased to Towne Holdings, Inc. 2,296,743 4,100,000 Office facility leased to Newpark Resources, Inc. 2,446,017 660,000 3,004,921 Office and research facility leased to Federal Express Corporation 43,182,038 3,154,425 70,645,575 12,000 Retail, service, distribution and warehouse facility leased to The Bon-Ton Stores, Inc. 7,224,881 1,974,000 10,067,885 2,900 Distribution and warehouse facility leased to McCoy, Inc. 3,965,703 1,025,000 4,530,120 9,419 Industrial and manufacturing facility leased to Metaldyne Company LLC 16,195,975 4,140,000 23,822,057 1,404,883 Service facility leased to the Mayo Foundation 11,927,354 3,348,824 9,275,468 8,941,752 Industrial and manufacturing facilities leased to Gerber Scientific, Inc. 12,183,718 1,555,400 18,822,872 250,000 Life on which Depreciation Gross Amount at which Carried in Latest at Close of Period Statement of ----------------------------- Accumulated Income Description Land Buildings Total Depreciation (d) Date Acquired is Computed ----------- ---- --------- ----- ---------------- ------------- ----------- Operating Method: Office and research facility leased to Lennar Corporation 570,000 6,759,843 7,329,843 725,275 September 26, 2000 40 yrs. Office and research facility leased to Buffets, Inc. 4,225,000 15,519,901 19,744,901 1,665,138 September 28, 2000 40 yrs. Distribution and warehouse facility leased to Earle M. Jorgensen Company 570,000 5,909,009 6,479,009 633,857 September 29, 2000 40 yrs. Distribution and warehouse facility leased to Institutional Jobbers Company 650,000 17,299,257 17,949,257 1,820,418 October 6, 2000 40 yrs. Land leased to Towne Holdings, Inc. 4,100,000 4,100,000 October 30, 2000 N/A Office facility leased to Newpark Resources, Inc. 660,000 3,004,921 3,664,921 303,622 December 1, 2000 40 yrs. Office and research facility leased to Federal Express Corporation 3,154,425 70,657,575 73,812,000 13,077,214 December 6, 2000 7 - 40 yrs. Retail, service, distribution and warehouse facility leased to The Bon-Ton Stores, Inc. 1,974,000 10,070,785 12,044,785 1,017,708 December 27, 2000 40 yrs. Distribution and warehouse facility leased to McCoy, Inc. 1,025,000 4,539,539 5,564,539 458,722 December 27, 2000 40 yrs. Industrial and manufacturing facility leased to Metaldyne June 29, 2000 and Company LLC 4,140,000 25,226,940 29,366,940 2,206,313 August 16, 2001 40 yrs. Service facility leased to the Mayo Foundation 3,348,824 18,217,220 21,566,044 1,642,918 August 14, 2000 40 yrs. Industrial and manufacturing facilities leased to Gerber Scientific, Inc. 1,555,400 19,072,872 20,628,272 1,638,071 July 30, 2001 N/A
-33- CORPORATE PROPERTY ASSOCIATES 14, INCORPORATED SCHEDULE III - REAL ESTATE and ACCUMULATED DEPRECIATION as of December 31, 2004
Costs Increase Initial Cost to Company Capitalized (Decrease) in ----------------------------- Subsequent to Net Investment Description Encumbrances Land Buildings Acquisition (a) (b) ----------- ------------ ---- --------- --------------- --- Operating Method: Industrial and manufacturing facility leased to Meridian Automotive Systems, Inc. 7,071,784 1,370,000 2,671,897 6,298,329 Industrial and manufacturing facility leased to Waddington North America, Inc. 10,629,165 4,398,000 13,418,144 3,745,441 Industrial and manufacturing facility leased to New Creative Enterprises, Inc. 9,712,151 2,000,000 12,869,110 Retail and service facilities leased to Lincoln Technical Institute, Inc. 6,027,802 2,486,384 7,601,852 Manufacturing and distribution facility leased to Gibson Guitar, Inc. 11,636,897 3,900,000 17,937,226 13,947 (293,545) Office and Research facility leased to Nortel Networks Limited 29,207,164 3,400,000 45,053,608 Industrial and manufacturing facility leased to Perkin Elmer, Inc. - Finland 25,222,719 801,195 23,389,834 81,315 12,557,367 Retail and service facilities leased to Petsmart, Inc. 42,046,712 17,100,000 54,742,917 Distribution and warehouse facility leased to Nexpak Corporation 7,586,949 2,167,000 11,445,566 5,231 Distribution and warehouse facility leased to Nexpak Corporation - Netherlands 6,706,146 2,230,224 3,360,091 2,872,546 Multiplex motion picture theater leased to Rave Review Cinemas, LLC 3,200,000 3,066,397 6,799,722 (4,112,076) Life on which Depreciation Gross Amount at which Carried in Latest at Close of Period Statement of ----------------------------- Accumulated Income Description Land Buildings Total Depreciation (d) Date Acquired is Computed ----------- ---- --------- ----- ---------------- ------------- ----------- Operating Method: Industrial and manufacturing facility leased to Meridian Automotive Systems, Inc. 1,370,000 8,970,226 10,340,226 682,030 November 16, 2000 40 yrs. Industrial and manufacturing facility leased to Waddington North America, Inc. 4,643,000 16,918,585 21,561,585 1,380,027 April 30, 2001 7 - 40 yrs. Industrial and manufacturing facility leased to New Creative Enterprises, Inc. 2,000,000 12,869,110 14,869,110 1,059,021 September 6, 2001 40 yrs. Retail and service facilities leased to Lincoln Technical Institute, Inc. 2,486,384 7,601,852 10,088,236 578,488 December 28, 2001 40 yrs. Manufacturing and distribution facility leased to Gibson Guitar, Inc. 3,900,000 17,657,628 21,557,628 1,689,599 March 19, 2001 40 yrs. Office and Research facility leased to Nortel Networks Limited 3,400,000 45,053,608 48,453,608 3,425,951 December 19, 2001 40 yrs. Industrial and manufacturing facility leased to Perkin Elmer, Inc. - Finland 1,235,038 35,594,673 36,829,711 2,721,351 December 28, 2001 40 yrs. Retail and service facilities leased to Petsmart, Inc. 17,100,000 54,742,917 71,842,917 4,277,237 November 28, 2001 40 yrs. Distribution and warehouse facility leased to Nexpak Corporation 2,167,000 11,450,797 13,617,797 1,085,342 March 28, 2001 40 yrs. Distribution and warehouse facility leased to Nexpak Corporation - Netherlands 3,434,864 5,027,997 8,462,861 451,483 June 29, 2001 40 yrs. Multiplex motion picture theater leased to Rave Review Cinemas, LLC 3,685,000 5,269,043 8,954,043 463,865 December 7, 2000 40 yrs.
-34- CORPORATE PROPERTY ASSOCIATES 14, INCORPORATED SCHEDULE III - REAL ESTATE and ACCUMULATED DEPRECIATION as of December 31, 2004
Costs Increase Initial Cost to Company Capitalized (Decrease) in --------------------------- Subsequent to Net Investment Description Encumbrances Land Buildings Acquisition (a) (b) ----------- ------------ ---- --------- --------------- --- Operating Method: Office building in Lindon, Utah partially leased to Wasatch Summit LLC and Wavetronix LLC 1,390,000 1,122,716 6,611,363 Warehouse, distribution, office, and industrial facilities leased to PW Eagle, Inc. 8,012,297 6,050,000 8,198,138 Distribution and Warehouse facility leased to American Tire Distributors, Inc. 8,577,336 1,860,000 12,851,675 Warehouse and distribution facilities leased to Carrefour France, SAS 108,102,940 15,724,087 75,210,660 9,761,339 47,707,816 Warehouse, distribution, and office facility leased to Katun Corporation 18,593,362 3,260,000 26,009,123 Industrial facility leased to Katun Corporation - Netherlands 7,306,362 2,374,404 3,864,260 2,257,499 Industrial facility leased to Tower Automotive, Inc. 19,439,880 4,390,000 30,336,328 Educational facility leased to Career Education Corp. 12,125,075 3,200,000 15,415,229 1,086,974 ------------ ------------ ------------- ------------ ----------- $636,547,192 $183,653,756 $ 746,609,010 $105,650,605 $50,159,884 ============ ============ ============= ============ =========== Life on which Depreciation Gross Amount at which Carried in Latest at Close of Period Statement of ---------------------------- Accumulated Income Description Land Buildings Total Depreciation (d) Date Acquired is Computed ----------- ---- --------- ----- ---------------- ------------- ----------- Operating Method: Office building in Lindon, Utah partially leased to Wasatch Summit LLC and Wavetronix LLC 1,390,000 7,734,079 9,124,079 602,791 December 27, 2000 40 yrs. Warehouse, distribution, office, and industrial facilities leased to PW Eagle, Inc. 6,050,000 8,198,138 14,248,138 589,157 February 28, 2002 40 yrs. Distribution and Warehouse facility leased to American Tire Distributors, Inc. 1,860,000 12,851,675 14,711,675 898,486 March 26, 2002 40 yrs. Warehouse and distribution facilities leased to Carrefour France, SAS 25,392,072 123,011,830 148,403,902 8,168,346 March 26, 2002 40 yrs. Warehouse, distribution, and office facility leased to Katun Corporation 3,260,000 26,009,123 29,269,123 1,598,464 July 5, 2002 40 yrs. Industrial facility leased to Katun Corporation - Netherlands 3,274,560 5,221,603 8,496,163 322,089 July 5, 2002 Industrial facility leased to Tower Automotive, Inc. 4,390,000 30,336,328 34,726,328 2,054,022 August 10, 2002 40 yrs. Educational facility leased to Career Education Corp. 3,200,000 16,502,203 19,702,203 632,000 August 10, 2002 40 yrs. ------------ ------------ -------------- ----------- $195,655,764 $890,417,491 $1,086,073,255 $86,212,092 ============ ============ ============== ===========
-35- CORPORATE PROPERTY ASSOCIATES 14, INCORPORATED SCHEDULE III - REAL ESTATE and ACCUMULATED DEPRECIATION as of December 31, 2004
Costs Increase Initial Cost to Company Capitalized (Decrease) in ------------------------- Subsequent to Net Investments Description Encumbrances Land Buildings Acquisition (b) ----------- ------------ ---- --------- ----------- --- Direct Financing Method: Industrial/manufacturing facilities leased to Atrium Companies, Inc. 10,809,424 $ 459,608 $ 20,426,564 $(3,191,407) Multiplex theater facility leased to Consolidated Theaters Holding, G.P. 6,909,363 10,818,996 $ 854,117 692,137 Office and research facility leased to Caremark Rx, Inc. 14,859,326 25,414,917 Distribution and warehouse facility leased to Towne Holdings, Inc. 2,339,413 4,172,251 3,920 Multiplex motion picture theater leased to Rave Review Cinemas, LLC 4,112,076 2,541,782 Manufacturing and distribution facility leased to BLP Group plc 7,012,824 8,383,364 7,099 3,414,129 Industrial and manufacturing facility leased to Collins and Aikman Corporation 16,238,669 2,961,000 24,473,555 20,257 Office facility leased to UTI Holdings, Inc. and Nascar Technical Institute 6,465,234 1,600,000 9,275,962 130,053 (227,349) ----------- ---------- ------------ ---------- ----------- $64,634,253 $5,020,608 $107,077,685 $3,557,228 $ 687,510 =========== ========== ============ ========== =========== Gross Amount at which Carried at Close of Period Description Total Date Acquired ----------- ----- ------------- Direct Financing Method: Industrial/manufacturing facilities leased to Atrium Companies, Inc. $ 17,694,765 November 18, 1999 Multiplex theater facility leased to Consolidated Theaters Holding, G.P. 12,365,250 September 22, 1999 Office and research facility leased to Caremark Rx, Inc. 25,414,917 September 21, 2000 Distribution and warehouse facility leased to Towne Holdings, Inc. 4,176,171 October 30, 2000 Multiplex motion picture theater leased to Rave Review Cinemas, LLC 6,653,858 December 7, 2000 Manufacturing and distribution facility leased to BLP Group plc 11,804,592 January 9, 2001 Industrial and manufacturing facility leased to Collins and Aikman Corporation 27,454,812 September 28, 2001 Office facility leased to UTI Holdings, Inc. and Nascar Technical Institute 10,778,666 February 11, 2002 ------------ $116,343,031 ============
-36- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED NOTES to SCHEDULE III - REAL ESTATE and ACCUMULATED DEPRECIATION (a) Consists of the costs of improvements subsequent to purchase and acquisition costs including legal fees, appraisal fees, title costs and other related professional fees. (b) The increase (decrease) in net investment is due to the amortization of unearned income producing a constant periodic rate of return on the net investment which is more (less) than lease payments received, foreign currency translation adjustments, impairment losses and property sales. (c) At December 31, 2004, the aggregate cost of real estate owned by CPA(R):14 and its subsidiaries for Federal income tax purposes is $944,168,050. (d)
Reconciliation of Real Estate Accounted for Under the Operating Method December 31, -------------------------------------------------------------------- 2004 2003 2002 ------------------ ------------------- ------------------- Balance at beginning of year $ 1,072,543,402 $ 1,010,142,307 $ 799,046,644 Additions 2,034,685 19,988,102 189,179,533 Reclassification from real estate under construction - 14,723,082 571,164 Reclassification to direct financing lease, net of reclassification from direct financing lease - (729,353) - Reclassification to asset held for sale (4,119,723) - - Foreign currency translation adjustment 15,614,891 28,419,264 21,344,966 ------------------ ------------------ ------------------- Balance at close of year $ 1,086,073,255 $ 1,072,543,402 $ 1,010,142,307 ================== ================== ===================
Reconciliation of Accumulated Depreciation December 31, -------------------------------------------------------------------- 2004 2003 2002 ------------------ ------------------ ------------------ Balance at beginning of year $ 62,105,338 $ 38,682,696 $ 17,728,004 Depreciation expense 23,425,574 22,728,601 20,631,843 Depreciation expense from discontinued operations 64,583 66,743 66,743 Reclassification to direct financing lease - (236,973) - Reclassification to asset held for sale (323,213) - - Foreign currency translation adjustment 939,810 864,271 256,106 ------------------ ------------------ ------------------ Balance at close of year $ 86,212,092 $ 62,105,338 $ 38,682,696 ================== ================== ==================
-37- APPENDIX A TO FORM 10-K CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED 2004 ANNUAL REPORT MANAGEMENT'S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING Our management is responsible for establishing and maintaining adequate internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act). Internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with accounting principles generally accepted in the United States of America. Our internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of our assets; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with accounting principles generally accepted in the United States of America, and that our receipts and expenditures are being made only in accordance with authorizations of our management and directors; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of our assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. We assessed the effectiveness of our internal control over financial reporting as of December 31, 2004. In making this assessment, we used criteria set forth in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based on our assessment, we concluded that, as of December 31, 2004, our internal control over financial reporting is effective based on those criteria. Our assessment of the effectiveness of internal control over financial reporting as of December 31, 2004 has been audited by PricewaterhouseCoopers LLP, an independent registered public accounting firm who also audited our consolidated financial statements included in Item 8, as stated in their report in Item 8. -1- SELECTED FINANCIAL DATA (In thousands, except per share amounts)
2004 2003 2002 2001 2000 ---------- ---------- ---------- ---------- --------- OPERATING DATA: Revenues (1) $ 130,237 $ 127,424 $ 110,139 $ 64,532 $ 36,790 Income from continuing operations (2) 38,755 33,641 29,575 18,041 21,304 Basic earnings from continuing operations per share .58 .51 .44 .35 .59 Net income 38,940 33,820 30,266 18,377 21,577 Basic earnings per share .58 .51 .45 .36 .60 Cash dividends paid 50,973 50,173 48,581 32,811 21,466 Cash dividends declared per share .76 .76 .75 .71 .67 Payment of mortgage principal (3) 11,046 9,234 6,543 2,557 628 BALANCE SHEET DATA: Total assets $1,346,355 $1,345,747 $1,319,897 $1,097,238 $645,762 Long-term obligations (4) 707,610 710,346 678,401 471,942 224,015
(1) Prior year balances have been reclassified to conform to the current year presentation of excluding interest income from revenues. (2) Includes loss from sale of real estate in 2001. (3) Represents scheduled mortgage principal amortization paid. (4) Represents mortgage obligations and deferred acquisition fee installments that are due after more than one year. -2- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (In thousands except share and per share amounts) The following discussion and analysis of financial condition and results of operations of Corporate Property Associates 14 Incorporated should be read in conjunction with the consolidated financial statements and notes thereto for the year ended December 31, 2004. As used in this Annual Report on Form 10-K, the terms "the Company," "we," "us" and "our" include Corporate Property Associates 14 Incorporated, its consolidated subsidiaries and predecessors, unless otherwise indicated. The following discussion includes forward-looking statements. Forward-looking statements, which are based on certain assumptions, describe future plans, strategies and our expectations. Forward-looking statements discuss matters that are not historical facts. Because they discuss future events or conditions, forward-looking statements may include words such as "anticipate," "believe," "estimate," "intend," "could," "should," "would," "may," "seeks," "plans" or similar expressions. Do not unduly rely on forward-looking statements. They give our expectations about the future and are not guarantees, and speak only as of the date they are made. Such statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievement to be materially different from the results of operations or plan expressed or implied by such forward looking statements. While we cannot predict all of the risks and uncertainties, they include, but are not limited to, those described in Item 1 of this Annual Report on Form 10-K. Accordingly, such information should not be regarded as representations that the results or conditions described in such statements or our objectives and plans will be achieved. EXECUTIVE OVERVIEW Nature of Business We were formed in 1997 for the purpose of engaging in the business of investing in and owning commercial and industrial real estate. In furtherance of that purpose, we acquire properties and lease them, primarily to single tenants. Between November 1997 and November 2001, we raised $657,943 in two "best efforts" public offerings of common stock. We used the proceeds from the public offerings along with limited recourse mortgage financing to purchase properties and enter into long-term net leases with corporate tenants. Substantially all of our leases have been structured to place certain economic burdens of ownership on these corporate tenants by requiring them to pay the costs of maintenance and repair, insurance and real estate taxes. The lease obligations are unconditional. When possible, we also negotiate guarantees of the obligations from the parent company of the lessee. The leases have generally been structured to include periodic rent increases that are stated or based on increases in the consumer price index ("CPI") or equivalent foreign index, or in a stated amount, or, for certain retail properties, may provide for additional rents based on sales in excess of a specified base amount. In addition to investing directly, we may also acquire interests in real estate through joint ventures. These joint ventures are generally with affiliates. As a real estate investment trust ("REIT"), we are not subject to federal income taxes on amounts distributed to shareholders provided we meet certain conditions including distributing at least 90% of our REIT taxable income to our shareholders. Our primary objectives are to: - fund dividends to shareholders; and - protect our shareholders from the effects of inflation through rent escalation provisions, property appreciation, tenant credit improvement and regular paydown of limited recourse mortgage debt. We cannot guarantee that our objectives will be ultimately realized. We are advised by W. P. Carey & Co. LLC ("WPC"), an affiliate, pursuant to an advisory agreement. Our advisory agreement is renewable annually as determined by independent directors who are elected by our shareholders. In connection with each renewal, WPC is required to provide the independent directors with a comparison of the fee structure with several similar companies. The advisory agreement also provides, commencing in 2003, that a third party portfolio valuation be performed annually. The portfolio valuation is used to determine the asset base for calculating asset management and performance fees that we pay to WPC. We also reimburse WPC for expenses, including overhead, incurred in connection with its services. Prior to 2003, the fees were calculated based on the historical cost of the purchased real estate assets. -3- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED (In thousands except share and per share amounts) How We Earn Revenue The primary source of our revenue is from leasing real estate. We acquire and own commercial properties that are then leased to companies domestically and internationally, primarily on a net lease basis. Revenue is subject to fluctuation because of lease expirations, lease terminations, the timing of new lease transactions and sales of property. How Management Evaluates Results of Operations Management evaluates our results with a primary focus on the ability to generate cash flow necessary to meet our objectives of funding dividends to our shareholders and overall property appreciation. As a result, management's assessment of operating results gives less emphasis to the effect of unrealized gains and losses which may cause fluctuations in net income for comparable periods but have no impact on cash flow and to other noncash charges such as depreciation and impairment charges. In evaluating cash flow from operations, management includes equity distributions that are included in investing activities to the extent that the distributions in excess of equity income are the result of noncash charges such as depreciation and amortization. Management does not consider unrealized gains and losses from foreign currency or derivative instruments when evaluating its ability to fund dividends. Management's evaluation of our potential for generating cash flow is based on long-term assessments. Our operations consist of the investment in and the leasing of industrial and commercial real estate. Management's evaluation of the sources of lease revenues for the years ended December 31, 2004, 2003 and 2002 are as follows:
2004 2003 2002 --------- ---------- -------- Per Statements of Income: Rental income $ 113,228 $ 108,282 $ 97,693 Interest income from direct financing leases 13,430 13,010 11,798 Adjustments: Share of lease revenues applicable to minority interest (7,975) (7,838) (7,629) Share of lease revenues from equity investments 33,807 30,556 13,279 --------- ---------- -------- $ 152,490 $ 144,010 $115,141 ========= ========== ========
In 2004, 2003 and 2002, we earned our share of net lease revenues (i.e., rental income and interest income from direct financing leases) from our direct and indirect ownership of real estate from the following lease obligations:
2004 % 2003 % 2002 % -------- ---- -------- ----- -------- ---- Carrefour France, SAS (a) (e) $ 13,696 9% $ 11,597 8% $ 6,671 6% Starmark Camhood, L.L.C. (b) (c) 7,492 5 6,713 5 - - Nortel Networks Limited 6,001 4 6,001 4 6,001 5 Petsmart, Inc. (d) 5,812 4 5,812 4 6,228 5 Clear Channel Communications, Inc. (c) 5,660 4 5,660 4 - - True Value Company (c) 5,065 3 5,056 4 11 - Atrium Companies, Inc. 4,574 3 4,457 3 4,451 4 Caremark Rx, Inc. 4,300 3 4,300 3 4,300 4 Federal Express Corporation (d) 4,001 3 3,958 3 3,915 3 Tower Automotive, Inc. (f) 3,895 3 3,895 3 2,813 2 Katun Corporation (e) 3,815 3 3,739 3 1,746 2 Dick's Sporting Goods, Inc. 3,811 3 3,811 3 3,811 3 Perkin Elmer, Inc. (e) 3,394 2 2,985 2 2,494 2 Collins & Aikman Corporation 3,373 2 3,296 2 3,249 3 Metaldyne Company LLC 3,307 2 3,207 2 3,142 3 Advanced Micro Devices, Inc. (c) 3,259 2 3,259 2 3,259 3 Applied Materials, Inc. (c) 3,249 2 3,097 2 3,099 3 APW North America Inc. 2,954 2 2,857 2 2,761 2 Amerix Corp. 2,497 2 2,477 2 2,458 2 Mayo Foundation (g) 2,421 2 2,421 2 2,421 2
-4- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED (In thousands except share and per share amounts)
2004 % 2003 % 2002 % -------- ---- -------- --- -------- ---- Waddington North America, Inc. 2,280 2 2,038 1 1,811 2 Other (c) (d) (e) (h) 57,634 35 53,374 36 50,500 44 -------- ---- -------- --- -------- --- $152,490 100% $144,010 100% $115,141 100% ======== ==== ======== === ======== ===
(a) An expansion at a Carrefour France, SAS property was completed in July 2003. (b) The Starmark interest was acquired in February 2003. (c) Represents our proportionate share of lease revenues from its equity investments. (d) Net of minority interest of an affiliate. (e) Revenue amounts are subject to fluctuations in foreign currency exchange rates. (f) Tower Automotive filed for Chapter 11 bankruptcy protection in February 2005. (g) Lease was assumed from Celestica Corporation effective January 1, 2004. (h) Net of unaffiliated third party's minority interest. Current Developments and Trends Competition for investments continues to remain strong. If general economic conditions continue to improve, inflation and interest rates, at least for the short term, are expected to continue to rise as well. Rising interest rates are expected to have the following impact on our business: - Rising interest rates would likely cause a decline in the values of properties in our investment portfolio; - Rising interest rates would likely cause an increase in the CPI, which over time will result in increased revenue and partially offset the impact of declining property values; and - The impact of rising interest rates would be mitigated through our use of fixed interest rates on the majority of our debt. For the year ended December 31, 2004, cash flow generated from operations and equity investments was sufficient to fund dividends paid and meet other obligations including paying scheduled mortgage principal payments and making distributions to minority interests. Management expects based on its current assessments that over the long-term, cash flow from operations and equity investments will meet the objective of increasing the distribution rate and meeting other cash obligations. We have cash and cash equivalent balances of $36,395 and auction-rate marketable securities of $7,000 as of December 31, 2004 which can be utilized for working capital needs and other commitments and may be used for future real estate purchases. Management believes that as the portfolio matures there is a potential for an increase in the value of the portfolio and that any increase may not be reflected in the financial statements. RESULTS OF OPERATIONS Lease Revenue 2004 VS. 2003 - For the comparable years ended December 31, 2004 and 2003, lease revenues (rental income and interest income from direct financing leases) increased by $5,366 primarily as a result of the completion of several build-to-suit projects ($2,094), scheduled rent increases ($1,806), new leases ($1,158) and the impact of favorable changes in foreign exchange rates on rents from foreign properties ($1,669). These increases were partially offset by a $1,337 decrease in lease revenues due to the termination of leases with Scott Companies, Inc. and Fleming Companies, Inc. in 2003. During 2003, we completed build-to-suit projects at properties leased to Carrefour France, SAS, Waddington North America, Inc., Career Education Corporation and Rave Reviews Cinemas LLC. In November 2004, we completed a build-to-suit project at a property leased to Metaldyne Company LLC. The completion of these projects contributed an additional $2,094 in lease revenue in 2004. The expansion at the Metaldyne property will generate $184 of additional annual lease revenues. Scheduled rent increases at several properties contributed $1,806 of the increase in -5- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED (In thousands except share and per share amounts) lease revenues. Rent increases are generally determined by formulas that are indexed to increases in the CPI. New leases with the Retail Distribution Group, Wavetronix LLC and Moonlight Molds at properties that were previously vacant or only partially occupied contributed an additional $1,158 in lease revenue in 2004 (see below). Lease revenues from our properties in Europe and the United Kingdom benefited from the changes in foreign exchange rates, with $1,669 of the increase in lease revenues attributable to the favorable changes in the average exchange rates for the Euro and the British Pound as compared with average exchange rates in 2003. We entered into a net lease with Retail Distribution in January 2004 for a property in Grand Rapids, Michigan in which we own a 60% interest. The Retail Distribution lease provides for initial annual rent of $903, of which our share is $542, and has an initial term through August 2009. The Retail Distribution lease provides for reductions to its rent as it vacated another property in order to lease the Grand Rapids property. Reductions to rent will be adjusted for any rentals Retail Distribution receives from the other property or upon its sale of the other property. The Grand Rapids property was formerly leased to Fleming Companies and had been vacant since May 2003. In December 2003, we entered into a net lease with Wavetronix for a portion of a partially vacant property in Lindon, Utah. The Wavetronix lease began contributing $301 of annual lease revenues in June 2004 when improvements at the property were completed, and has an initial term through November 2009. In September 2004, we entered into a net lease with Moonlight Molds for a property in Gardena, California. The Moonlight Molds lease provides for initial annual rent of $356 and has an initial term through November 2009. The Gardena property was previously leased to Scott Companies, Inc. and had been vacant since February 2004. BLP Group plc leases a manufacturing and distribution facility in the United Kingdom which it may purchase at its option in 2006. Earle M. Jorgensen Company has an option to purchase the Kansas City, Missouri distribution and warehouse facility it leases from us in 2007. We have not received any indication that these purchase options will be exercised. Best Buy Co., Inc. has exercised a five-year renewal option on its lease for a retail property in Torrance, California which was scheduled to expire in 2005. The current Best Buy lease contributes $1,900 of annual lease revenues. The renewal option will commence in February 2005 and will contribute $2,152 of annual lease revenues through January 2010. In February 2005, Tower Automotive, which contributed approximately $3,895 in 2004 lease revenues, filed for Chapter 11 bankruptcy protection. We cannot predict whether Tower Automotive will affirm or terminate its lease in connection with its Chapter 11 reorganization. 2003 VS. 2002 - For the comparable years ended December 31, 2003 and 2002, lease revenues increased by $11,801, primarily as a result of real estate acquisitions ($7,921), completing build-to-suit commitments ($1,874), scheduled rent increases at several properties ($988) and the impact of favorable changes in foreign exchange rates on rents from foreign properties ($1,810). These increases were partially offset by a $1,135 decrease in lease revenues due to the termination of leases with Scott Companies, Inc. and Fleming Companies, Inc. in 2003. During 2002, we purchased properties and entered into leases with Carrefour, UTI Holdings, Inc., Tower Automotive, PW Eagle, Inc., American Tire Distributors, Inc. and Katun Corporation, which provided for $7,921 of the increase in lease revenues in 2003. In July 2003, we funded the expansion of an existing property leased to Carrefour that contributed $573 of additional lease revenues in 2003. We also completed build-to-suit projects with Waddington North America, Career Education Corporation and Rave Reviews Cinemas during 2003 which provided an increase in lease revenues of $1,301. In March 2003, Fleming Companies filed a voluntary petition of bankruptcy and subsequently terminated its lease at a property in Grand Rapids, Michigan. Our share of annual rent from the Fleming lease was $925. The Grand Rapids property has been re-leased to Retail Distribution as described above. In November 2003, Scott Companies entered into liquidation proceedings and subsequently terminated its lease at a property in Gardena, California. The Scott Companies lease had provided lease revenues of $737. The property has been re-leased to Moonlight Molds as described above. We own a property in Rochester, Minnesota which had been leased to Celestica Corporation. In July 2003, Celestica vacated the property but continued to pay its $2,194 annual rent. In January 2004, we agreed to assign the Celestica lease to the Mayo Foundation in exchange for payments to the Mayo Foundation of $150 from us and a payment from Celestica. We believe that this provides an overall benefit because of Mayo's strong credit rating and its unique stature in Rochester. -6- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED (In thousands except share and per share amounts) Other Operating Income 2004 VS. 2003 - Other operating income generally consists of costs reimbursable by tenants, lease termination payments and other non-rent related revenues including, but not limited to, settlements of claims against former lessees. We receive settlements in the ordinary course of business; however, the timing and amount of such settlements cannot always be estimated. Reimbursable costs are recorded as both income and property expense and, therefore, have no impact on net income. For the comparable years ended December 31, 2004 and 2003, other operating income decreased $2,553, primarily due to the recognition of $2,588 from the forfeiture of a security deposit in 2003. 2003 VS. 2002 - For the comparable years ended December 31, 2003 and 2002, other operating income increased $5,484, primarily as a result of the forfeited security deposit and an increase of $2,672 in costs reimbursable by tenants. General and Administrative Expenses 2004 VS. 2003 - For the comparable years ended December 31, 2004 and 2003, general and administrative expenses decreased by $2,249, primarily due to a $1,583 reduction in payments to broker dealers, which reflected the discontinuance of payments to a broker dealer of account maintenance fees. These account maintenance fees are among the payments that are a subject of the SEC investigation described in Item 3 - Legal Proceedings. General and administrative expenses also benefited from a $231 decline in expenses of WPC allocated to us due to a decline in time dedicated to us by WPC employees, and a $196 reduction in acquisition expenses. The foregoing effects were offset in part by increased state and local income taxes. 2003 VS. 2002 - For the comparable years ended December 31, 2003 and 2002, general and administrative expenses increased by $1,966, primarily as a result of increases in personnel cost reimbursements, broker dealer payments as described above, auditing services and our share of rental expenses under an office-sharing agreement. These increases were partially offset by decreases in acquisition expenses. Property Expense 2004 VS. 2003 - For the comparable years ended December 31, 2004 and 2003, property expense increased by $1,573, primarily due to a $1,980 increase in asset management and performance fees which was the result of both the growth of our asset base and the appreciation of existing properties as determined by the initial third party valuation of our portfolio as of December 31, 2003. This increase was partially offset by lower provisions for uncollected rents. 2003 VS. 2002 - For the comparable years ended December 31, 2003 and 2002, property expense increased $6,459, primarily due to a $4,072 increase in asset management and performance fees caused by the growth of our asset base. Property expenses also increased by $2,672 as a result of costs reimbursable by tenants, which are recorded as both revenue and expense and which have no effect on net income. These increases were partially offset by a decrease in real estate taxes. Impairment Charge on Real Estate 2004 VS. 2003 - During 2003, we recognized impairment charges of $3,103, primarily related to a $2,900 charge on the property in Gardena, California formerly leased to Scott Companies Inc. This property was written down to its estimated fair value following Scott's default on its lease. No impairment charges were recognized in 2004. 2003 VS. 2002 - During 2003, we recognized impairment charges of $3,103 as described above. No impairment charges were recognized in 2002. Income from Equity Investments 2004 VS. 2003 - For the comparable years ended December 31, 2004 and 2003, income from equity investments increased by $1,312, of which $652 results from our April 2004 acquisition of an 11.54% interest in a newly-formed limited partnership which purchased 78 self-storage and truck leasing facilities. The facilities are leased under two master leases to lessees that operate the properties under the U-Haul brand name. The acquisition of the Starmark -7- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED (In thousands except share and per share amounts) Camhood, LLC investment in February 2003 contributed an additional $309 to income from equity investments in 2004 as it was held for the full year, and rent increases at properties leased to Applied Materials, Inc. and Special Devices, Inc. contributed an additional $258. 2003 VS. 2002 - For the comparable years ended December 31, 2003 and 2002, income from equity investments increased by $7,672, primarily as the result of acquiring interests in properties leased to True Value Company and Clear Channel Communications, Inc. in December 2002 and Starmark in February 2003. Interest Expense 2004 VS. 2003 - For the comparable years ended December 31, 2004 and 2003, interest expense increased $1,084 primarily due to interest on new mortgages obtained in 2003 and increases in foreign currency exchanges rates for the Euro and the British Pound. These increases were partially offset by an $11,046 reduction in mortgage notes payable balances as a result of making scheduled mortgage principal payments. During 2003, we obtained $27,477 of new mortgages collateralized by properties leased to Carrefour, Career Education Group and UTI Holdings. 2003 VS. 2002 - For the comparable years ended December 31, 2003 and 2002, interest expense increased $7,528, primarily as a result of obtaining $27,477 and $198,455 of new mortgage financing in 2003 and 2002, respectively. Net Income 2004 VS. 2003 - For the comparable years ended December 31, 2004 and 2003, net income increased $5,120, primarily due to an increase in total revenues of $2,813 in 2004 and the recognition of impairment charges on real estate of $3,103 in 2003, both of which are described above. 2003 VS. 2002 - For the comparable years ended December 31, 2003 and 2002, net income increased $3,554, primarily due to increases in total revenue of $17,285 and income from equity investments of $7,672. These increases were partially offset by increases in interest expense of $7,528 and property expense of $6,459. We also recognized impairment charges on real estate of $3,103 in 2003. These fluctuations are described above. We also incurred additional general and administrative expenses of $1,966 and recognized additional depreciation of $2,096 in 2003. FINANCIAL CONDITION Uses of Cash During the Year There has been no material change in our financial condition since December 31, 2003. Cash and cash equivalents totaled $36,395 as of December 31, 2004, a decrease of $2,330 from the December 31, 2003 balance. We believe we have sufficient cash balances to meet our working capital needs. Our use of cash during the period is described below. Operating Activities One of our objectives is to use the cash flow from net leases (including equity investments) to meet operating expenses, service debt and fund dividends to shareholders. Cash flows from continuing operations and equity investments of $72,746 were sufficient to pay dividends to shareholders of $50,973, meet scheduled mortgage principal installments of $11,046 and distribute $2,735 to minority interest partners. Annual operating cash flow is expected to continue to increase as a result of new leases signed in 2004. Annual cash flow from the April 2004 U-Haul transaction (lease revenues, net of property-level debt service) is expected to approximate $1,500. We also entered into leases with Retail Distribution, Wavetronix and Moonlight Molds at properties that were previously vacant or only partially occupied. These three leases will contribute annual cash flow (lease revenues, net of property-level debt service) of approximately $424 and reduce or eliminate our absorbing property carrying costs such as real estate taxes and insurance. Scheduled rent increases, most of which are based on increases in the CPI, at existing properties will also contribute to increased operating cash flow. -8- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED (In thousands except share and per share amounts) Investing Activities Our investing activities are generally comprised of real estate transactions (purchases and sales), payment of our annual installment of deferred acquisition fees and the purchase and sale of marketable securities. In April 2004, we used $15,045 to purchase our interest in the U-Haul transaction. In November 2004, we used $1,369 to fund an expansion at a property in Plymouth, Michigan leased to Metaldyne. Other real estate related payments included $457 to fund leasehold improvements at the Lindon, Utah building in connection with signing the Wavetronix lease and $166 to pay final construction costs for the Waddington North America and Rave Reviews Cinemas build-to-suit projects, which were placed in service in 2003, and additional capitalized costs at other properties of $158. The annual installment of deferred acquisition fees is paid each January and was $3,266 in 2004. We purchased and sold $10,825 and $19,775 of auction-rate marketable securities. Management believes that these securities are relatively liquid and provide a more favorable yield than many market instruments. We expect to use cash from operations to fund our annual deferred acquisition installment obligation. Financing Activities In addition to making scheduled mortgage principal payments, paying dividends to shareholders and making distributions to minority partners, we used $3,924 to purchase treasury shares through a redemption plan which allows shareholders to sell shares back to us, subject to certain limitations. Additionally, $1,617 was used to pay off a payable for refundable value added taxes in connection with the Carrefour expansion. We also obtained $5,698 as a result of issuing shares through our Distribution Reinvestment and Share Purchase Plan. We hold a participation in a mortgage pool consisting of $172,335 of newly issued mortgage debt collateralized by properties and lease assignments on properties owned by us and three affiliates. With these affiliates, we also purchased subordinated interests of $24,129 in which we own a 25% interest. The subordinated interests are payable only after all other classes of ownership receive their stated interest and related principal payments. The subordinated interests, therefore, could be affected by any defaults or nonpayment by lessees. As of December 31, 2004, there have been no defaults. Three Garden Ridge Corporation properties that are owned by affiliates are included in the mortgage pool and the lessee has filed a petition of bankruptcy. In the event the Garden Ridge leases are terminated, cash flow from this investment might be adversely affected. We have entered into agreements with Garden Ridge to modify the leases; however, the modifications are subject to the approval of the bankruptcy court. In the event that the modifications are not approved, Garden Ridge could still pursue termination of the leases. -9- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED (In thousands except share and per share amounts) Cash Resources As of December 31, 2004, we have $36,395 in cash and cash equivalents and $7,000 of auction-rate securities, which may be converted to cash, that can be used for working capital needs and other commitments and may be used for future real estate purchases. In addition, debt may be incurred on unleveraged properties with a carrying value of $55,881 as of December 31, 2004 and any proceeds may be used to finance future real estate purchases. Cash Requirements During the next twelve months, cash requirements will include scheduled mortgage principal payment installments (we have no mortgage balloon payments scheduled until June 2006 for $6,930, which represents our pro rata share of a mortgage obligation on an equity investee), paying dividends to shareholders, making distributions to minority partners and paying other normal recurring operating expenses. We may also seek to use our cash to purchase new properties to further diversify our portfolio and maintain cash balances sufficient to meet working capital needs. Based on our current cash balances, we may use existing cash reserves to satisfy future balloon payment obligations. We conduct business in Europe. While we recognized foreign currency transaction gains of $1,447 in 2004 in connection with the transfer of cash from foreign subsidiaries, foreign currency transaction gains and losses were not material to our results of operations for the year ended December 31, 2004. We were not subject to material foreign currency exchange rate risk from the effects of changes in exchange rates. To date, we have not entered into any foreign currency forward exchange contracts or other derivative financial instruments to hedge the effects of adverse fluctuations in foreign currency exchange rates. We have obtained limited recourse mortgage financing at fixed rates of interest in the local currency. To the extent that currency fluctuations increase or decrease rental revenues as translated to dollars, the change in debt service, as translated to dollars, will partially offset the effect of fluctuations in revenue, and, to some extent, mitigate the risk from changes in foreign currency rates. As of December 31, 2004, Carrefour, which leases properties in France, contributed 9% of lease revenues. The leverage used on the limited recourse financing of the Carrefour investments is higher than the average leverage on our domestic real estate investments. OFF-BALANCE SHEET AND AGGREGATE CONTRACTUAL AGREEMENTS The table below summarizes our contractual obligations as of December 31, 2004 and the effect that such obligations are expected to have on our liquidity and cash flow in future periods.
Total Less than 1 Year 1-3 Years 3-5 Years More than 5 years Limited recourse mortgage notes payable (1) $ 1,062,591 $ 64,261 $ 128,769 $ 173,691 $ 695,870 Deferred acquisition fees 24,281 4,595 8,808 6,990 3,888 Subordinated disposition fees (2) 240 - - - 240 Operating leases (3) 7,617 479 1,185 1,283 4,670 ----------- ----------- --------- --------- ------------- $ 1,094,729 $ 69,335 $ 138,762 $ 181,964 $ 704,668 =========== =========== ========= ========= =============
(1) Amounts are inclusive of principal and interest. (2) Payable, subject to meeting contingencies, in connection with any liquidity event. (3) Operating lease obligations consist primarily of our share of minimum rents payable under an office cost-sharing agreement with certain affiliates for the purpose of leasing office space used for the administration of real estate entities. As of December 31, 2004, we have no material capital lease obligations, either individually or in the aggregate. In connection with the purchase of its properties, we require the sellers to perform environmental reviews. We believe, based on the results of such reviews, that our properties were in substantial compliance with Federal and state environmental statutes at the time the properties were acquired. However, portions of certain -10- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED (In thousands except share and per share amounts) properties have been subject to some degree of contamination, principally in connection with either leakage from underground storage tanks, surface spills from facility activities or historical on-site activities. In most instances where contamination has been identified, tenants are actively engaged in the remediation process and addressing identified conditions. Tenants are generally subject to environmental statutes and regulations regarding the discharge of hazardous materials and any related remediation obligations. In addition, our leases generally require tenants to indemnify us from all liabilities and losses related to the leased properties with provisions of such indemnification specifically addressing environmental matters. The leases generally include provisions which allow for periodic environmental assessments, paid for by the tenant, and allow us to extend leases until such time as a tenant has satisfied its environmental obligations. Certain of the leases allow us require financial assurances from tenants such as performance bonds or letters of credit if the costs of remediating environmental conditions are, in our estimation, in excess of specified amounts. Accordingly, we believe that the ultimate resolution of any environmental matter should not have a material adverse effect on our financial condition, liquidity or results of operations. CRITICAL ACCOUNTING ESTIMATES A summary of our significant accounting policies is described in Note 2 to the Consolidated Financial Statements. Many of these accounting policies require certain judgment and the use of certain estimates and assumptions when applying these policies in the preparation of our consolidated financial statements. On a quarterly basis, we evaluate these estimates and judgments based on historical experience as well as other factors that we believe to be reasonable under the circumstances. These estimates are subject to change in the future if underlying assumptions or factors change. Certain accounting policies, while significant, may not require the use of estimates. Those accounting policies that require significant estimation and/or judgment are listed below. Classification of Real Estate Assets We classify our directly owned leased assets for financial reporting purposes as either real estate leased under the operating method or net investment in direct financing leases at the inception of a lease. This classification is based on several criteria, including, but not limited to, estimates of the remaining economic life of the leased assets and the calculation of the present value of future minimum rents. In determining the classification of a lease, we use estimates of remaining economic life provided by third party appraisals of the leased assets. The calculation of the present value of future minimum rents includes determining a lease's implicit interest rate, which requires an estimate of the residual value of leased assets as of the end of the non-cancelable lease term. Different estimates of residual value result in different implicit interest rates and could possibly affect the financial reporting classification of leased assets. The contractual terms of our leases are not necessarily different for operating and direct financing leases; however the classification is based on accounting pronouncements which are intended to indicate whether the risks and rewards of ownership are retained by the lessor or substantially transferred to the lessee. Management believes that it retains certain risks of ownership regardless of accounting classification. Assets classified as net investment in direct financing leases are not depreciated and, therefore, the classification of assets may have a significant impact on net income even though it has no effect on cash flows. Identification of Tangible and Intangible Assets in Connection with Real Estate Acquisitions In connection with the acquisition of properties, purchase costs will be allocated to tangible and intangible assets and liabilities acquired based on their estimated fair values. The value of tangible assets, consisting of land, buildings and tenant improvements, will be determined as if vacant. Intangible assets including the above-market value of leases, the value of in-place leases and the value of tenant relationships will be recorded at their relative fair values. Below-market value of leases are also recorded at their relative fair values and are included in other liabilities in the accompanying financial statements. The value attributed to tangible assets will be determined in part using a discount cash flow model which is intended to approximate what a third party would pay to purchase the property as vacant and rent at current "market" rates. In applying the model, we will assume that the disinterested party would sell the property at the end of a market lease term. Assumptions used in the model will be property-specific as it is available; however, when certain necessary information is not available, we will use available regional and property-type information. Assumptions and estimates will include a discount rate or internal rate of return, marketing period necessary to put a lease in place, -11- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED (In thousands except share and per share amounts) carrying costs during the marketing period, leasing commissions and tenant improvements allowances, market rents and growth factors of such rents, market lease term and a cap rate to be applied to an estimate of market rent at the end of the market lease term. Above-market and below-market lease intangibles will be based on the difference between the market rent and the contractual rents and will be discounted to a present value using an interest rate reflecting our assessment of the risk associated with the lease acquired. If we acquire properties subject to net leases, we will consider the credit of the lessee in negotiating the initial rent. The total amount of other intangibles will be allocated to in-place lease values and tenant relationship intangible values based on our evaluation of the specific characteristics of each tenant's lease and our overall relationship with each tenant. Characteristics we will consider in allocating these values include the nature and extent of the existing relationship with the tenant, prospects for developing new business with the tenant, the tenant's credit quality and the expectation of lease renewals, among other factors. Third party appraisals or our estimates will be used to determine these values. Intangibles for above-market and below-market leases, in-place lease intangibles and tenant relationships will be amortized over their estimated useful lives. In the event that a lease is terminated, the unamortized portion of each intangible, including market rate adjustments, in-place lease values and tenant relationship values, is charged to expense. Factors considered include the estimated carrying costs of the property during a hypothetical expected lease-up period, current market conditions and costs to execute similar leases. Estimated carrying costs include real estate taxes, insurance, other property operating costs and estimates of lost rentals at market rates during the hypothetical expected lease-up periods, based on assessments of specific market conditions. Estimated costs to execute leases include commissions and legal costs to the extent that such costs are not already incurred with a new lease that has been negotiated in connection with the purchase of the property. Impairments Impairment charges may be recognized on long-lived assets, including but not limited to, real estate, direct financing leases, equity investments and assets held for sale. Estimates and judgments are used when evaluating whether these assets are impaired. When events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable, we perform projections of undiscounted cash flows, and if such cash flows are insufficient, the assets are adjusted (i.e., written down) to their estimated fair value. An analysis of whether a real estate asset has been impaired requires us to make our best estimate of market rents, residual values and holding periods. In our evaluations, we generally obtain market information from outside sources; however, such information requires us to determine whether the information received is appropriate to the circumstances. As our investment objective is to hold properties on a long-term basis, holding periods used in the analyses generally range from five to ten years. Depending on the assumptions made and estimates used, the future cash flow projected in the evaluation of long-lived assets can vary within a range of outcomes. We will consider the likelihood of possible outcomes in determining the best possible estimate of future cash flows. Because in most cases, each of our properties is leased to one tenant, we are more likely to incur significant writedowns when circumstances change because of the possibility that a property will be vacated in its entirety and, therefore, it is different from the risks related to leasing and managing multi-tenant properties. Events or changes in circumstances can result in further noncash writedowns and impact the gain or loss ultimately realized upon sale of the assets. We perform a review of our estimate of residual value of our direct financing leases at least annually to determine whether there has been an other than temporary decline in the current estimate of residual value of the underlying real estate assets (i.e., the estimate of what we could realize upon sale of the property at the end of the lease term). If the review indicates a decline in residual value, that is other than temporary, a loss is recognized and the accounting for the direct financing lease will be revised to reflect the decrease in the expected yield using the changed estimate, that is, a portion of the future cash flow from the lessee will be recognized as a return of principal rather than as revenue. While an evaluation of potential impairment of real estate accounted for under the operating method is determined by a change in circumstances, the evaluation of a direct financing lease can be affected by changes in long-term market conditions even though the obligations of the lessee are being met. Changes in circumstances include, but are not limited to, vacancy of a property not subject to a lease and termination of a lease. We may also -12- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED (In thousands except share and per share amount) assess properties for impairment because a lessee is experiencing financial difficulty and because management expects that there is a reasonable probability that the lease will be terminated in a bankruptcy organization or a property remains vacant for a period that exceeds the period anticipated in a prior impairment evaluation. Investments in unconsolidated joint ventures are accounted for under the equity method and are recorded initially at cost, as equity investments and are subsequently adjusted for our proportionate share of earnings and cash contributions and distributions. On a periodic basis, we assess whether there are any indicators that the value of equity investments may be impaired and whether or not that impairment is other than temporary. To the extent an other than temporary impairment has occurred, the charge is measured as the excess of the carrying amount of the investment over the fair value of the investment. When we identify assets as held for sale, we discontinue depreciating the assets and estimate the sales price, net of selling costs, of such assets. If in our opinion, the net sales price of the assets which have been identified for sale is less than the net book value of the assets, an impairment charge is recognized and a valuation allowance is established. To the extent that a purchase and sale agreement has been entered into, the allowance is based on the negotiated sales price. To the extent that we have adopted a plan to sell an asset but have not entered into a sales agreement, we will make judgments of the net sales price based on current market information. Accordingly, the initial assessment may be greater or less than the purchase price subsequently committed to and may result in a further adjustment to the fair value of the property. If circumstances arise that previously were considered unlikely and, as a result, we decide not to sell a property previously classified as held for sale, the property is reclassified as held and used. A property that is reclassified is measured and recorded individually at the lower of (a) its carrying amount before the property was classified as held for sale, adjusted for any depreciation expense that would have been recognized had the property been continuously classified as held and used, (b) the fair value at the date of the subsequent decision not to sell, or (c) the current carrying value. No impairments were recorded in 2004. Provision for Uncollected Amounts from Lessees On an ongoing basis, we assess our ability to collect rent and other tenant-based receivables and determine an appropriate allowance for uncollected amounts. Because our real estate operations have a limited number of lessees, we believe that it is necessary to evaluate the collectibility of these receivables based on the facts and circumstances of each situation rather than solely use statistical methods. We generally recognize a provision for uncollected rents and other tenant receivables that typically range between 0.25% and 1% of lease revenues (rental income and interest income from direct financing leases) and will measure our allowance against actual rent arrearages and adjust the percentage applied. For amounts in arrears, we make subjective judgments based on our knowledge of a lessee's circumstances and may reserve for the entire receivable amount from a lessee because there has been significant or continuing deterioration in the lessee's ability to meet its lease obligations. Based on actual experience during 2004, we recorded a provision equal to approximately 1% of lease revenues. Fair Value of Assets and Liabilities In 2002, we acquired a subordinated interest in a mortgage trust that consists of limited recourse loans on 62 properties that we own or three of our affiliates own. The fair value of the interests in the trust is determined using a discounted cash flow model with assumptions of market rates and the credit quality of the underlying lessees. If there are adverse changes in either market rates or the credit quality of the lessees, the model and, therefore, the income recognized from the subordinated interests and the fair value would be adjusted. We measure derivative instruments, including certain derivative instruments embedded in other contracts, if any, at fair value and record them as an asset or liability, depending on our right or obligations under the applicable derivative contract. For derivatives designated as fair value hedges, the changes in the fair value of both the derivative instrument and the hedged item are recorded in earnings (i.e., the forecasted event occurs). For derivatives designated as cash flow hedges, the effective portions of the derivatives are reported in other comprehensive income and are subsequently reclassified into earnings when the hedged item affects earnings. Changes in the fair value of derivative instruments not designated as hedging and ineffective portions of hedges are recognized in earnings in the -13- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED (In thousands except share and per share amounts) affected period. To determine the value of warrants for common stock which are classified as derivatives, various estimates are included in the options pricing model used to determine the value of a warrant. RECENT ACCOUNTING PRONOUNCEMENTS In May 2003, the FASB issued SFAS No. 150 "Accounting for Certain Financial Instruments with Characteristics of both Liability and Equity" ("FAS 150"). FAS 150 establishes standards to classify as liabilities certain financial instruments that are mandatorily redeemable or include an obligation to repurchase and expands financial statement disclosure requirements. Such financial instruments will be measured at fair value with changes in fair value included in the determination of net income. FAS 150 was effective for financial instruments entered into or modified after May 31, 2003, and otherwise effective at the beginning of the first interim period beginning after June 15, 2003. In November 2003, the FASB issued FASB Staff Position 150-3 ("FSP 150-3"), which defers the classification and measurement provisions of FAS 150 indefinitely as they apply to mandatorily redeemable non-controlling interests associated with finite-lived entities. We have interests in six joint ventures that are consolidated and have minority interests that have finite lives and were considered mandatorily redeemable non-controlling interests prior to the issuance of FSP 150-3. As a result of the deferral provisions of FSP 150-3, these minority interests have not been reflected as liabilities. The carrying value of these minority interests at December 31, 2004 and 2003 is $12,356 and $12,368, respectively. The fair value of these minority interests at December 31, 2004 and 2003 is $18,437 and $13,815, respectively. We adopted FAS 150 in July 2003 and it did not have a significant impact on our consolidated financial statements. -14- REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Board of Directors and Shareholders of Corporate Property Associates 14 Incorporated: We have completed an integrated audit of Corporate Property Associates 14 Incorporated's 2004 consolidated financial statements and of its internal control over financial reporting as of December 31, 2004 and audits of its 2003 and 2002 consolidated financial statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Our opinions, based on our audits, are presented below. Consolidated financial statements In our opinion, the accompanying consolidated balance sheets and the related consolidated statements of income, shareholders' equity and cash flows present fairly, in all material respects, the financial position of Corporate Property Associates 14 Incorporated and its subsidiaries at December 31, 2004 and 2003, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2004 in conformity with accounting principles generally accepted in the United States of America. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit of financial statements includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. Internal control over financial reporting Also, in our opinion, management's assessment, included in the accompanying Management's Report on Internal Control over Financial Reporting, that the Company maintained effective internal control over financial reporting as of December 31, 2004 based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), is fairly stated, in all material respects, based on those criteria. Furthermore, in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control - Integrated Framework issued by the COSO. The Company's management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express opinions on management's assessment and on the effectiveness of the Company's internal control over financial reporting based on our audit. We conducted our audit of internal control over financial reporting in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. An audit of internal control over financial reporting includes obtaining an understanding of internal control over financial reporting, evaluating management's assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we consider necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinions. A company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted -15- accounting principles. A company's internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. PricewaterhouseCoopers LLP New York, New York March 15, 2005 -16- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED CONSOLIDATED BALANCE SHEETS (In thousands except share amounts)
December 31, ------------- 2004 2003 ---- ---- ASSETS: Real estate leased to others: Accounted for under the operating method Land $ 195,656 $ 194,450 Buildings 890,417 878,093 ----------- ----------- 1,086,073 1,072,543 Less, accumulated depreciation 86,212 62,105 ----------- ----------- 999,861 1,010,438 Net investment in direct financing leases 116,343 114,907 Equity investments 134,905 120,388 Asset held for sale 3,797 - Cash and cash equivalents 36,395 38,725 Marketable securities 13,904 22,742 Other assets, net of accumulated amortization of $3,459 and $2,360 and allowance for uncollected rents of $729 and $619 at December 31, 2004 and 2003 41,150 38,547 ----------- ----------- Total assets $ 1,346,355 $ 1,345,747 =========== =========== LIABILITIES, MINORITY INTEREST AND SHAREHOLDERS' EQUITY: Liabilities: Mortgage notes payable $ 701,181 $ 702,175 Mortgage note payable on asset held for sale 2,190 - Accrued interest 4,612 4,461 Due to affiliates 4,925 4,559 Accounts payable and accrued expenses 5,184 5,968 Prepaid rental income and security deposits 22,233 19,607 Deferred acquisition fees payable to affiliate 20,012 22,530 Dividends payable 12,894 12,662 ----------- ----------- Total liabilities 773,231 771,962 ----------- ----------- Minority interest 26,426 27,356 ----------- ----------- Shareholders' equity: Common stock, $.001 par value; authorized, 120,000,000 shares; issued and outstanding, 68,982,023 and 67,694,702 shares at December 31, 2004 and 2003 69 68 Additional paid-in capital 620,366 606,380 Dividends in excess of accumulated earnings (76,301) (64,036) Accumulated other comprehensive income 13,621 11,150 ----------- ----------- 557,755 553,562 Less, treasury stock at cost, 1,191,490 and 802,642 shares at December 31, 2004 and 2003 (11,057) (7,133) ----------- ----------- Total shareholders' equity 546,698 546,429 ----------- ----------- Total liabilities, minority interest and shareholders' equity $ 1,346,355 $ 1,345,747 =========== ===========
The accompanying notes are an integral part of the consolidated financial statements. -17- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED CONSOLIDATED STATEMENTS of INCOME (In thousands except share and per share amounts)
For the years ended December 31, -------------------------------- 2004 2003 2002 ---- ---- ---- Revenues: Rental income $ 113,228 $ 108,282 $ 97,693 Interest income from direct financing leases 13,430 13,010 11,798 Other operating income 3,579 6,132 648 ------------ ------------ ------------ 130,237 127,424 110,139 ------------ ------------ ------------ Operating Expenses: Depreciation 23,426 22,728 20,632 General and administrative 6,155 8,404 6,438 Property expense 22,559 20,986 14,527 Impairment charges on real estate - 3,103 - ------------ ------------ ------------ 52,140 55,221 41,597 ------------ ------------ ------------ Income from continuing operations before interest income, minority interest, equity investments, interest expense and gains 78,097 72,203 68,542 Interest income 1,239 1,630 2,269 Minority interest in income (1,805) (1,489) (1,724) Income from equity investments 14,304 12,992 5,320 Interest expense (53,799) (52,715) (45,187) ------------ ------------ ------------ Income from continuing operations before gains 38,036 32,621 29,220 (Loss) gain on derivative instruments, net (728) (49) 355 Gain on foreign currency transactions, net 1,447 1,069 - ------------ ------------ ------------ Income from continuing operations 38,755 33,641 29,575 Discontinued operations: Income from operation of discontinued properties 185 179 358 Gain on sale of real estate - - 333 ------------ ------------ ------------ Income from discontinued operations 185 179 691 ------------ ------------ ------------ Net income $ 38,940 $ 33,820 $ 30,266 ============ ============ ============ Basic earnings per share: Earnings from continuing operations $ .58 $ .51 $ .44 Earnings from discontinued operations - - .01 ------------ ------------ ------------ Net income $ .58 $ .51 $ .45 ============ ============ ============ Weighted average shares outstanding - basic 67,447,812 66,638,026 66,193,674 ============ ============ ============
The accompanying notes are an integral part of the consolidated financial statements. -18- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED CONSOLIDATED STATEMENT of SHAREHOLDERS' EQUITY (In thousands except share amounts) For the years ended December 31, 2002, 2003, and 2004
Dividends in Accumulated Excess of Other Common Additional Comprehensive Accumulated Comprehensive Treasury Stock Paid-in Capital Income Earnings Income Stock Total ------ --------------- ------------- ------------- -------------- --------- ----- Balance at December 31, 2001 $ 66 $ 593,487 $ (28,023) $ (101) $ (2,950) $562,479 520,686 shares issued $.001 par, at $10 per share, net of offering costs 1 4,365 4,366 Dividends declared (49,751) (49,751) Purchase of treasury stock, 190,935 shares (1,685) (1,685) Comprehensive income: Net income $ 30,266 30,266 30,266 ------------- Other comprehensive income: Unrealized appreciation on marketable securities 257 Foreign currency translation adjustment 5,957 ------------- 6,214 6,214 6,214 ------------- $ 36,480 ------ ------------ ============= ----------- ---------- -------- -------- Balance at December 31, 2002 67 597,852 (47,508) 6,113 (4,635) 551,889 ------ ------------ ----------- ---------- --------- -------- 858,550 shares issued $.001 par, at $11.30 per share, net of offering costs 1 8,528 8,529 Dividends declared (50,348) (50,348) Purchase of treasury stock, 281,731 shares (2,498) (2,498) Comprehensive income: Net income $ 33,820 33,820 33,820 ------------- Other comprehensive income: Unrealized appreciation on marketable securities 641 Foreign currency translation adjustment 4,396 ------------- 5,037 5,037 5,037 ------------- $ 38,857 ------ ------------ ============= ----------- ---------- -------- -------- Balance at December 31, 2003 68 606,380 (64,036) 11,150 (7,133) 546,429 ------ ------------ ----------- ---------- --------- -------- 1,287,321 shares issued $.001 par, at $10 per share, net of offering costs 1 13,986 13,987 Dividends declared (51,205) (51,205) Purchase of treasury stock, 388,848 shares (3,924) (3,924) Comprehensive income: Net income $ 38,940 38,940 38,940 ------------- Other comprehensive income: Unrealized appreciation on marketable securities 217 Foreign currency translation adjustment 2,254 ------------- 2,471 2,471 2,471 ------------- $ 41,411 ------ ------------ ============= ----------- ---------- -------- -------- Balance at December 31, 2004 $ 69 $ 620,366 $ (76,301) $ 13,621 $(11,057) $546,698 ====== ============ =========== ========== ======== ========
The accompanying notes are an integral part of the consolidated financial statements. -19- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED CONSOLIDATED STATEMENTS of CASH FLOWS (In thousands)
For the year ended December 31, ------------------------------- 2004 2003 2002 ---- ---- ---- Cash flows from operating activities: Net income $ 38,940 $ 33,820 $ 30,266 Adjustments to reconcile net income to net cash provided by continuing operations: Income from discontinued operations, including gain on sale of real estate (185) (179) (691) Depreciation and amortization 24,571 23,890 21,477 Straight-line rent adjustments (4,349) (3,965) (4,201) Income from equity investments in excess of distributions received (1,162) (1,529) (30) Minority interest in income 1,805 1,489 1,724 Issuance of shares to affiliate in satisfaction of current and accrued performance fees 8,289 7,105 5,092 Impairment charge on real estate - 3,103 - Increase (decrease) in prepaid rents and security deposits 2,584 (1,727) 2,545 Realized gain on foreign currency transactions (1,357) (349) - Unrealized loss (gain) on derivative instruments and foreign currency transactions, net 638 (671) (355) Change in other operating assets and liabilities, net 560 (1,830) 4,311 --------- --------- --------- Net cash provided by continuing operations 70,334 59,157 60,138 Net cash provided by discontinued operations 256 253 431 --------- --------- --------- Net cash provided by operating activities 70,590 59,410 60,569 --------- --------- --------- Cash flows from investing activities: Equity distributions received in excess of equity income 2,412 1,178 1,456 Capital distributions received from equity investments - 8,722 - Purchases of real estate and equity investments and other capitalized costs, net (a) (17,195) (50,385) (269,117) Value added taxes recoverable on purchase of real estate - 827 1,448 Purchase of securities (10,825) (15,000) (57,405) Proceeds from sale of real estate and securities 19,775 21,059 32,998 Payment of deferred acquisition fees (3,266) (2,373) (1,638) --------- --------- --------- Net cash used in investing activities (9,099) (35,972) (292,258) --------- --------- --------- Cash flows from financing activities: Dividends paid (50,973) (50,173) (48,581) Proceeds from stock issuance, net of costs 5,698 1,424 (1,725) Prepayment of mortgage principal - - (3,800) Release of mortgage funds by lenders 167 2,776 - Proceeds from mortgages - 21,582 196,596 Repayment of proceeds from note (1,617) 1,617 - Payments of mortgage principal (11,046) (9,234) (6,543) Funding of defeasance escrow account - - (2,537) Deferred financing costs and mortgage deposits - - (4,050) Purchase of treasury stock (3,924) (2,498) (1,685) (Distributions paid to) contributions from minority interest partner, net (2,735) (3,340) 7,661 --------- --------- --------- Net cash (used in) provided by financing activities (64,430) (37,846) 135,336 --------- --------- ---------
- Continued - -20- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED CONSOLIDATED STATEMENTS of CASH FLOWS, Continued Effect of exchange rates on cash 609 1,035 756 --------- --------- --------- Net decrease in cash and cash equivalents (2,330) (13,373) (95,597) Cash and cash equivalents, beginning of year 38,725 52,098 147,695 --------- --------- --------- Cash and cash equivalents, end of year $ 36,395 $ 38,725 $ 52,098 ========= ========= =========
Noncash operating, investing and financing activities: During 2002, a security deposit of $5,288 was assigned to a lender. (a) Included in the cost basis of real estate and equity investments acquired in 2004, 2003 and 2002 are deferred acquisition fees payable to WPC of $749, $1,733 and $6,146, respectively. Supplemental cash flow information: Interest paid, excluding capitalized interest, was $52,923, $51,261 and $43,281 in 2004, 2003 and 2002, respectively. Capitalized interest was $357 in 2003 and $808 in 2002. No capitalized interest was recognized in 2004. A dividend of $.19020 per share for the quarter ended December 31, 2004 was declared in December 2004 and paid in January 2005. The accompanying notes are an integral part of the consolidated financial statements. -21- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED NOTES to CONSOLIDATED FINANCIAL STATEMENTS Amounts in thousands, except share and per share amounts 1. Organization: Corporate Property Associates 14 Incorporated (the "Company") was formed on June 4, 1997 under the General Corporation Law of Maryland for the purpose of engaging in the business of investing in and owning industrial and commercial real estate. Subject to certain restrictions and limitations, the business of the Company is managed by W. P. Carey & Co. LLC (the "Advisor"). An initial offering of the Company's shares which commenced on November 10, 1997 concluded on November 10, 1999 at which time the Company had issued an aggregate of 29,440,594 shares ($294,406). On November 17, 1999, the Company commenced an offering for a maximum of 40,000,000 shares of common stock. The shares were offered to the public on a "best efforts" basis at a price of $10 per share. The second offering concluded on November 15, 2001, by which time 36,353,686 shares ($363,537) were issued. 2. Summary of Significant Accounting Policies: BASIS OF CONSOLIDATION The consolidated financial statements include the Company, its wholly owned subsidiaries and controlling majority-owned interests in limited liability companies and partnerships (collectively, the "Company"). The Company is not the primary beneficiary of any variable interest entity ("VIE"). All material inter-entity transactions have been eliminated. For acquisitions of an interest in an entity, the Company evaluates its equity interest to determine if the entity is deemed a VIE, or if the Company is deemed to be the primary beneficiary, in accordance with FASB Interpretation No. 46(R), "Consolidation of Variable Interest Entities" ("FIN 46(R)"). Entities that meet one or more of the criteria listed below are considered VIEs. - The Company's equity investment is not sufficient to allow the entity to finance its activities without additional third party financing; - The Company does not have the direct or indirect ability to make decisions about the entity's business; - The Company is not obligated to absorb the expected losses of the entity; - The Company does not have the right to receive the expected residual returns of the entity; and - The Company's voting rights are not proportionate to its economic interests. For entities where the Company is not deemed to be the primary beneficiary and the Company's ownership is 50% or less and has the ability to exercise significant influence as well as jointly-controlled tenancy-in-common interests are accounted for under the equity method, i.e. at cost, increased or decreased by the Company's share of earnings or losses, less distributions. USE OF ESTIMATES The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. RECLASSIFICATION Certain prior year amounts have been reclassified to conform to the current year's financial statement presentation. Certain auction-rate securities have been reclassified from cash equivalents to short-term marketable securities. Auction-rate securities are variable rate bonds tied to short-term interest rates with maturities on the face of the securities in excess of 90 days. Auction-rate securities have interest rate resets through a modified Dutch auction at predetermined short-term intervals. These securities trade at par value and are callable at par value on any interest payment date at the option of the issuer. Although these securities are issued and rated as long term bonds, they are priced and traded as short-term instruments because of the liquidity provided through the interest rate interest rate reset. The Company had historically classified these securities as cash equivalents if the period between interest rate resets was 90 days or less, which was based on its ability to either liquidate or roll the security over to the next reset period. Based on the Company's re-evaluation of the maturity dates associated with the underlying bonds, the Company has reclassified its auction-rate securities as short-term marketable securities for each period presented in the accompanying consolidated financial statements. PURCHASE PRICE ALLOCATION In connection with the Company's acquisition of properties, purchase costs will be allocated to the tangible and intangible assets and liabilities acquired based on their estimated fair values. The value of the tangible assets, consisting of land, buildings and tenant improvements, will be determined as if vacant. Intangible assets including the above-market value of leases, the value of in-place leases and the value of tenant relationships will be recorded at their relative fair values. Below-market value of leases are also recorded at their relative fair values and are included in other liabilities in the accompanying financial statements. Above-market and below-market in-place lease values for owned properties will be recorded based on the present value (using an interest rate reflecting the risks associated with the leases acquired) of the difference between (i) the contractual amounts to be paid pursuant to the leases negotiated and in place at the time of acquisition of the properties and (ii) management's estimate -22- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED NOTES to CONSOLIDATED FINANCIAL STATEMENTS, Continued Amounts in thousands, except share and per share amounts of fair market lease rates for the property or equivalent property, measured over a period equal to the remaining non-cancelable term of the lease. The capitalized above-market lease value will be amortized as a reduction of rental income over the remaining non-cancelable term of each lease. The capitalized below-market lease value will be amortized as an increase to rental income over the initial term and any fixed rate renewal periods in the respective leases. The total amount of other intangibles will be allocated to in-place lease values and tenant relationship intangible values based on management's evaluation of the specific characteristics of each tenant's lease and the Company's overall relationship with each tenant. Characteristics that are considered in allocating these values include the nature and extent of the existing relationship with the tenant, prospects for developing new business with the tenant, the tenant's credit quality and the expectation of lease renewals among other factors. Third party appraisals or management's estimates are used to determine these values. Intangibles for above-market and below-market leases, in-place lease intangibles and tenant relationships will be amortized over their estimated useful lives. In the event that a lease is terminated, the unamortized portion of each intangible, including market rate adjustments, in-place lease values and tenant relationship values, is charged to expense. Factors considered in the analysis include the estimated carrying costs of the property during a hypothetical expected lease-up period, current market conditions and costs to execute similar leases. Management will also consider information obtained about a property in connection with its pre-acquisition due diligence. Estimated carrying costs include real estate taxes, insurance, other property operating costs and estimates of lost rentals at market rates during the hypothetical expected lease-up periods, based on management's assessment of specific market conditions. Estimated costs to execute leases including commissions and legal costs to the extent that such costs are not already incurred with a new lease that has been negotiated in connection with the purchase of the property will also be considered. The value of in-place leases will be amortized to expense over the remaining initial term of each lease. The value of tenant relationship intangibles will be amortized to expense over the initial and expected renewal terms of the leases but no amortization period for intangibles will exceed the remaining depreciable life of the building. OPERATING REAL ESTATE Land and buildings and personal property are carried at cost less accumulated depreciation. Renewals and improvements are capitalized, while replacements, maintenance and repairs that do not improve or extend the lives of the respective assets are expensed as incurred. REAL ESTATE UNDER CONSTRUCTION AND REDEVELOPMENT For properties under construction, operating expenses including interest charges and other property expenses, including real estate taxes, are capitalized rather than expensed and rentals received are recorded as a reduction of capitalized project (i.e., construction) costs. Interest is capitalized by applying the interest rate applicable to outstanding borrowings to the average amount of accumulated expenditures for properties under construction during the period. CASH EQUIVALENTS The Company considers all short-term, highly liquid investments that are both readily convertible to cash and have a maturity of three months or less at the time of purchase to be cash equivalents. Items classified as cash equivalents include commercial paper and money market funds. Substantially all of the Company's cash and cash equivalents at December 31, 2004 and 2003 were held in the custody of two financial institutions and which balances, at times, exceed federally insurable limits. The Company mitigates this risk by depositing funds with major financial institutions. MARKETABLE SECURITIES Marketable securities, which consist of an interest in collateralized mortgage obligations (see Note 7) and auction-rate securities, are classified as available for sale securities and reported at fair value, with the Company's interest in unrealized gains and losses on these securities reported as a component of other comprehensive income (loss) until realized. -23- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED NOTES to CONSOLIDATED FINANCIAL STATEMENTS, Continued Amounts in thousands, except share and per share amounts OTHER ASSETS Included in other assets are deferred charges and deferred rental income. Deferred charges are costs incurred in connection with mortgage financings and refinancings and are amortized over the terms of the mortgages using the effective interest rate method and included in interest expense in the accompanying consolidated financial statements. Deferred rental income is the aggregate difference for operating leases between scheduled rents, which vary during the lease term, and rent recognized on a straight-line basis. DEFERRED ACQUISITION FEES Fees are payable for services provided by W. P. Carey & Co. LLC (the "Advisor"), an affiliate, to the Company relating to the identification, evaluation, negotiation, financing and purchase of properties. A portion of such fees are deferred and are payable in annual installments with each installment equal to .25% of the purchase price of the properties over no less than eight years following the first anniversary of the date a property was purchased. Payment of such fees is subject to the Preferred Return (see Note 3). ACCUMULATED OTHER COMPREHENSIVE INCOME As of December 31, 2004 and 2003, accumulated other comprehensive income reflected in the Company's shareholders' equity is comprised of the following:
As of December 31, ------------------ 2004 2003 ---- ---- Unrealized appreciation on marketable securities $ 1,115 $ 898 Foreign currency translation adjustment 12,506 10,252 ------- ------- Accumulated other comprehensive income $13,621 $11,150 ======= =======
TREASURY STOCK Treasury stock is recorded at cost. REAL ESTATE LEASED TO OTHERS Real estate is leased to others on a net lease basis, whereby the tenant is generally responsible for all operating expenses relating to the property, including property taxes, insurance, maintenance, repairs, renewals and improvements. Expenditures for maintenance and repairs including routine betterments are charged to operations as incurred. Significant renovations that increase the useful life of the properties are capitalized. For the year ended December 31, 2004, lessees were responsible for the direct payment of real estate taxes of approximately $13,120. The Company diversifies its real estate investments among various corporate tenants engaged in different industries, by property type and geographically. No lessee currently represents 10% or more of total leasing revenues. Substantially all of the Company's leases provide for either scheduled rent increases, periodic rent increases based on formulas indexed to increases in the Consumer Price Index ("CPI") or sales overrides. Rents from sales overrides (percentage rents) are recognized as reported by the lessees, that is, after the level of sales requiring a rental payment to the Company is reached. The leases are accounted for under either the direct financing or operating methods. Such methods are described below (see Notes 4 and 5): Direct financing method - Leases accounted for under the direct financing method are recorded at their net investment (Note 5). Unearned income is deferred and amortized to income over the lease terms so as to produce a constant periodic rate of return on the Company's net investment in the lease. Operating method - Real estate is recorded at cost less accumulated depreciation, minimum rental revenue is recognized on a straight-line basis over the term of the leases, and expenses (including depreciation) are charged to operations as incurred. On an ongoing basis, the Company assesses its ability to collect rent and other tenant-based receivables and determines an appropriate allowance for uncollected amounts. Because the real estate operations has a limited number of lessees, the Company believes that it is necessary to evaluate the collectibility of these receivables based on the facts and circumstances of each situation rather than solely use statistical methods. The Company generally recognizes a provision for uncollected rents and other tenant receivables that typically ranges between 0.25% and 1% of lease revenues (rental income and interest income -24- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED NOTES to CONSOLIDATED FINANCIAL STATEMENTS, Continued Amounts in thousands, except share and per share amounts from direct financing leases) and will measure its allowance against actual rent arrearages and adjust the percentage applied. For amounts in arrears, the Company makes subjective judgments based on its knowledge of a lessee's circumstances and may reserve for the entire receivable amount from a lessee because there has been significant or continuing deterioration in the lessee's ability to meet its lease obligations. DEPRECIATION Depreciation is computed using the straight-line method over the estimated useful lives of the properties - generally 40 years. Depreciation of tenant improvements is computed using the straight-line method over the remaining term of the lease. IMPAIRMENTS When events or changes in circumstances indicate that the carrying amount may not be recoverable, the Company assesses the recoverability of its long-lived assets and certain intangible assets based on projections of undiscounted cash flows, without interest charges, over the life of such assets. In the event that such cash flows are insufficient, the assets are adjusted to their estimated fair value. The Company performs a review of its estimate of residual value of its direct financing leases at least annually to determine whether there has been an other than temporary decline in the Company's current estimate of residual value of the underlying real estate assets (i.e., the estimate of what the Company could realize upon sale of the property at the end of the lease term). If the review indicates a decline in residual value that is other than temporary, a loss is recognized and the accounting for the direct financing lease will be revised to reflect the decrease in the expected yield using the changed estimate, that is, a portion of the future cash flow from the lessee will be recognized as a return of principal rather than as revenue. Investments in unconsolidated joint ventures are accounted for under the equity method and are recorded initially at cost, as equity investments and are subsequently adjusted for our proportionate share of earnings and cash contributions and distributions. On a periodic basis, we assess whether there are any indicators that the value of equity investments may be impaired and whether or not that impairment is other than temporary. To the extent an other than temporary impairment has occurred, the charge is measured as the excess of the carrying amount of the investment over the fair value of the investment. When the Company identifies assets as held for sale, it discontinues depreciating the assets and estimates the sales price, net of selling costs, of such assets. If in the Company's opinion, the net sales price of the assets which have been identified for sale is less than the net book value of the assets, an impairment charge is recognized and a valuation allowance is established. To the extent that a purchase and sale agreement has been entered into, the allowance is based on the negotiated sales price. To the extent that the Company has adopted a plan to sell an asset but has not entered into a sales agreement, it will make judgments of the net sales price based on current market information. Accordingly, the initial assessment may be greater or less than the purchase price subsequently committed to and may result in a further adjustment to the fair value of the property. If circumstances arise that previously were considered unlikely and, as a result, the Company decides not to sell a property previously classified as held for sale, the property is reclassified as held and used. A property that is reclassified is measured and recorded individually at the lower of (a) its carrying amount before the property was classified as held for sale, adjusted for any depreciation expense that would have been recognized had the property been continuously classified as held and used, (b) the fair value at the date of the subsequent decision not to sell, or (c) the current carrying value. FOREIGN CURRENCY TRANSLATION The Company consolidates its real estate investments in The Netherlands, Finland, France and the United Kingdom. The functional currencies for these investments are the Euro and British Pound. The translation from these local currencies to the U.S. dollar is performed for assets and liabilities using current exchange rates in effect at the balance sheet date and for revenue and expense accounts using a weighted average exchange rate during the period. The gains and losses resulting from such translation are reported as a component of other comprehensive income as part of shareholders' equity. As of December 31, 2004 and 2003, the cumulative foreign currency translation adjustment gain was $12,506 and $10,252, respectively. Foreign currency transactions may produce receivables or payables that are fixed in terms of the amount of foreign currency that will be received or paid. A change in the exchange rates between the functional currency and the currency in which a transaction is denominated increases or decreases the expected amount of functional currency cash flows upon settlement of that transaction. That increase or decrease in the expected functional currency cash flows is a foreign currency transaction gain or loss that generally will be included in determining net income for the period in which the exchange rate changes. Likewise, a transaction gain or loss (measured from the transaction date or the most recent intervening balance sheet date, whichever is -25- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED NOTES to CONSOLIDATED FINANCIAL STATEMENTS, Continued Amounts in thousands, except share and per share amounts later), realized upon settlement of a foreign currency transaction generally will be included in net income for the period in which the transaction is settled. Foreign currency transactions that are (i) designated as, and are effective as, economic hedges of a net investment and (ii) intercompany foreign currency transactions that are of a long-term nature (that is, settlement is not planned or anticipated in the foreseeable future), when the entities to the transactions are consolidated or accounted for by the equity method in the Company's financial statements will not be included in determining net income but will be accounted for in the same manner as foreign currency translation adjustments and reported as a component of other comprehensive income as part of shareholder's equity. The contributions to the equity investments were funded in part through subordinated debt. Foreign currency intercompany transactions that are scheduled for settlement, consisting primarily of accrued interest and the translation to the reporting currency of intercompany subordinated debt with scheduled principal repayments, are included in the determination of net income, and the Company recognized unrealized gains of $90 and $720 from such transactions in the years ended December 31, 2004 and 2003, respectively. In the years ended December 31, 2004 and 2003, the Company recognized realized gains of $1,357 and $349, respectively, on foreign currency transactions in connection with the transfer of cash from foreign operations of subsidiaries to the parent company. No such realized or unrealized gains were recognized in 2002. DERIVATIVE INSTRUMENTS The Company accounts for its derivative instruments in accordance with FASB No. 133 "Accounting for Derivative Instruments and Hedging Activities," as amended ("FAS 133"). Certain stock warrants which were granted to the Company by lessees in connection with structuring the initial lease transactions are defined as derivative instruments because such stock warrants are readily convertible to cash or provide for net settlement upon conversion. Pursuant to FAS 133, changes in the fair value of such derivative instruments are determined using an option pricing model and are recognized currently in earnings as gains or losses. Changes in fair value for the years ended December 31, 2004 and 2003 generated unrealized losses of $64 and $20, respectively, and an unrealized gain of $385 as of December 31, 2002. As of December 31, 2004, warrants issued to the Company by PW Eagle, Inc., American Tire Distributors, Inc. and Consolidated Theaters Holding, G.P. are classified as derivative instruments. The Company also holds stock warrants that were not defined as derivative instruments and have been recorded at nominal values. The Company has only recognized unrealized gains or losses on stock warrants that are derivative instruments. A lease for a property located in The Netherlands provides the Company with an option to receive a portion of rental payments in Euros or U.S. dollars. Pursuant to the adoption of FAS 133, the option is a derivative instrument and changes in the fair value of the option are recognized in earnings as gains or losses. Unrealized losses of $9, $29 and $30 were recognized in 2004, 2003 and 2002, respectively. As of December 31, 2004, the Company's cumulative unrealized foreign currency gain was $10. Changes in the fair value of an interest swap instrument on a variable rate loan with a notional amount of $8,883 are included in the determination of net income. For the year ended December 31, 2004, an unrealized loss of $655 was recognized. ASSETS HELD FOR SALE Assets held for sale are accounted for at the lower of carrying value or fair value less costs to dispose. Assets are classified as held for sale when the Company has committed to a plan to actively market a property for sale and expects that a sale will be completed within one year. The results of operations and the related gain or loss on sale of properties classified as held for sale are included in discontinued operations (see Note 11). If circumstances arise that previously were considered unlikely and, as a result, the Company decides not to sell a property previously classified as held for sale, the property is reclassified as held and used. A property that is reclassified is measured and recorded individually at the lower of (a) its carrying amount before the property was classified as held for sale, adjusted for any depreciation expense that would have been recognized had the property been continuously classified as held and used, (b) the fair value at the date of the subsequent decision not to sell, or (c) the current carrying value. The Company recognizes gains and losses on the sale of properties when among other criteria, the parties are bound by the terms of the contract, all consideration has been exchanged and all conditions precedent to closing have been performed. At the time the sale is consummated, a gain or loss is recognized as the difference between the sale price less any closing costs and the carrying value of the property. -26- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED NOTES to CONSOLIDATED FINANCIAL STATEMENTS, Continued Amounts in thousands, except share and per share amounts FEDERAL INCOME TAXES The Company has elected to be treated as a REIT under Sections 856 through 860 of the Internal Revenue Code of 1986, as amended (the "Code"). In order to maintain its qualification as a REIT, the Company is required to, among other things, distribute at least 90% of its REIT taxable income to its shareholders and meet certain tests regarding the nature of its income and assets. As a REIT, the Company is not subject to federal income tax with respect to that portion of its income which meets certain criteria and is distributed annually to the shareholders. Accordingly, no provision for federal income taxes is included in the accompanying consolidated financial statements. The Company has and intends to continue to operate so that it meets the requirements for taxation as a REIT. Many of these requirements, however, are highly technical and complex. If the Company were to fail to meet these requirements, the Company would be subject to federal income tax. The Company is subject to certain state, local and foreign taxes. Provision for such taxes has been included in general and administrative expenses in the Company's Consolidated Statements of Income. EARNINGS PER SHARE The Company has a simple equity capital structure with only common stock outstanding. As a result, the Company has presented basic per-share amounts only for all periods presented in the accompanying consolidated financial statements. RECENT ACCOUNTING PRONOUNCEMENTS In May 2003, the FASB issued SFAS No. 150 "Accounting for Certain Financial Instruments with Characteristics of both Liability and Equity" ("FAS 150"). FAS 150 establishes standards to classify as liabilities certain financial instruments that are mandatorily redeemable or include an obligation to repurchase and expands financial statement disclosure requirements. Such financial instruments will be measured at fair value with changes in fair value included in the determination of net income. FAS 150 was effective for financial instruments entered into or modified after May 31, 2003, and otherwise effective at the beginning of the first interim period beginning after June 15, 2003. In November 2003, the FASB issued FASB Staff Position 150-3 ("FSP 150-3"), which defers the classification and measurement provisions of FAS 150 indefinitely as they apply to mandatorily redeemable non-controlling interests associated with finite-lived entities. We have interests in six joint ventures that are consolidated and have minority interests that have finite lives and were considered mandatorily redeemable non-controlling interests prior to the issuance of FSP 150-3. As a result of the deferral provisions of FSP 150-3, these minority interests have not been reflected as liabilities. The carrying value of these minority interests at December 31, 2004 and 2003 is $12,356 and $12,368, respectively. The fair value of these minority interests at December 31, 2004 and 2003 is $18,437 and $13,815, respectively. We adopted FAS 150 in July 2003 and it did not have a significant impact on our consolidated financial statements. 3. Transactions with Related Parties: In connection with performing services on behalf of the Company, the Advisory Agreement between the Company and the Advisor provides that the Advisor receive asset management and performance fees, each of which are -1/2 of 1/% of Average Invested Assets as defined in the Advisory Agreement. The performance fee is subordinated to the Preferred Return, a cumulative rate of cash flow from operations of 7%. The Advisor has elected at its option to receive the performance fee in restricted shares of common stock of the Company rather than cash. Effective in 2005, the Advisory Agreement was amended to allow the Advisor to elect to receive restricted stock for any fee due from the Company. The Advisor is also reimbursed for the actual cost of personnel needed to provide administrative services necessary to the operation of the Company. The Company incurred asset management fees of $8,540, $7,550 and $5,514 in 2004, 2003 and 2002, respectively, with performance fees in like amount. The Company incurred personnel reimbursements of $2,856, $3,088 and $2,234 in 2004, 2003 and 2002, respectively. Asset management fees and personnel reimbursement costs are included in property expense and general and administrative expense, respectively, in the accompanying consolidated financial statements Fees are payable to the Advisor for services provided to the Company relating to the identification, evaluation, negotiation, financing and purchase of properties and refinancing of mortgages. A portion of such fees are deferred and payable in equal installments over no less than eight years following the first anniversary of the date a property was purchased. Such deferred fees are only payable if the Preferred Return has been met. The unpaid portion of the deferred fees bears interest at an annual rate of 6% from the date of acquisition of a property until paid. For transactions and refinancings that were completed in 2004, 2003 and 2002, current fees were $936, $2,166 and $8,489, respectively and deferred fees were $749, $1,733 and $6,773, respectively. The Advisor is obligated to reimburse the Company for the amount by which operating expenses of the Company exceed the 2%/25% Guidelines (the greater of 2% of Average Invested Assets or 25% of Net Income) as defined in the Advisory Agreement for any twelve-month period. If in any year the operating expenses of the Company exceed the 2%/25% Guidelines, the Advisor will have an obligation to reimburse the Company for such excess, subject to certain conditions. If the Independent -27- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED NOTES to CONSOLIDATED FINANCIAL STATEMENTS, Continued Amounts in thousands, except share and per share amounts Directors find that such excess expenses were justified based on any unusual and nonrecurring factors which they deem sufficient, the Advisor may be paid in future years for the full amount or any portion of such excess expenses, but only to the extent that such reimbursement would not cause the Company's operating expenses to exceed this limit in any such year. Charges related to asset impairment, bankruptcy of lessees, lease payment defaults, extinguishment of debt or uninsured losses are generally not considered unusual and nonrecurring. A determination that a charge is unusual and nonrecurring, such as the costs of significant litigation that are not associated with day-to day operations, or uninsured losses that are beyond the size or scope of the usual course of business based on the event history and experience of the Advisor and Independent Directors, is made at the sole discretion of the Independent Directors. The Company will record any reimbursement of operating expenses as a liability until any contingencies are resolved and will record the reimbursement as a reduction of asset management and performance fees at such time that a reimbursement is fixed, determinable and irrevocable. The operating expenses of the Company have not exceeded the amount that would require the Advisor to reimburse the Company. The Advisor will be entitled to receive subordinated disposition fees based upon the cumulative proceeds arising from the sale of Company assets since the inception of the Company, subject to certain conditions. Pursuant to the subordination provisions of the Advisory Agreement, the disposition fees may be paid only after the shareholders receive 100% of their initial investment from the proceeds of asset sales and a cumulative annual return of 6% (based on an initial share price of $10) since the inception of the Company. The Advisor's interest in such disposition fees amounts to $240 as of December 31, 2004 and 2003. Payment of such amount, however, cannot be made until the subordination provisions are met. The Company has concluded that payment of such disposition fees is probable and all fees from completed property sales have been accrued. Subordinated disposition fees are included in the determination of realized gain or loss on the sale of properties. The obligation for disposition fees is included in due to affiliates in the accompanying consolidated financial statements. The Company owns interests in entities which range from 11.54% to 90% and a jointly-controlled 50% tenancy-in-common interest in two properties subject to a net lease with the remaining interests held by affiliates. The Company is a participant in an agreement with certain affiliates for the purpose of leasing office space used for the administration of real estate entities and for sharing the associated costs. Pursuant to the terms of the agreement, the Company's share of rental, occupancy and leasehold improvement costs is based on the relative gross revenues of the affiliates. Expenses incurred in 2004, 2003 and 2002 were $500, $470 and $376, respectively. The Company's current share of future minimum lease payments is $7,617 through 2016. As previously reported by the Advisor, the Advisor and Carey Financial Corporation ("Carey Financial"), the wholly-owned broker-dealer subsidiary of the Advisor, are currently subject to an investigation by the United States Securities and Exchange Commission ("SEC") into payments made to third party broker dealers in connection with the distribution of REITs managed by the Advisor and other matters. Although no regulatory action has been initiated against the Advisor or Carey Financial in connection with the matters being investigated, it is possible that the SEC may pursue an action in the future. The potential timing of any such action and the nature of the relief or remedies the SEC may seek cannot be predicted at this time. If such an action is brought, it could materially affect the Advisor and the REITs managed by the Advisor, including the Company. 4. Real Estate Leased to Others Accounted for Under the Operating Method: Scheduled future minimum rents, exclusive of renewals and expenses paid by tenants, under non-cancelable operating leases amount are approximately as follows: Year Ending December 31, 2005 $ 103,897 2006 104,457 2007 105,889 2008 105,413 2009 105,061 Thereafter through 2023 928,146
Contingent rentals (including CPI-based increases) were approximately $3,649 in 2004, $1,405 in 2003 and $532 in 2002. 5. Net Investment in Direct Financing Leases: Net investment in direct financing leases is summarized as follows:
December 31, ------------ 2004 2003 ---- ---- Minimum lease payments receivable $ 233,681 $ 246,161 Unguaranteed residual value 112,688 111,645 --------- --------- 346,369 357,806 Less: unearned income (230,026) (242,899) --------- --------- $ 116,343 $ 114,907 ========= =========
-28- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED NOTES to CONSOLIDATED FINANCIAL STATEMENTS, Continued Amounts in thousands, except share and per share amounts Scheduled future minimum rents, exclusive of renewals and expenses paid by tenants, under non-cancelable direct financing leases are approximately as follows: Year Ending December 31, 2005 $ 12,545 2006 12,636 2007 12,724 2008 12,724 2009 12,724 Thereafter through 2031 170,328
Contingent rents (including CPI-based increases) were approximately $289 in 2004, $108 in 2003 and $63 in 2002. 6. Equity Investments: The Company owns interests in single-tenant net leased properties leased to corporations through noncontrolling interests (i) in various partnerships and limited liability companies in which its ownership interests are 50% or less and the Company exercises significant influence, and (ii) as tenants-in-common subject to joint control. The ownership interests range from 11.54% to 50%. All of the underlying investments are owned with affiliates that have similar investment objectives as the Company. The lessees are Advanced Micro Devices, Inc., Compucom Systems, Inc., Textron, Inc., CheckFree Holdings, Inc., Special Devices, Inc., Applied Materials, Inc., True Value Company, Clear Channel Communications, Inc., Starmark Camhood, LLC, U-Haul Moving Partners, Inc. ("U-Haul") and Mercury Partners, LP ("Mercury"). The interests in the properties leased to U-Haul and Mercury were acquired in April 2004 and are described below. Summarized combined financial information of the Company's equity investees is as follows:
December 31, ------------ 2004 2003 ---- ---- Assets (primarily real estate) $1,122,692 $781,144 Liabilities (primarily mortgage notes payable) 682,377 471,052 ---------- -------- Partners' and Members' equity $ 440,315 $310,092 ========== ======== Company's share of equity investees' net assets $ 134,905 $120,388 ========== ========
Year Ended December 31, ----------------------- 2004 2003 2002 ---- ---- ---- Revenues (primarily rental income and interest income from direct financing leases) $ 105,488 $ 80,329 $ 34,521 Expenses (primarily interest on mortgage and depreciation) (64,085) (46,429) (20,352) --------- -------- -------- Net income $ 41,403 $ 33,900 $ 14,169 ========= ======== ======== Company's share of net income from equity investments $ 14,304 $ 12,992 $ 5,320 ========= ======== ========
On April 29, 2004, the Company, along with two affiliates, Corporate Property Associates 15 Incorporated and Corporate Property Associates 16 - Global Incorporated, through a limited partnership in which the Company owns an 11.54% interest through a subsidiary, purchased 78 retail self-storage and truck rental facilities and entered into master lease agreements with two lessees that operate the facilities under the U-Haul brand name. The self-storage facilities are leased to Mercury, and the truck rental facilities are leased to U-Haul. The total cost was $312,445. In connection with the purchase, the limited partnership obtained $183,000 of limited recourse mortgage financing collateralized by the properties and lease assignments. The Mercury lease has an initial term of 20 years with two 10-year renewal options and provides for annual rent of $18,551. The Mercury lease is guaranteed by Mercury 99, LLC, an entity that owns a 99% ownership interest in Mercury. The U-Haul lease has an initial term of 10 years with two 10-year renewal options and provides for annual rent of $9,990. In the event of default, termination or expiration of the U-Haul lease, Mercury 99, LLC will automatically assume the obligations of the U-Haul lease and Mercury 99, LLC will continue to lease the self-storage facilities and shall lease the truck rental facilities -29- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED NOTES to CONSOLIDATED FINANCIAL STATEMENTS, Continued Amounts in thousands, except share and per share amounts pursuant to the terms (with extension) of the U-Haul lease. Upon Mercury 99, LLC's assumption, the term of the U-Haul lease shall be deemed extended so as to automatically become co-terminus for the term of the Mercury 99, LLC lease. Each lease provides for rent increases every five years based on a formula indexed to the CPI. The loan provides for monthly payments of principal and interest of $1,230 at a fixed annual interest rate of 6.449% and based on a 25-year amortization schedule. The loan matures on May 1, 2014. 7. Mortgage Financing Through Loan Securitization: In 2002, the Company and three affiliates, W.P. Carey & Co. LLC ("W. P. Carey"), Carey Institutional Properties Incorporated ("CIP(R)") and Corporate Property Associates 12 Incorporated ("CPA(R):12") obtained an aggregate of approximately $172,335 of limited recourse mortgage financing collateralized by 62 leased properties. The lender pooled the loans into a trust, Carey Commercial Mortgage Trust, a non-affiliate, whose assets consist solely of the loans, and sold the interests in the trust as collateralized mortgage obligations in a private placement to institutional investors (the "Offered Interests"). The Company and the three affiliates acquired a separate class of subordinated interests in the trust (the "CPA(R) Interests"). The amount of CPA(R) Interests acquired by the Company was proportional to the mortgage amounts obtained. All of the mortgage loans provide for payments of principal and interest at an annual rate of 7.5% and are based on a 25-year amortization schedule. Each loan is collateralized by mortgages on the properties and lease assignments. Under the lease assignments, the lessees direct their rent payment to the mortgage servicing company which in turn distributes amounts in excess of debt service requirements to the applicable lessors. Under certain limited conditions, a property may be released from its mortgage by the substitution of another property. Such substitution is subject to the approval of the trustee of the trust. The initial Offered Interests consisted of $148,206 of mortgage loan balances with different tranches of principal entitled to distributions at annual interest rates as follows: $119,772 - 5.97%, $9,478 - 6.58%, $9,478 - 7.18% and $9,478 - 8.43%. The assumed final distribution dates for the four classes of Offered Interests range from December 2011 through March 2012. The CPA(R) Interests were purchased for $24,129 of which the Company's share was $6,032, or 25%, and are comprised of two components, a component that will receive payments of principal and interest and a component that will receive payments of interest only. The CPA(R) Interests are subordinated to the Offered Interests and will be payable only when and if all distributions to the Offered Interests are current. The assumed final distribution date for the CPA(R) Interests is June 30, 2012. The distributions to be paid to the CPA(R) Interests do not have a stated rate of interest and will be affected by any shortfall in rents received from the lessees or defaults at the mortgaged properties. As of the purchase date, the Company's cost basis attributable to the principal and interest and interest only components was $3,612 and $2,420, respectively. Over the term of its ownership interest in the CPA(R) Interests, the value of the interest only component will fully amortize and the principal and interest component will amortize to its anticipated face value of its share in the underlying mortgages. For financial reporting purposes, the effect of such amortization is reflected in interest income. Interest income, including all related amortization, is recognized using an effective interest method. The Company is accounting for its interest in the CPA(R) Interests as an available-for-sale security and it is measured at fair value with all gains and losses from changes in fair value reported as a component of other comprehensive income as part of shareholders' equity. The fair value of the Company's CPA(R) Interests was $6,904 and $6,792, reflecting an unrealized gain of $1,115 and $898 and accumulated amortization of $243 and $138 at December 31, 2004 and 2003, respectively. The fair value of the interests in the trust is determined using a discounted cash flow model with assumptions of market rates and the credit quality of the underlying lessees. The key variable in determining the fair value of the CPA(R) Interests is current interest rates. As required by SFAS No. 140, "Accounting for Transfer and Servicing of Financial Assets and Extinguishments of Liabilities," a sensitivity analysis of the current value of the CPA(R) Interests based on adverse changes in the market interest rates of 1% and 2% as of December 31, 2004 is as follows:
Actual 1% Adverse Change 2% Adverse Change ------ ----------------- ----------------- Fair value of CPA(R) Interests $6,904 $6,584 $6,284
-30- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED NOTES to CONSOLIDATED FINANCIAL STATEMENTS, Continued Amounts in thousands, except share and per share amounts The above sensitivity is hypothetical and changes in fair value, based on a 1% or 2% variation, should not be extrapolated because the relationship of the change in assumption to the change in fair value may not always be linear. 8. Mortgage Notes Payable: Mortgage notes payable, all of which are limited recourse to the Company, are collateralized by an assignment of various leases and by real property with a carrying value of $1,064,118. As of December 31, 2004, mortgage notes payable had fixed annual interest rates ranging from 5.15% to 8.85% and variable annual interest rates ranging from 3.55% to 6.27% and maturity dates ranging from 2008 to 2026. Scheduled principal payments during each of the five years following December 31, 2004 and thereafter are as follows:
Year Ending December 31, Total Debt Fixed Rate Debt Variable Rate Debt ------------------------ ---------- --------------- ------------------ 2005 $ 12,185 $ 11,915 $ 270 2006 13,167 12,915 252 2007 14,152 13,892 260 2008 20,353 20,086 267 2009 63,394 63,116 278 Thereafter through 2026 580,120 553,436 26,684 -------- -------- ------- Total $703,371 $675,360 $28,011 ======== ======== =======
The Company has an interest rate swap agreement on a variable rate limited recourse mortgage obligation collateralized by a property in Midlothian, Virginia leased to Consolidated Theaters Holding, G.P. The interest rate swap agreement has a notional amount of $8,883 as of December 31, 2004. The fair value of the instrument was $(655) at December 31, 2004. Changes in the fair value of the instrument are included in the determination of net income. For the year ended December 31, 2004, the Company recognized an unrealized loss of $655. 9. Dividends: Dividends paid to shareholders consist of ordinary income, capital gains, return of capital or a combination thereof for income tax purposes. For the three years ended December 31, 2004, dividends per share reported for tax purposes were as follows:
2004 2003 2002 ---- ---- ---- Ordinary income $ .57 $ .57 $.36 Return of capital .19 .19 .38 Capital gains - - .01 ----- ----- ---- $ .76 $ .76 $.75 ===== ===== ====
A dividend of $.19020 per share for the quarter ended December 31, 2004 was declared in December 2004 and paid in January 2005. 10. Impairment Charges: 2003 - The Company owns a property in Gardena, California leased to Scott Companies Inc. Scott had rent arrearages of $474 as of December 31, 2003 and as a result of its financial difficulties has defaulted on its lease. The Company has written down the property to its estimated fair value and recognized an impairment charge of $2,900. In September 2004, the Company entered into a lease with Moonlight Molds for the Gardena property. The lease has an initial term through November 2009. In connection with the Company's annual review of the estimated residual values on its properties classified as net investments in direct financing leases, the Company determined that an other than temporary decline in estimated residual value had occurred at its property in Mooresville, North Carolina leased to UTI Holdings, Inc., and the accounting for the direct financing lease was revised using the changed estimates. The resulting change in estimate resulted in the recognition of an impairment charge of $203. -31- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED NOTES to CONSOLIDATED FINANCIAL STATEMENTS, Continued Amounts in thousands, except share and per share amounts 11. Discontinued Operations: In accordance with FAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets", the results of operations and gain or loss on sales of real estate for properties sold or held for sale are reflected in the consolidated statements of operations as "Discontinued Operations" for all periods presented. As of December 31, 2004, the operations of a property in Valencia, California, which was sold in February 2005 at a gain of approximately $195, were included as "Discontinued Operations." At December 31, 2002, the operations from a property in Greenville, Texas, which was sold in June 2002 at a gain of $333, were also included as "Discontinued Operations." A summary of Discontinued Operations for the years ended December 31, 2004, 2003 and 2002 is as follows.
Year Ended December 31, ----------------------- 2004 2003 2002 ---- ---- ----- Revenues (primarily rental revenues) $ 423 $ 423 $ 571 Expenses (primarily interest on mortgages, depreciation and property expenses) (238) (244) (213) Gain on sale of real estate - - 333 ----- ----- ----- Income from discontinued operations $ 185 $ 179 $ 691 ===== ===== =====
12. Disclosures About Fair Value of Financial Instruments: The Company's mortgage notes payable had a carrying value of $703,371 and $702,175 and a fair value of $718,347 and $706,040 at December 31, 2004 and 2003, respectively. The Company's marketable securities, including its interest in Carey Commercial Mortgage Trust, had a carrying value of $12,789 and $21,844 and a fair value of $13,904 and $22,742 at December 31, 2004 and 2003, respectively. The fair value of debt instruments was evaluated using a discounted cash flow model with rates that take into account the credit of the tenants and interest rate risk. The fair value of the Company's other assets and liabilities at December 31, 2004 and 2003 approximated their carrying value. 13. Segment Information: The Company has determined that it operates in one business segment, real estate operations with domestic and foreign investments. For 2004, geographic information for the real estate operations segment is as follows:
Domestic Foreign (1) Total Company -------- -------- ------------- Revenues $ 107,762 $ 22,475 $ 130,237 Operating expenses (45,484) (6,656) (52,140) Income from equity investments 14,304 -- 14,304 Interest expense, net (43,441) (9,119) (52,560) Other, net (2) (1,147) 61 (1,086) ----------- --------- ----------- Income from continuing operations $ 31,994 $ 6,761 $ 38,755 =========== ========= =========== Total assets $ 1,130,852 $ 215,503 $ 1,346,355 Total long-lived assets 1,048,775 202,334 1,251,109
For 2003, geographic information for the real estate operations segment is as follows:
Domestic Foreign (1) Total Company -------- -------- ------------- Revenues (3) $ 107,630 $ 19,794 $ 127,424 Operating expenses (3) (48,951) (6,270) (55,221) Income from equity investments 12,992 -- 12,992 Interest expense, net (42,802) (8,283) (51,085) Other, net (2) (469) -- (469) ----------- --------- ----------- Income from continuing operations $ 28,400 $ 5,241 $ 33,641 =========== ========= =========== Total assets $ 1,143,581 $ 202,166 $ 1,345,747 Total long-lived assets 1,055,321 190,412 1,245,733
-32- CORPORATE PROPERTY ASSOCIATES 14 INCORPORATED NOTES to CONSOLIDATED FINANCIAL STATEMENTS, Continued Amounts in thousands, except share and per share amounts For 2002, geographic information for the real estate operations segment is as follows:
Domestic Foreign (1) Total Company -------- -------- ------------- Revenues (3) $ 98,541 $ 11,598 $ 110,139 Expenses (3) (38,668) (2,929) (41,597) Income from equity investments 5,320 -- 5,320 Interest expense, net (37,439) (5,479) (42,918) Other, net (2) (1,369) -- (1,369) ----------- --------- ----------- Income from continuing operations $ 26,385 $ 3,190 $ 29,575 =========== ========= =========== Total assets $ 1,151,723 $ 168,174 $ 1,319,897 Total long-lived assets 1,043,682 155,248 1,198,930
(1) Consists of operations in the United Kingdom, France, Finland and The Netherlands. (2) Consists of minority interest, (losses) gains on derivative instruments and gains on foreign currency transactions. (3) Amounts have been reclassified to conform to the current year presentation of excluding interest income and interest expense from the revenues and expenses line items above, respectively. 14. Selected Quarterly Financial Data (unaudited):
Three Months Ended ------------------ March 31, 2004 June 30, 2004 September 30, 2004 December 31, 2004 -------------- ------------- ------------------ ----------------- Revenues $31,752 $32,354 $33,568 $32,563 Operating expenses 12,503 13,186 13,902 12,549 Net income 8,989 8,905 9,903 11,143 Earnings per share - basic .13 .13 .15 .17 Dividends declared per share .1894 .1897 .1899 .1902
Three Months Ended ------------------ March 31, 2003 June 30, 2003 September 30, 2003 December 31, 2003 -------------- ------------- ------------------ ----------------- Revenues (1) $32,334 $30,399 $33,133 $31,558 Operating expenses (1) 12,332 12,047 17,837 13,005 Net income 10,604 8,666 6,124 8,426 Earnings per share - basic .16 .13 .09 .13 Dividends declared per share .1884 .1887 .1889 .1892
(1) Amounts have been reclassified to conform to the current year presentation of excluding interest income and interest expense from the revenues and expenses line items above, respectively. -33- MARKET FOR THE COMPANY'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS There is no established public trading market for the Shares of the Company. As of December 31, 2004, there were 21,075 holders of record of the Shares of the Company. DIVIDENDS The Company is required to distribute annually at least 90% of its Distributable REIT Taxable Income to maintain its status as a REIT. Quarterly dividends declared by the Company for the past two years are as follows:
Cash Dividends Declared Per Share --------------------------------- 2004 2003 ---- ---- First quarter $.1894 $.1884 Second quarter .1897 .1887 Third quarter .1899 .1889 Fourth quarter .1902 .1892 ------ ------ $.7592 $.7552 ====== ======
UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS For the three-month period ended December 31, 2004, 189,998 shares were issued to the Advisor as consideration for performance fees. Shares were issued at a per share amount of $11.30. The Company previously reported other sales of unregistered shares during 2004 in our quarterly reports on Form 10-Q. ISSUER PURCHASES OF EQUITY SECURITIES
Total Number of Shares Purchased as Part of Total Number of Average Price Publicly Announced Period Shares Purchased Paid Per Share Plans or Programs (1) ------ ---------------- -------------- --------------------- October 1, 2004 - October 31, 2004 21,752 $10.06 N/A November 1, 2004 - November 30, 2004 3,400 10.17 N/A December 1, 2004 - December 31, 2004 3,000 10.06 N/A --------- Total 28,152 ==========
(1) All shares were purchased pursuant to the Company's redemption plan. The maximum amount of shares purchasable in any period depends on the availability of funds generated by the Distribution Reinvestment and Share Purchase Plan and other factors at the discretion of the Company's board of directors. REPORT ON FORM 10-K The Advisor will supply to any shareholder, upon written request and without charge, a copy of the Annual Report on Form 10-K ("10-K") for the year ended December 31, 2004 as filed with the Securities and Exchange Commission ("SEC"). The 10-K may also be obtained through the SEC's EDGAR database at www.sec.gov. -34-