Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 


 

FORM 10-Q

 

(Mark One)

 

x

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

 

 

For the quarterly period ended September 30, 2009

 

 

 

Or

 

 

o

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

 

 

For the transition period from                  to                 .

 

Commission File Number: 001-32269

 

EXTRA SPACE STORAGE INC.

(Exact name of registrant as specified in its charter)

 

Maryland

 

20-1076777

(State or other jurisdiction of incorporation or organization)

 

(I.R.S. Employer Identification No.)

 

2795 East Cottonwood Parkway, Suite 400

Salt Lake City, Utah 84121

(Address of principal executive offices)

 

Registrant’s telephone number, including area code:  (801) 562-5556

 

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

 

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

 

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

 

Large accelerated filer x

Accelerated filer o

Non-accelerated filer o

Smaller reporting company o

(Do not check if a smaller reporting company)

 

 

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

 

The number of shares outstanding of the registrant’s common stock, par value $0.01 per share, as of October 30, 2009 was 86,432,213.

 

 

 

 



Table of Contents

 

EXTRA SPACE STORAGE INC.

 

TABLE OF CONTENTS

 

STATEMENT ON FORWARD-LOOKING INFORMATION

 

3

 

 

 

PART I. FINANCIAL INFORMATION

 

4

 

 

 

ITEM 1. FINANCIAL STATEMENTS

 

4

 

 

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

8

 

 

 

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

31

 

 

 

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

42

 

 

 

ITEM 4. CONTROLS AND PROCEDURES

 

43

 

 

 

PART II. OTHER INFORMATION

 

43

 

 

 

ITEM 1. LEGAL PROCEEDINGS

 

43

 

 

 

ITEM 1A. RISK FACTORS

 

43

 

 

 

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

 

43

 

 

 

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

 

44

 

 

 

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

 

44

 

 

 

ITEM 5. OTHER INFORMATION

 

44

 

 

 

ITEM 6. EXHIBITS

 

44

 

 

 

SIGNATURES

 

45

 

2



Table of Contents

 

STATEMENT ON FORWARD-LOOKING INFORMATION

 

Certain information set forth in this report contains “forward-looking statements” within the meaning of the federal securities laws. Forward-looking statements include statements concerning our plans, objectives, goals, strategies, future events, future revenues or performance, capital expenditures, financing needs, plans or intentions relating to acquisitions and other information that is not historical information. In some cases, forward-looking statements can be identified by terminology such as “believes,” “expects,” “estimates,” “may,” “will,” “should,” “anticipates,” or “intends” or the negative of such terms or other comparable terminology, or by discussions of strategy. We may also make additional forward-looking statements from time to time. All such subsequent forward-looking statements, whether written or oral, by us or on our behalf, are also expressly qualified by these cautionary statements.

 

All forward-looking statements, including without limitation, management’s examination of historical operating trends and estimate of future earnings, are based upon our current expectations and various assumptions. Our expectations, beliefs and projections are expressed in good faith and we believe there is a reasonable basis for them, but there can be no assurance that management’s expectations, beliefs and projections will result or be achieved. All forward-looking statements apply only as of the date made. We undertake no obligation to publicly update or revise forward-looking statements which may be made to reflect events or circumstances after the date made or to reflect the occurrence of unanticipated events.

 

There are a number of risks and uncertainties that could cause our actual results to differ materially from the forward-looking statements contained in or contemplated by this report. Any forward-looking statements should be considered in light of the risks referenced in “Part II. Item 1A. Risk Factors” below and in “Part I. Item 1A. Risk Factors” included in our most recent Annual Report on Form 10-K. Such factors include, but are not limited to:

 

·                  changes in general economic conditions and in the markets in which we operate;

 

·                  the effect of competition from new self-storage facilities or other storage alternatives, which could cause rents and occupancy rates to decline;

 

·                  potential liability for uninsured losses and environmental contamination;

 

·                  difficulties in our ability to evaluate, finance and integrate acquired and developed properties into our existing operations and to lease up those properties, which could adversely affect our profitability;

 

·                  the impact of the regulatory environment as well as national, state, and local laws and regulations including, without limitation, those governing real estate investment trusts, or REITs, which could increase our expenses and reduce our cash available for distribution;

 

·                  the possibility that the joint venture transaction with Harrison Street Real Estate Capital, LLC may not close on the terms previously disclosed or at all, or that the expected benefits from the transaction may not be realized;

 

·                  recent disruptions in credit and financial markets and resulting difficulties in raising capital at reasonable rates, which could impede our ability to grow;

 

·                  delays in the development and construction process, which could adversely affect our profitability;

 

·                  economic uncertainty due to the impact of war or terrorism, which could adversely affect our business plan; and

 

·                  our ability to attract and retain qualified personnel and management members.

 

3



Table of Contents

 

PART I. FINANCIAL INFORMATION

 

ITEM 1. FINANCIAL STATEMENTS

 

Extra Space Storage Inc.

Condensed Consolidated Balance Sheets

(in thousands, except share data)

 

 

 

September 30, 2009

 

December 31, 2008

 

 

 

(unaudited)

 

(As revised-see Note 2)

 

Assets:

 

 

 

 

 

Real estate assets:

 

 

 

 

 

Net operating real estate assets

 

$

1,989,675

 

$

1,938,922

 

Real estate under development

 

52,942

 

58,734

 

Net real estate assets

 

2,042,617

 

1,997,656

 

 

 

 

 

 

 

Investments in real estate ventures

 

132,356

 

136,791

 

Cash and cash equivalents

 

100,992

 

63,972

 

Restricted cash

 

42,083

 

38,678

 

Receivables from related parties and affiliated real estate joint ventures

 

3,377

 

11,335

 

Other assets, net

 

47,725

 

42,576

 

Total assets

 

$

2,369,150

 

$

2,291,008

 

 

 

 

 

 

 

Liabilities, Noncontrolling Interests and Equity:

 

 

 

 

 

Notes payable

 

$

1,044,446

 

$

943,598

 

Notes payable to trusts

 

119,590

 

119,590

 

Exchangeable senior notes

 

95,163

 

209,663

 

Discount on exchangeable senior notes

 

(4,639

)

(13,031

)

Lines of credit

 

100,000

 

27,000

 

Accounts payable and accrued expenses

 

40,636

 

35,128

 

Other liabilities

 

25,219

 

22,267

 

Total liabilities

 

1,420,415

 

1,344,215

 

 

 

 

 

 

 

Commitments and contingencies

 

 

 

 

 

 

 

 

 

 

 

Equity:

 

 

 

 

 

Extra Space Storage Inc. stockholders’ equity:

 

 

 

 

 

Preferred stock, $0.01 par value, 50,000,000 shares authorized, no shares issued or outstanding

 

 

 

Common stock, $0.01 par value, 300,000,000 shares authorized, 86,435,938 and 85,790,331 shares issued and outstanding at September 30, 2009 and December 31, 2008, respectively

 

864

 

858

 

Paid-in capital

 

1,132,865

 

1,130,964

 

Accumulated other comprehensive deficit

 

(1,584

)

 

Accumulated deficit

 

(248,533

)

(253,052

)

Total Extra Space Storage Inc. stockholders’ equity

 

883,612

 

878,770

 

Noncontrolling interest represented by Preferred Operating Partnership units, net of $100,000 note receivable

 

29,941

 

29,837

 

Noncontrolling interest in Operating Partnership

 

34,153

 

36,628

 

Other noncontrolling interests

 

1,029

 

1,558

 

Total noncontrolling interests and equity

 

948,735

 

946,793

 

Total liabilities, noncontrolling interests and equity

 

$

2,369,150

 

$

2,291,008

 

 

See accompanying notes to unaudited condensed consolidated financial statements.

 

4



Table of Contents

 

Extra Space Storage Inc.

Condensed Consolidated Statements of Operations

(in thousands, except share data)

(unaudited)

 

 

 

Three months ended September 30,

 

Nine months ended September 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

 

 

 

 

(As revised-see Note 2)

 

 

 

(As revised-see Note 2)

 

Revenues:

 

 

 

 

 

 

 

 

 

Property rental

 

$

60,380

 

$

59,997

 

$

178,494

 

$

174,906

 

Management and franchise fees

 

5,191

 

5,417

 

15,685

 

15,837

 

Tenant reinsurance

 

5,542

 

4,265

 

15,246

 

11,723

 

Other income

 

191

 

169

 

201

 

425

 

Total revenues

 

71,304

 

69,848

 

209,626

 

202,891

 

 

 

 

 

 

 

 

 

 

 

Expenses:

 

 

 

 

 

 

 

 

 

Property operations

 

23,022

 

21,367

 

67,456

 

62,871

 

Tenant reinsurance

 

1,264

 

1,426

 

3,996

 

3,958

 

Unrecovered development and acquisition costs

 

22

 

39

 

18,905

 

1,631

 

Severance costs associated with wind-down of development program

 

 

 

1,400

 

 

General and administrative

 

9,982

 

10,316

 

31,195

 

30,378

 

Depreciation and amortization

 

13,797

 

12,355

 

39,160

 

35,633

 

Total expenses

 

48,087

 

45,503

 

162,112

 

134,471

 

 

 

 

 

 

 

 

 

 

 

Income before interest, equity in earnings of real estate ventures, gain on repurchase of exchangeable senior notes, loss on sale of investments available for sale and income tax expense

 

23,217

 

24,345

 

47,514

 

68,420

 

 

 

 

 

 

 

 

 

 

 

Interest expense

 

(17,697

)

(15,904

)

(49,308

)

(48,220

)

Non-cash interest expense related to amortization of discount on exchangeable senior notes

 

(430

)

(1,059

)

(1,834

)

(3,147

)

Interest income

 

245

 

1,280

 

1,098

 

2,575

 

Interest income on note receivable from Preferred Operating Partnership unit holder

 

1,213

 

1,213

 

3,638

 

3,638

 

Equity in earnings of real estate ventures

 

1,752

 

2,015

 

5,288

 

4,610

 

Gain on repurchase of exchangeable senior notes

 

 

 

27,576

 

 

Loss on sale of investments available for sale

 

 

 

 

(1,415

)

Income tax expense

 

(726

)

(3

)

(2,317

)

(190

)

Net income

 

7,574

 

11,887

 

31,655

 

26,271

 

 

 

 

 

 

 

 

 

 

 

Net income allocated to Preferred Operating Partnership noncontrolling interests

 

(1,506

)

(1,570

)

(4,681

)

(4,627

)

Net income allocated to Operating Partnership and other noncontrolling interests

 

(101

)

(401

)

(929

)

(896

)

Net income attributable to common stockholders

 

$

5,967

 

$

9,916

 

$

26,045

 

$

20,748

 

 

 

 

 

 

 

 

 

 

 

Net income per common share

 

 

 

 

 

 

 

 

 

Basic

 

$

0.07

 

$

0.13

 

$

0.30

 

$

0.28

 

Diluted

 

$

0.07

 

$

0.13

 

$

0.30

 

$

0.28

 

 

 

 

 

 

 

 

 

 

 

Weighted average number of shares

 

 

 

 

 

 

 

 

 

Basic

 

86,437,877

 

82,184,631

 

86,260,442

 

74,116,345

 

Diluted

 

91,548,984

 

87,710,663

 

91,321,503

 

79,673,881

 

 

 

 

 

 

 

 

 

 

 

Cash dividends paid per common share

 

$

 

$

0.25

 

$

0.25

 

$

0.75

 

 

See accompanying notes to unaudited condensed consolidated financial statements.

 

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Table of Contents

 

Extra Space Storage Inc.

Condensed Consolidated Statement of Equity

(in thousands, except share data)

(unaudited)

 

 

 

Noncontrolling Interests

 

Extra Space Storage Inc. Stockholders’ Equity

 

 

 

Preferred
Operating
Partnership

 

Operating
Partnership

 

Other

 

Shares

 

Par Value

 

Paid-in
Capital

 

Accumulated
Other
Comprehensive
Deficit

 

Accumulated
Deficit

 

Total
Equity

 

Balances at December 31, 2008 (as revised -
See Note 2)

 

$

29,837

 

$

36,628

 

$

1,558

 

85,790,331

 

$

858

 

$

1,130,964

 

$

 

$

(253,052

)

$

946,793

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Restricted stock grants issued

 

 

 

 

545,365

 

5

 

 

 

 

5

 

Restricted stock grants cancelled

 

 

 

 

(14,686

)

 

 

 

 

 

Compensation expense related to stock-based awards

 

 

 

 

 

 

2,952

 

 

 

2,952

 

Noncontrolling interest consolidated as business acquisition

 

 

 

726

 

 

 

 

 

 

726

 

Investments from other noncontrolling interests

 

 

 

(615

)

 

 

 

 

 

(615

)

Repurchase of equity portion of exchangeable senior notes

 

 

 

 

 

 

(2,053

)

 

 

(2,053

)

Conversion of Operating Partnership units to common stock

 

 

(1,003

)

 

114,928

 

1

 

1,002

 

 

 

 

Conversion of Operating Partnership units to cash

 

 

(1,908

)

 

 

 

 

 

 

(1,908

)

Comprehensive income:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income (loss)

 

4,681

 

1,569

 

(640

)

 

 

 

 

26,045

 

31,655

 

Change in fair value of interest rate swap

 

(17

)

(67

)

 

 

 

 

(1,584

)

 

(1,668

)

Total comprehensive income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

29,987

 

Distributions to Operating Partnership units held by noncontrolling interests

 

(4,560

)

(1,066

)

 

 

 

 

 

 

(5,626

)

Dividends paid on common stock at $0.25 per share

 

 

 

 

 

 

 

 

(21,526

)

(21,526

)

Balances at September 30, 2009

 

$

29,941

 

$

34,153

 

$

1,029

 

86,435,938

 

$

864

 

$

1,132,865

 

$

(1,584

)

$

(248,533

)

$

948,735

 

 

See accompanying notes to unaudited condensed consolidated financial statements.

 

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Table of Contents

 

Extra Space Storage Inc.
Condensed Consolidated Statements of Cash Flows
(in thousands)
(unaudited)

 

 

 

Nine months ended September 30,

 

 

 

2009

 

2008

 

 

 

 

 

(As revised-see Note 2)

 

Cash flows from operating activities:

 

 

 

 

 

Net income

 

$

31,655

 

$

26,271

 

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

 

 

 

 

 

Depreciation and amortization

 

39,160

 

35,633

 

Amortization of deferred financing costs

 

2,978

 

2,640

 

Non-cash interest expense related to amortization of discount on exchangeable senior notes

 

1,834

 

3,147

 

Gain on repurchase of exchangeable senior notes

 

(27,576

)

 

Compensation expense related to stock-based awards

 

2,952

 

2,804

 

Loss on investments available for sale

 

 

1,415

 

Unrecovered development and acquisition costs

 

18,905

 

1,631

 

Severance costs associated with wind-down of development program

 

1,400

 

 

Distributions from real estate ventures in excess of earnings

 

4,665

 

4,001

 

Changes in operating assets and liabilities:

 

 

 

 

 

Receivables from related parties and affiliated real estate joint ventures

 

(10,610

)

(4,475

)

Other assets

 

(3,934

)

(3,062

)

Accounts payable and accrued expenses

 

4,176

 

5,138

 

Other liabilities

 

487

 

883

 

Net cash provided by operating activities

 

66,092

 

76,026

 

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

Acquisition of real estate assets

 

(27,378

)

(55,602

)

Development and construction of real estate assets

 

(57,905

)

(43,757

)

Proceeds from sale of real estate assets

 

4,652

 

340

 

Investments in real estate ventures

 

(2,535

)

(48,941

)

Return of investment in real estate ventures

 

 

764

 

Net proceeds from sale of investments available for sale

 

 

21,812

 

Change in restricted cash

 

(3,395

)

(3,816

)

Purchase of equipment and fixtures

 

(799

)

(1,368

)

Net cash used in investing activities

 

(87,360

)

(130,568

)

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

Repurchase of exchangeable senior notes

 

(80,853

)

 

Proceeds from notes payable and lines of credit

 

382,879

 

4,063

 

Principal payments on notes payable and lines of credit

 

(207,981

)

(24,097

)

Deferred financing costs

 

(6,697

)

(740

)

Investments from noncontrolling interests

 

 

1,174

 

Redemption of Operating Partnership units held by noncontrolling interest

 

(1,908

)

 

Proceeds from issuance of common shares, net

 

 

232,718

 

Net proceeds from exercise of stock options

 

 

1,917

 

Dividends paid on common stock

 

(21,526

)

(57,672

)

Distributions to noncontrolling interests in Operating Partnership

 

(5,626

)

(8,122

)

Net cash provided by financing activities

 

58,288

 

149,241

 

Net increase in cash and cash equivalents

 

37,020

 

94,699

 

Cash and cash equivalents, beginning of the period

 

63,972

 

17,377

 

Cash and cash equivalents, end of the period

 

$

100,992

 

$

112,076

 

 

 

 

 

 

 

Supplemental schedule of cash flow information

 

 

 

 

 

Interest paid, net of amounts capitalized

 

$

46,006

 

$

42,158

 

 

 

 

 

 

 

Supplemental schedule of noncash investing and financing activities:

 

 

 

 

 

Conversion of Operating Partnership Units held by noncontrolling interests for common stock

 

$

1,003

 

$

 

 

See accompanying notes to unaudited condensed consolidated financial statements.

 

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Table of Contents

 

Extra Space Storage Inc.
Notes to Condensed Consolidated Financial Statements (unaudited)

Amounts in thousands, except property and share data

 

1.              ORGANIZATION

 

Extra Space Storage Inc. (the “Company”) is a self-administered and self-managed real estate investment trust (“REIT”), formed as a Maryland corporation on April 30, 2004 to own, operate, manage, acquire, develop and redevelop professionally managed self-storage facilities located throughout the United States. The Company continues the business of Extra Space Storage LLC and its subsidiaries, which had engaged in the self-storage business since 1977. The Company’s interest in its properties is held through its operating partnership, Extra Space Storage LP (the “Operating Partnership”), which was formed on May 5, 2004. The Company’s primary assets are general partner and limited partner interests in the Operating Partnership. This structure is commonly referred to as an umbrella partnership REIT, or UPREIT. The Company has elected to be taxed as a REIT under the Internal Revenue Code of 1986, as amended (the “Internal Revenue Code”). To the extent the Company continues to qualify as a REIT, it will not be subject to tax, with certain limited exceptions, on the taxable income that is distributed to its stockholders.

 

The Company invests in self-storage facilities by acquiring or developing wholly-owned facilities or by acquiring an equity interest in real estate entities.  At September 30, 2009, the Company had direct and indirect equity interests in 635 operating storage facilities located in 33 states and Washington, D.C.  In addition, the Company managed 114 properties for franchisees and third parties, bringing the total number of operating properties which it owns and/or manages to 749.

 

The Company operates in three distinct segments: (1) property management, acquisition and development; (2) rental operations; and (3) tenant reinsurance. The Company’s property management, acquisition and development activities include managing, acquiring, developing and selling self-storage facilities. On June 2, 2009, the Company announced the wind-down of its development activities.  As of September 30, 2009, there were 14 development projects in process that the Company expects to complete by the fourth quarter of 2010.  The rental operations activities include rental operations of self-storage facilities. No single tenant accounts for more than 5% of rental income.  Tenant reinsurance activities include the reinsurance of risks relating to the loss of goods stored by tenants in the Company’s self storage facilities.

 

2.              BASIS OF PRESENTATION

 

The accompanying unaudited condensed consolidated financial statements of the Company are presented on the accrual basis of accounting in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial information and in accordance with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they may not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments (including normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three and nine months ended September 30, 2009 are not necessarily indicative of results that may be expected for the year ended December 31, 2009. The Condensed Consolidated Balance Sheet as of December 31, 2008 has been derived from the Company’s audited financial statements as of that date, but does not include all of the information and footnotes required by GAAP for complete financial statements. For further information refer to the consolidated financial statements and footnotes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2008 and Form 8-K dated June 5, 2009, updating Items 6, 7 and 8 of the Company’s Form 10-K for the year ended December 31, 2008, filed with the Securities and Exchange Commission (“SEC”).

 

Reclassifications

 

Certain amounts in the 2008 financial statements and supporting note disclosures have been reclassified to conform to the current year presentation.  Such reclassification did not impact previously reported net income or accumulated deficit.

 

Revisions to Prior Period Numbers

 

Effective January 1, 2009, the Company adopted certain recently issued accounting standards that required the Company to retroactively adopt the presentation and disclosure requirements and to restate prior period financial statements as noted in “Recently Issued Accounting Standards,” below.  The Company also revised the amounts allocated to its noncontrolling interests in its Operating Partnership and calculated earnings per share for 2008.

 

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Recently Issued Accounting Standards

 

In September 2006, the Financial Accounting Standards Board (“FASB”) issued Statement No. 157, “Fair Value Measurements” Accounting Standards Codification (“ASC”) 820, which defines fair value, establishes guidelines for measuring fair value and expands disclosures regarding fair value measurement.  This guidance applies under other accounting pronouncements that require or permit fair value measurements, and does not require any new fair value measurements.  The Company adopted this guidance for financial assets and liabilities effective January 1, 2008 and for non-financial assets and liabilities effective January 1, 2009In April 2009, the FASB issued the following updates that provide additional application guidance and enhance disclosures regarding fair value measurements and impairments of securities:

 

·                  FASB Staff Position No. FAS 157-4, “Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly” (ASC 820-10-65). This update provides guidance for estimating fair value when the volume and level of activity for the asset or liability have significantly decreased and identifying circumstances that may indicate that a transaction is not orderly.  It reaffirms the need to exercise judgment to ascertain if a formerly active market has become inactive and in determining fair values when markets have become inactive.

 

·                  FASB Staff Position No. FAS 107-1 and APB 28-1, “Interim Disclosures About Fair Value of Financial Instruments” (ASC 320-10-65).  This update requires disclosures about the fair value of financial instruments for interim reporting periods of publicly traded companies as well as in annual financial statements. In addition, it requires the disclosures in summarized financial information at interim reporting periods. Companies will also be required to disclose the method and significant assumptions used to estimate the fair value of financial instruments and describe any changes in the methods or methodology occurring during the period.

 

The Company adopted these updates effective June 30, 2009 and has applied the guidance to all periods presented.  The adoption of this guidance did not have any impact on the Company’s net income, cash flows, or financial position.

 

In December 2007, the FASB issued revised Statement No. 141, “Business Combinations” (ASC 805) (“FAS 141(R)”).  This guidance establishes principles and requirements for how an acquirer in a business combination recognizes and measures in its financial statements the assets acquired and liabilities assumed.  Generally, assets acquired and liabilities assumed in a transaction are recorded at the acquisition-date fair value with limited exceptions.  The guidance also changed the accounting treatment and disclosure for certain specific items in a business combination.  The Company adopted this guidance for all acquisitions subsequent to January 1, 2009.

 

In December 2007, the FASB issued Statement No. 160, “Noncontrolling Interests in Consolidated Financial Statements — An Amendment of ARB No. 51” (ASC 810-10-65) (“FAS 160”).  This guidance establishes new accounting and reporting standards for the noncontrolling interest in a subsidiary and for the deconsolidation of a subsidiary.  It also requires a company to clearly identify and present ownership interests in subsidiaries held by parties other than the company in the consolidated financial statements within the equity section but separate from the company’s equity.  In addition, the guidance also requires the amount of consolidated net income attributable to the parent and to the noncontrolling interest to be clearly identified and presented on the face of the consolidated statement of operations and requires changes in ownership interest to be accounted for similarly as equity transactions.   If noncontrolling interests are determined to be redeemable, they are to be carried at the higher of (a) their carrying value or (b) their redeemable value as of the balance sheet date and reported as temporary equity.  The Company adopted this guidance effective January 1, 2009, and has applied it to all periods presented.

 

In March 2008, the FASB issued Statement No. 161, “Disclosures about Derivative Instruments and Hedging Activities,” an amendment of FASB Statement No. 133, “Accounting for Derivative Instruments and Hedging Activities” (ASC 815).  This guidance changes the disclosure requirements for derivative instruments and hedging activities. Entities are required to provide enhanced disclosures stating how and why an entity uses derivative instruments; how derivative instruments and related hedged items are accounted for; and how derivative instruments and related hedged items affect an entity’s financial position, financial performance and cash flows. The Company adopted this guidance effective January 1, 2009 and expanded the disclosures relating to derivative instruments included in its consolidated financial statements.

 

In May 2008, the FASB issued Statement of Position No. APB 14-1, “Accounting for Convertible Debt Instruments That May Be Settled in Cash upon Conversion (Including Partial Cash Settlement)” (ASC 470-20-65) (“FSP APB 14-1”).  Under this guidance, entities with convertible debt instruments that may be settled entirely or partially in cash upon conversion should separately account for the liability and equity components of the instrument in a manner that reflects the issuer’s economic interest cost. The effect of the adoption on the Company’s exchangeable senior notes is that the equity component is included in the paid-in-capital section of stockholders’ equity on the consolidated balance sheet and the value of the equity

 

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component is treated as original issue discount for purposes of accounting for the debt component. The original issue discount is amortized over the period of the debt as additional interest expense.  This guidance is effective for fiscal years beginning after December 15, 2008, and for interim periods within those fiscal years, with retrospective application required.  The Company adopted this guidance effective January 1, 2009.

 

In April 2008, the FASB issued Staff Position No. 142-3, “Determination of the Useful Life of Intangible Assets” (ASC 350-30).  This guidance amends the factors that should be considered in developing renewal or extension assumptions used in determining the useful life of a recognized intangible asset.  This new guidance applies prospectively to intangible assets that are acquired individually or with a group of other assets in business combinations and asset acquisitions.  This guidance is effective for fiscal years beginning after December 31, 2008 and has been adopted by the Company for all acquisitions subsequent to January 1, 2009.

 

In June 2008, the FASB issued Staff Position EITF 03-6-1, “Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities,” (ASC 260-10).  This guidance provides that unvested share-based payment awards that contain non-forfeitable rights to dividends or dividend equivalents (whether paid or unpaid) are participating securities and shall be included in the computation of earnings per share pursuant to the two-class method as described in FASB Statement No. 128, “Earnings per Share” (ASC 260) (“FAS 128”). This guidance is effective for financial statements issued for fiscal years beginning on or after December 15, 2008 and the Company adopted this guidance effective January 1, 2009 and has applied it to all periods presented.

 

In May 2009, the FASB issued Statement of Financial Accounting Standards No. 165, “Subsequent Events” (ASC 855). This guidance is intended to establish general standards of accounting for and disclosures of events that occur after the balance sheet date but before the financial statements are issued or are available to be issued. This guidance requires disclosure of the date through which an entity has evaluated subsequent events and the basis for selecting this date, that is, whether this date represents the date the financial statements were issued or were available to be issued. The Company adopted this guidance effective April 1, 2009.

 

In June 2009, the FASB issued Statement of Financial Accounting Standards No. 167, “Amendments to FASB Interpretation No. 46(R),” (ASC 810) (“FAS 167”), which amends guidance for determining whether an entity is a variable interest entity, or VIE, and requires the performance of a qualitative rather than a quantitative analysis to determine the primary beneficiary of a VIE. Under this guidance, an entity would be required to consolidate a VIE if it has (i) the power to direct the activities that most significantly impact the entity’s economic performance and (ii) the obligation to absorb losses of the VIE or the right to receive benefits from the VIE that could be significant to the VIE. This guidance is effective for the first annual reporting period that begins after November 15, 2009, with early adoption prohibited. The Company is currently evaluating the effect of the adoption of this guidance on its financial statements.

 

On June 30, 2009, the FASB issued Statement No. 168, “The FASB Accounting Standards Codification and the Hierarchy of Generally Accepted Accounting Principles — a replacement of FASB Statement No. 162”  (ASC 105-10-05). The standard establishes the FASB Codification (the “Codification”) as the source of authoritative accounting principles recognized by the FASB to be applied by nongovernmental entities in the preparation of financial statements in conformity with GAAP.   The Codification is effective for financial statements issued for interim and annual periods ending after September 15, 2009.  The Company adopted the Codification effective September 30, 2009 and has included the references to the Codification, as appropriate, in these consolidated financial statements.

 

Fair Value Disclosures

 

Assets and Liabilities Measured at Fair Value on a Recurring Basis

 

The following table provides information for each major category of assets and liabilities that are measured at fair value on a recurring basis:

 

 

 

 

 

Fair Value Measurements at Reporting Date Using

 

Description

 

September 30, 2009

 

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

 

Significant Other
Observable Inputs
(Level 2)

 

Significant
Unobservable Inputs
(Level 3)

 

 

 

 

 

 

 

 

 

 

 

Other liabilities - Swap Agreement 1

 

$

(526

)

$

 

$

(526

)

$

 

Other liabilities - Swap Agreement 2

 

(742

)

 

(742

)

 

Other liabilities - Swap Agreement 3

 

(400

)

 

(400

)

 

Total

 

$

(1,668

)

$

 

$

(1,668

)

$

 

 

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The Company did not have any significant assets or liabilities that are re-measured on a recurring basis using significant unobservable inputs (Level 3) for the three and nine months ended September 30, 2009.

 

Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis

 

Long-lived assets held for use are evaluated for impairment when events or circumstances indicate there may be impairment.  When such an event occurs, the Company compares the carrying value of these long-lived assets to the undiscounted future net operating cash flows attributable to the assets using significant unobservable inputs.  An impairment loss is recorded if the net carrying value of the assets exceeds the undiscounted future net operating cash flows attributable to the asset.  The impairment loss recognized equals the excess of net carrying value over the related fair value of the asset.

 

When real estate assets are identified as held for sale, the Company discontinues depreciating the assets and estimates the fair value of the assets, net of selling costs, using significant unobservable inputs.  If the estimated fair value, net of selling costs, of the assets that have been identified as held for sale is less than the net carrying value of the assets, then a valuation allowance is established.  The operations of assets held for sale or sold during the period are generally presented as discontinued operations for all periods presented.

 

The Company assesses whether there are any indicators that the value of its investments in unconsolidated real estate ventures may be impaired when events or circumstances indicate there may be an impairment.  An investment is impaired if the Company’s estimate of the fair value of the investment is less than its carrying value using significant unobservable inputs.  To the extent impairment has occurred, and is considered to be other-than-temporary, the loss is measured as the excess of the carrying amount over the fair value of the investment.

 

In connection with the Company’s acquisition of properties, the assets are valued as tangible and intangible assets and liabilities acquired based on their fair values using significant unobservable inputs. The value of the tangible assets, consisting of land and buildings, are determined as if vacant, that is, at replacement cost. Intangible assets, which represent the value of existing tenant relationships, are recorded at their fair values based on the avoided cost to replace the current leases. The Company measures the value of tenant relationships based on the Company’s historical experience with turnover in its facilities. Debt assumed as part of an acquisition is recorded at fair value based on current interest rates compared to contractual rates.

 

On June 2, 2009, the Company announced the wind-down of its development activities.  As a result of this change, the Company reviewed its properties under construction, unimproved land and its investments in development joint ventures for potential impairments.  This review included the preparation of updated models based on current market conditions, obtaining appraisals and reviewing recent sales and list prices of undeveloped land and mature self storage facilities.  Based on this review, the Company identified certain assets as being impaired.  The impairments relating to long lived assets where the Company intends to complete the development and hold the asset are the result of the estimated future undiscounted cash flows being less than the current carrying value of the assets.  The Company compared the carrying value of certain undeveloped land and seven condominiums that the Company intends to sell to the fair market value of similar undeveloped land and condominiums.  For the assets that the Company intends to sell, where the current estimated fair market value less costs to sell was below the carrying value, the Company reduced the asset to the current fair market value less selling costs and recorded an impairment charge.  The impairments relating to investments in development joint ventures are the result of the Company comparing the estimated current fair market value to the carrying value of the investment.  For those investments in development joint ventures where the current estimated fair market value was below the carrying value, the Company reduced the investment to the current fair market value through an impairment charge.

 

The following table provides information for each major category of assets and liabilities that are measured at fair value on a non-recurring basis:

 

 

 

 

 

Fair Value Measurements at Reporting Date Using

 

Description

 

September 30, 2009

 

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

 

Significant Other
Observable Inputs
(Level 2)

 

Significant
Unobservable Inputs
(Level 3)

 

Total Gains (Losses)

 

 

 

 

 

 

 

 

 

 

 

 

 

Long-lived assets held and used

 

$

12,392

 

$

 

$

 

$

12,392

 

$

(6,862

)

Investments in real estate ventures

 

9,934

 

 

 

9,934

 

(2,936

)

Real estate assets held for sale included in net real estate assets

 

11,275

 

 

 

11,275

 

(9,085

)

 

 

$

33,601

 

$

 

$

 

$

33,601

 

$

(18,883

)

 

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3.              NET INCOME PER SHARE

 

Basic earnings per common share is computed by dividing net income attributable to common stockholders by the weighted average number of common shares outstanding. Diluted earnings per common share measures the performance of the Company over the reporting period while giving effect to all potential common shares that were dilutive and outstanding during the period. The denominator includes the number of additional common shares that would have been outstanding if the potential common shares that were dilutive had been issued and is calculated using either the treasury stock or if-converted method. Potential common shares are securities (such as options, warrants, convertible debt, Contingent Conversion Shares (“CCSs”), Contingent Conversion Units (“CCUs”), exchangeable Series A Participating Redeemable Preferred Operating Partnership units (“Preferred OP units”) and exchangeable Operating Partnership units (“OP units”)) that do not have a current right to participate in earnings but could do so in the future by virtue of their option or conversion right. In computing the dilutive effect of convertible securities, net income is adjusted to add back any changes in earnings in the period associated with the convertible security. The numerator also is adjusted for the effects of any other non-discretionary changes in income or loss that would result from the assumed conversion of those potential common shares. In computing diluted earnings per share, only potential common shares that are dilutive, or reduce earnings per share, are included.

 

The Company’s Operating Partnership has $95,163 principal amount of exchangeable senior notes issued and outstanding as of September 30, 2009 that also can potentially have a dilutive effect on its earnings per share calculations. The exchangeable senior notes are exchangeable by holders into shares of the Company’s common stock under certain circumstances per the terms of the indenture governing the exchangeable senior notes. The exchangeable senior notes are not exchangeable unless the price of the Company’s common stock is greater than or equal to 130% of the applicable exchange price for a specified period during a quarter, or unless certain other events occur. The exchange price was $23.48 per share at September 30, 2009, and could change over time as described in the indenture. The price of the Company’s common stock did not exceed 130% of the exchange price for the specified period of time during the third quarter of 2009; therefore holders of the exchangeable senior notes may not elect to convert them during the fourth quarter of 2009.

 

The Company has irrevocably agreed to pay only cash for the accreted principal amount of the exchangeable senior notes relative to its exchange obligations, but has retained the right to satisfy the exchange obligations in excess of the accreted principal amount in cash and/or common stock. Though the Company has retained that right, FAS 128 (ASC 260) requires an assumption that shares will be used to pay the exchange obligations in excess of the accreted principal amount, and requires that those shares be included in the Company’s calculation of weighted average common shares outstanding for the diluted earnings per share computation. No shares were included in the computation at September 30, 2009 or 2008 because there was no excess over the accreted principal for the period.

 

For the purposes of computing the diluted impact on earnings per share of the potential conversion of Preferred OP units into common shares, where the Company has the option to redeem in cash or shares as discussed in Note 16 and where the Company has stated the positive intent and ability to settle at least $115,000 of the instrument in cash (or net settle a portion of the Preferred OP units against the related outstanding note receivable), only the amount of the instrument in excess of $115,000 is considered in the calculation of shares contingently issuable for the purposes of computing diluted earnings per share as allowed by paragraph 29 of FAS 128 (ASC 260-10-45-46.)

 

For the three months ended September 30, 2009 and 2008, options to purchase 4,458,370 and 1,356,592 shares of common stock and for the nine months ended September 30, 2009 and 2008, 5,237,237 and 903,180 shares of common stock, respectively, were excluded from the computation of earnings per share as their effect would have been anti-dilutive.  All unreleased restricted stock grants have been included in basic and diluted shares outstanding as required by EITF 03-6-1 (ASC 260) because such shares earn a non-forfeitable dividend and carry voting rights.

 

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The computation of net income per common share is as follows:

 

 

 

For the Three Months Ended September 30,

 

For the Nine Months Ended September 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

Net income attributable to common stockholders

 

$

5,967

 

$

9,916

 

$

26,045

 

$

20,748

 

Add: Income allocated to noncontrolling interest - Preferred Operating Partnership and Operating Partnership

 

1,777

 

2,118

 

6,250

 

5,926

 

Subtract: Fixed component of income allocated to noncontrolling interest - Preferred Operating Partnership

 

(1,438

)

(1,438

)

(4,313

)

(4,313

)

Net income for diluted computations

 

$

6,306

 

$

10,596

 

$

27,982

 

$

22,361

 

 

 

 

 

 

 

 

 

 

 

Weighted average common shares outstanding:

 

 

 

 

 

 

 

 

 

Average number of common shares outstanding - basic

 

86,437,877

 

82,184,631

 

86,260,442

 

74,116,345

 

Operating Partnership units

 

3,917,941

 

4,109,034

 

3,917,941

 

4,109,034

 

Preferred Operating Partnership units

 

989,980

 

989,980

 

989,980

 

989,980

 

Dilutive and cancelled stock options and CCS/CCU conversions

 

203,186

 

427,018

 

153,140

 

458,522

 

Average number of common shares outstanding - diluted

 

91,548,984

 

87,710,663

 

91,321,503

 

79,673,881

 

 

 

 

 

 

 

 

 

 

 

Net income per common share

 

 

 

 

 

 

 

 

 

Basic

 

$

0.07

 

$

0.13

 

$

0.30

 

$

0.28

 

Diluted

 

$

0.07

 

$

0.13

 

$

0.30

 

$

0.28

 

 

4.              REAL ESTATE ASSETS

 

The components of real estate assets are summarized as follows:

 

 

 

September 30, 2009

 

December 31, 2008

 

 

 

 

 

 

 

Land - operating

 

$

490,693

 

$

461,883

 

Land - development

 

41,658

 

64,392

 

Buildings and improvements

 

1,638,817

 

1,555,598

 

Intangible assets - tenant relationships

 

33,355

 

33,234

 

Intangible lease rights

 

6,150

 

6,150

 

 

 

2,210,673

 

2,121,257

 

Less: accumulated depreciation and amortization

 

(220,998

)

(182,335

)

Net operating real estate assets

 

1,989,675

 

1,938,922

 

Real estate under development

 

52,942

 

58,734

 

Net real estate assets

 

$

2,042,617

 

$

1,997,656

 

 

 

 

 

 

 

Real estate assets held for sale included in net real estate assets

 

$

11,275

 

$

 

 

Real estate assets held for sale include five parcels of vacant land and seven condominiums.

 

On April 10, 2009, the Company sold vacant land in Los Angeles, California for cash of $4,652. A loss of $343 was recorded as a result of this sale, and is included in unrecovered development and acquisition costs in the condensed consolidated statement of operations.

 

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5.              PROPERTY ACQUISITIONS

 

The following table shows the Company’s acquisitions of operating properties for the nine months ended September 30, 2009, and does not include purchases of raw land or improvements made to existing assets:

 

 

 

 

 

 

 

Consideration Paid

 

Acquisition Date Fair Value

 

 

 

Property Location

 

Number of
Properties

 

Date of
Acquisition

 

Total Paid

 

Cash Paid

 

Net
Liabilities/
(Assets)
Assumed

 

Land

 

Building

 

Intangible

 

Closing
costs -
expensed

 

Source of Acquisition

 

Virginia

 

1

 

1/23/2009

 

$

7,425

 

$

7,438

 

$

(13

)

2,076

 

5,175

 

122

 

52

 

Unrelated franchisee

 

 

Under FAS 141(R) (ASC 805), the Company treats property acquisitions as businesses and records the assets and the liabilities at their fair values as of the acquisition date.  Acquisition-related transaction costs are expensed as incurred.

 

6.              INVESTMENTS IN REAL ESTATE VENTURES

 

Investments in real estate ventures consisted of the following:

 

 

 

Equity

 

Excess Profit

 

Investment balance at

 

 

 

Ownership %

 

Participation %

 

September 30, 2009

 

December 31, 2008

 

 

 

 

 

 

 

 

 

 

 

Extra Space West One LLC (“ESW”)

 

5%

 

40%

 

$

1,254

 

$

1,492

 

Extra Space West Two LLC (“ESW II”)

 

5%

 

40%

 

4,778

 

4,874

 

Extra Space Northern Properties Six LLC (“ESNPS”)

 

10%

 

35%

 

1,431

 

1,482

 

Extra Space of Santa Monica LLC (“ESSM”)

 

48%

 

43%

 

2,464

 

3,225

 

Clarendon Storage Associates Limited Partnership (“Clarendon”)

 

50%

 

50%

 

3,242

 

3,318

 

PRISA Self Storage LLC (“PRISA”)

 

2%

 

17%

 

11,966

 

12,460

 

PRISA II Self Storage LLC (“PRISA II”)

 

2%

 

17%

 

10,286

 

10,431

 

PRISA III Self Storage LLC (“PRISA III”)

 

5%

 

20%

 

3,886

 

4,118

 

VRS Self Storage LLC (“VRS”)

 

45%

 

9%

 

46,001

 

47,488

 

WCOT Self Storage LLC (“WCOT”)

 

5%

 

20%

 

5,046

 

5,229

 

Storage Portfolio I LLC (“SP I”)

 

25%

 

40%

 

16,401

 

17,471

 

Storage Portfolio Bravo II (“SPB II”)

 

20%

 

25-45%

 

15,175

 

14,168

 

U-Storage de Mexico S.A. and related entities (“U-Storage”)

 

35-40%

 

35-40%

 

7,370

 

9,205

 

Other minority owned properties

 

10-50%

 

10-50%

 

3,056

 

1,830

 

 

 

 

 

 

 

$

132,356

 

$

136,791

 

 

In these joint ventures, the Company and the joint venture partner generally receive a preferred return on their invested capital. To the extent that cash/profits in excess of these preferred returns are generated through operations or capital transactions, the Company would receive a higher percentage of the excess cash/profits than its equity interest.

 

The components of equity in earnings of real estate ventures consist of the following:

 

 

 

Three months ended September 30,

 

Nine months ended September 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

 

 

 

 

 

 

 

 

 

 

Equity in earnings of ESW

 

$

294

 

$

333

 

$

878

 

$

1,027

 

Equity in earnings (losses) of ESW II

 

(9

)

(12

)

(19

)

(50

)

Equity in earnings of ESNPS

 

119

 

62

 

215

 

182

 

Equity in earnings (losses) of ESSM

 

(68

)

 

(68

)

 

Equity in earnings of Clarendon

 

101

 

33

 

285

 

221

 

Equity in earnings of PRISA

 

177

 

183

 

324

 

526

 

Equity in earnings of PRISA II

 

138

 

154

 

415

 

451

 

Equity in earnings of PRISA III

 

63

 

77

 

179

 

204

 

Equity in earnings of VRS

 

517

 

648

 

1,569

 

779

 

Equity in earnings of WCOT

 

56

 

78

 

184

 

225

 

Equity in earnings of SP I

 

183

 

339

 

648

 

892

 

Equity in earnings of SPB II

 

27

 

146

 

260

 

467

 

Equity in earnings (losses) of U-Storage

 

(8

)

(18

)

1

 

(134

)

Equity in earnings (losses) of other minority owned properties

 

162

 

(8

)

417

 

(180

)

 

 

$

1,752

 

$

2,015

 

$

5,288

 

$

4,610

 

 

Equity in earnings (losses) of ESW II, SP I and SPB II include the amortization of the Company’s excess purchase price of $25,713 of these equity investments over its original basis. The excess basis is amortized over 40 years.

 

Variable Interests in Unconsolidated Real Estate Joint Ventures:

 

The Company has an interest in one unconsolidated joint venture with unrelated third parties (“Eastern Avenue”) which is a variable interest entity (“VIEs”).  The Company holds a 10% equity interest in Eastern Avenue, but has 50% of the voting rights.  The Company also is the guarantor of the construction loan of Eastern Avenue.  Qualification as a VIE was based on the disproportionate voting and ownership percentages.  The Company performed a probability-based cash flow analysis for

 

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this joint venture to determine which party was the primary beneficiary of the VIE.  This analysis was performed using the Company’s best estimates of the future cash flows based on its historical experience with numerous similar assets.  As a result of this analysis, the Company determined that it was not the primary beneficiary of Eastern Avenue as the Company does not receive a majority of the joint venture’s expected residual returns or bear a majority of the expected losses.  Accordingly, this interest is recorded using the equity method.

 

Eastern Avenue owns a single pre-stabilized self-storage property.  The joint venture is financed through a combination of (1) equity contributions from the Company and its joint venture partner, (2) mortgage notes payable and (3) payables to the Company for working capital.  The payables to the Company are generally amounts owed for expenses paid on behalf of the joint venture by the Company as manager.  The Company performs management services for the Eastern Avenue joint venture in exchange for a management fee of approximately 6% of cash collected by the property.  The Company’s joint venture partner can replace the Company as manager of the property upon written notice.  The Company has not provided financial or other support during the periods presented to Eastern Avenue that it was not previously contractually obligated to provide.

 

As of September 30, 2009, there was no amount for Eastern Avenue included in Investments in Real Estate on the Company’s consolidated balance sheet.  No liability was recorded associated with the Company’s guarantee of the construction loan of Eastern Avenue.  The Company’s maximum exposure to loss for this joint venture as of September 30, 2009 is the total of the guaranteed loan balance, the payables due to the Company and the Company’s investment balances in the joint venture.  The Company believes that the risk of incurring a loss as a result of having to perform on the guarantee is remote and therefore no liability has been recorded. Also, repossessing and/or selling the self-storage facility and land that collateralize the loan could provide funds sufficient to reimburse the Company. Additionally, the Company believes the payables to the Company are collectible.  The following table compares the liability balance and the maximum exposure to loss related to Eastern Avenue as of September 30, 2009:

 

 

 

 

 

 

 

Balance of

 

 

 

Maximum

 

 

 

 

 

Liability

 

Investment

 

Guaranteed

 

Payables to

 

exposure

 

 

 

 

 

Balance

 

balance

 

loan

 

Company

 

to loss

 

Difference

 

Eastern Avenue

 

$

 

$

 

$

5,448

 

$

1,624

 

$

7,072

 

$

(7,072

)

 

Variable Interests in Consolidated Real Estate Joint Ventures

 

The Company has variable interests in five consolidated joint ventures with third parties (the “VIE JVs”) which are VIEs.  The VIE JVs are financed through a combination of (1) equity contributions from the Company and its joint venture partners, (2) mortgage notes payable and (3) payables to the Company for working capital.  The payables to the Company are generally amounts owed for expenses paid on behalf of the joint ventures by the Company as manager.  The Company owns 10% to 72% of the common equity interests in the VIE JVs.  The Company performed probability-based cash flow projections for each venture using the Company’s best estimates of future revenues and expenses based on historical experience with numerous similar assets.  According to these analyses, the joint ventures were determined to be VIEs based on an assessment that the equity financing was inadequate to support operations.  The Company was also determined to be the primary beneficiary of each of the VIE JVs, as it receives the majority of the benefits and/or bears the majority of the expected losses of each as a result of its ownership and the management agreements. Therefore, each of the VIE JVs are consolidated with the assets and liabilities of each joint venture included in the Company’s consolidated financial statements, with intercompany balances and transactions eliminated.

 

In July 2009, the Company purchased a lender’s interest in a note payable to a joint venture that owns a single property located in Chicago, IL.  The note was to Extra Space of Montrose, a joint venture in which the Company owns a 10% interest, and was guaranteed by the Company.  This joint venture was considered a nonconsolidated VIE as of June 30, 2009.  The Company considers the purchase of this loan to be a reconsideration event and has determined that the Company now bears the majority of the risk of loss for the joint venture.  As a result of this loan purchase by the Company, the joint venture is now a consolidated VIE JV. The assets and liabilities were recorded at fair value as required by FAS 141(R) (ASC 805).

 

In January 2009, the Company purchased a lender’s interest in a construction loan to a joint venture that owns a single property located in Sacramento, CA.  The construction loan was to ESS of Sacramento One LLC, a joint venture in which the Company owns a 50% interest, and was guaranteed by the Company.  This joint venture was not consolidated and was not considered a VIE JV as of December 31, 2008.  The Company considers the purchase of this loan to be a reconsideration event and now considers ESS of Sacramento One LLC to be a VIE JV and has determined that the Company now bears the majority of the risk of loss of the joint venture.  As a result of this loan purchase by the Company, the joint venture is now consolidated. The assets and liabilities were recorded at fair value as required by FAS 141(R) (ASC 805).

 

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The Company performs development services for ESS of Plantation LLC in exchange for a development fee of 1% of budgeted costs, respectively.   The Company performs management services for Extra Space of Montrose Avenue LLC, ESS of Sacramento One LLC, ES of Washington Avenue LLC and ES of Franklin Blvd. LLC in exchange for a management fee of approximately 6% of cash collected by the properties.

 

The table below illustrates the financing of each of the VIE JVs as well as the carrying amounts of the related assets and liabilities as of September 30, 2009:

 

Joint
Venture

 

Equity
Ownership %

 

Excess
Profit
Participation%

 

Total Assets

 

Notes Payable

 

Payables
to Company
(eliminated)

 

Payables
and
Other
Liabilities

 

Company’s
Equity
(eliminated)

 

JV Partners’
Equity (non-
controlling interest)

 

Extra Space of Montrose Avenue LLC

 

10

%

40

%

$

8,535

 

$

 

$

8,593

 

$

281

 

$

(50

)

$

(289

)

ESS of Sacramento One LLC

 

50

%

50

%

10,278

 

5,072

 

5,174

 

72

 

(570

)

530

 

ES of Washington Avenue LLC

 

50

%

50

%

9,903

 

5,049

 

2,951

 

469

 

717

 

717

 

ES of Franklin Blvd LLC

 

50

%

50

%

7,043

 

5,165

 

2,012

 

106

 

(120

)

(120

)

ESS of Plantation LLC

 

72

%

40

%

2,096

 

 

15

 

49

 

1,472

 

560

 

 

 

 

 

 

 

$

37,855

 

$

15,286

 

$

18,745

 

$

977

 

$

1,449

 

$

1,398

 

 

Except as disclosed above, the Company has not provided financial or other support during the periods presented to these VIEs that it was not previously contractually obligated to provide.  The Company has guaranteed the notes payable for these VIEs, with the exception of ESS Sacramento One LLC.  The notes payable are secured by the related self-storage properties and are non-recourse.  If the joint ventures default on the loans, the Company may be forced to repay its portion of the balance owed.  However, repossessing and/or selling the self-storage facilities and land that collateralize the loans could provide funds sufficient to reimburse the Company, and the Company believes that the risk of incurring a loss as a result of having to perform on the guarantees is remote.

 

7.              OTHER ASSETS

 

The components of other assets are summarized as follows:

 

 

 

September 30, 2009

 

December 31, 2008

 

 

 

 

 

 

 

Equipment and fixtures

 

$

11,481

 

$

10,671

 

Less: accumulated depreciation

 

(8,634

)

(7,309

)

Other intangible assets

 

3,303

 

3,296

 

Deferred financing costs, net

 

14,433

 

12,330

 

Prepaid expenses and deposits

 

8,697

 

5,828

 

Accounts receivable, net

 

12,335

 

11,120

 

Fair value of interest rate swaps

 

 

647

 

Investments in Trusts

 

3,590

 

3,590

 

Deferred tax asset

 

2,520

 

2,403

 

 

 

$

47,725

 

$

42,576

 

 

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8.              NOTES PAYABLE

 

The components of notes payable are summarized as follows:

 

 

 

September 30, 2009

 

December 31, 2008

 

Fixed Rate

 

 

 

 

 

Mortgage and construction loans with banks (inclulding loans subject to interest rate swaps) bearing interest at fixed rates between 4.24% and 7.30%. The loans are collateralized by mortgages on real estate assets and the assignment of rents. Principal and interest payments are made monthly with all outstanding principal and interest due between March 2010 and August 2019.

 

$

878,468

 

$

818,166

 

 

 

 

 

 

 

Variable Rate

 

 

 

 

 

Mortgage and construction loans with banks bearing floating interest rates (including loans subject to reverse interest rate swaps) based on LIBOR and Prime. Interest rates based on LIBOR are between LIBOR plus 1.45% (1.70% and 1.89% at September 30, 2009 and December 31, 2008 respectively) and LIBOR plus 4.0% (4.25% and 4.44% at September 30, 2009 and December 31, 2008, respectively). Interest rates based on Prime are at Prime plus 1.50% (4.75% and 4.75% at September 30, 2009 and December 31, 2008, respectively). The loans are collateralized by mortgages on real estate assets and the assignment of rents. Principal and interest payments are made monthly with all outstanding principal and interest due between October 2009 and September 2014.

 

165,978

 

125,432

 

 

 

$

1,044,446

 

$

943,598

 

 

Certain mortgage and construction loans with variable rate debt are subject to interest rate floors ranging from 5.0% to 6.5%.

 

Real estate assets are pledged as collateral for the notes payable. The Company is subject to certain restrictive covenants relating to the outstanding notes payable. The Company was in compliance with all covenants at September 30, 2009.

 

9.              DERIVATIVES

 

FASB Statement No. 133 (ASC 815), “Derivatives and Hedging” (“FAS 133”) requires the recognition of all derivative instruments as either assets or liabilities on the balance sheet at fair value.  The accounting for changes in fair value of a derivative instrument depends on whether it has been designated and qualifies as part of a hedging relationship and further, on the type of hedging relationship.  A company must designate each qualifying hedging instrument, based upon the exposure being hedged, as a fair value hedge, cash flow hedge, or a hedge of a net investment in foreign operation.

 

The Company is exposed to certain risks relating to its ongoing business operations.  The primary risk managed by using derivative instruments is interest rate risk.  Interest rate swaps are entered into to manage interest rate risk associated with Company’s fixed and variable-rate borrowings.  In accordance with FAS 133 (ASC 815) the Company designates certain interest rate swaps as cash flow hedges of variable-rate borrowings and the remainder as fair value hedges of fixed-rate borrowings.

 

The following table summarizes the terms of the Company’s derivative financial instruments at September 30, 2009:

 

Hedge Product

 

Hedge Type

 

Notional Amount

 

Strike

 

Effective Date

 

Maturity

 

Reverse Swap Agreement

 

Fair Value

 

$

61,770

 

LIBOR plus 0.65%

 

10/31/2004

 

6/1/2009

 

Swap Agreement 1

 

Cash Flow

 

63,000

 

4.24%

 

2/1/2009

 

6/30/2013

 

Swap Agreement 2

 

Cash Flow

 

26,000

 

6.32%

 

7/1/2009

 

7/1/2014

 

Swap Agreement 3

 

Cash Flow

 

8,462

 

6.98%

 

7/27/2009

 

6/27/2016

 

 

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Monthly interest payments were recognized as an increase or decrease in interest expense as follows:

 

 

 

Classification of

 

Three months ended September 30,

 

Nine months ended September 30,

 

Type

 

Income (Expense)

 

2009

 

2008

 

2009

 

2008

 

Reverse Swap Agreement

 

Interest expense

 

$

 

$

186

 

$

916

 

$

194

 

Swap Agreement 1

 

Interest expense

 

(307

)

 

(609

)

 

Swap Agreement 2

 

Interest expense

 

(124

)

 

(124

)

 

Swap Agreement 3

 

Interest expense

 

(49

)

 

(49

)

 

 

 

 

 

$

(480

)

$

186

 

$

134

 

$

194

 

 

Information relating to the gains recognized on the swap agreements is as follows:

 

 

 

Gain/(loss)
recognized in OCI

 

Location of
amounts

 

Gain/(loss)
reclassified from
OCI

 

Type

 

Nine months ended
September 30, 2009

 

reclassified from
OCI into income

 

Nine months ended September 30, 2009

 

Swap Agreement 1

 

$

(526

)

Interest expense

 

$

 

Swap Agreement 2

 

(742

)

Interest expense

 

 

Swap Agreement 3

 

(400

)

Interest expense

 

 

 

 

$

(1,668

)

 

 

$

 

 

The Swap Agreements were highly effective for the three and nine months ended September 30, 2009.

 

The balance sheet classification and carrying amounts of the interest rate swaps are as follows:

 

 

 

Asset/(Liability) Derivatives

 

 

 

September 30, 2009

 

December 31, 2008

 

Derivatives designated as hedging

 

Balance Sheet

 

Fair

 

Balance Sheet

 

Fair

 

instruments:

 

Location

 

Value

 

Location

 

Value

 

Reverse Swap Agreement (expired 6/1/2009)

 

n/a

 

$

 

Other assets

 

$

647

 

Swap Agreement 1

 

Other liabilities

 

(526

)

n/a

 

 

Swap Agreement 2

 

Other liabilities

 

(742

)

n/a

 

 

Swap Agreement 3

 

Other liabilities

 

(400

)

n/a

 

 

 

 

 

 

$

(1,668

)

 

 

$

647

 

 

10.       NOTES PAYABLE TO TRUSTS

 

During July 2005, ESS Statutory Trust III (the “Trust III”), a newly formed Delaware statutory trust and a wholly-owned, unconsolidated subsidiary of the Operating Partnership, issued an aggregate of $40,000 of preferred securities which mature on July 31, 2035. In addition, the Trust III issued 1,238 of Trust common securities to the Operating Partnership for a purchase price of $1,238. On July 27, 2005, the proceeds from the sale of the preferred and common securities of $41,238 were loaned in the form of a note to the Operating Partnership (“Note 3”). Note 3 has a fixed rate of 6.91% through July 31, 2010, and then will be payable at a variable rate equal to the three-month LIBOR plus 2.40% per annum. The interest on Note 3, payable quarterly, will be used by the Trust III to pay dividends on the trust preferred securities. The trust preferred securities may be redeemed by the Trust with no prepayment premium after July 27, 2010.

 

During May 2005, ESS Statutory Trust II (the “Trust II”), a newly formed Delaware statutory trust and a wholly-owned, unconsolidated subsidiary of the Operating Partnership, issued an aggregate of $41,000 of preferred securities which mature on June 30, 2035. In addition, the Trust II issued 1,269 of Trust common securities to the Operating Partnership for a purchase price of $1,269. On May 24, 2005, the proceeds from the sale of the preferred and common securities of $42,269 were loaned in the form of a note to the Operating Partnership (“Note 2”). Note 2 has a fixed rate of 6.67% through June 30, 2010, and then will be payable at a variable rate equal to the three-month LIBOR plus 2.40% per annum. The interest on Note 2, payable quarterly, will be used by the Trust II to pay dividends on the trust preferred securities. The trust preferred securities may be redeemed by the Trust with no prepayment premium after June 30, 2010.

 

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Table of Contents

 

During April 2005, ESS Statutory Trust I (the “Trust”), a newly formed Delaware statutory trust and a wholly-owned, unconsolidated subsidiary of the Operating Partnership issued an aggregate of $35,000 of trust preferred securities which mature on June 30, 2035. In addition, the Trust issued 1,083 of trust common securities to the Operating Partnership for a purchase price of $1,083. On April 8, 2005, the proceeds from the sale of the trust preferred and common securities of $36,083 were loaned in the form of a note to the Operating Partnership (the “Note”). The Note has a variable rate equal to the three-month LIBOR plus 2.25% per annum. The interest on the Note, payable quarterly, will be used by the Trust to pay dividends on the trust preferred securities. The trust preferred securities may be redeemed by the Trust with no prepayment premium after June 30, 2010.

 

The Company follows FASB Interpretation No. 46R (ASC810), “Consolidation of Variable Interest Entities” (“FIN 46(R)”) which addresses the consolidation of VIEs.  Under FIN 46(R) (ASC 810) Trust, Trust II and Trust III are VIEs because the holders of the equity investment at risk (the trust preferred securities) do not have adequate decision making ability over the trusts’ activities because of their lack of voting or similar rights.  Because the Operating Partnership’s investment in the trusts’ common securities was financed directly by the trusts as a result of its loan of the proceeds to the Operating Partnership, that investment is not considered to be an equity investment at risk.  The Operating Partnership’s investment in the trusts is not a variable interest because equity interests are variable interests only to the extent that the investment is considered to be at risk, and therefore the Operating Partnership cannot be the primary beneficiary of the trusts.  Since the Company is not the primary beneficiary of the trusts, they have not been consolidated.  A debt obligation has been recorded in the form of notes as discussed above for the proceeds, which are owed to the Trust, Trust II and Trust III by the Company.  The Company has also recorded its investment in the trusts’ common securities as other assets.

 

The Company has not provided financing or other support during the periods presented to the trusts that it was not previously contractually obligated to provide.  The Company’s maximum exposure to loss as a result of its involvement with the trusts is equal to the total amount of the notes discussed above less the amounts of the Company’s investments in the trusts’ common securities.  The net amount is the notes payable that the trusts owe to third parties for their investments in the trusts’ preferred securities.  Following is a tabular comparison of the liabilities the Company has recorded as a result of its involvements with the trusts to the maximum exposure to loss the Company is subject to related to the trusts as of September 30, 2009:

 

 

 

Notes payable

 

 

 

 

 

 

 

to Trusts as of

 

Maximum

 

 

 

 

 

September 30, 2009

 

exposure to loss

 

Difference

 

Trust

 

$

36,083

 

$

35,000

 

$

1,083

 

Trust II

 

42,269

 

41,000

 

1,269

 

Trust III

 

41,238

 

40,000

 

1,238

 

 

 

$

119,590

 

$

116,000

 

$

3,590

 

 

As noted above, these differences represent the amounts that the trusts would repay the Company for its investment in the trusts’ common securities.

 

11.       EXCHANGEABLE SENIOR NOTES

 

On March 27, 2007, our Operating Partnership issued $250,000 of its 3.625% Exchangeable Senior Notes due April 1, 2027 (the “Notes”). Costs incurred to issue the Notes were approximately $5,700. The remaining portion of these costs are being amortized over five years, which represents the estimated term of the Notes, and are included in other assets in the condensed consolidated balance sheet as of September 30, 2009. The Notes are general unsecured senior obligations of the Operating Partnership and are fully guaranteed by the Company. Interest is payable on April 1 and October 1 of each year until the maturity date of April 1, 2027. The Notes bear interest at 3.625% per annum and contain an exchange settlement feature, which provides that the Notes may, under certain circumstances, be exchangeable for cash (up to the principal amount of the Notes) and, with respect to any excess exchange value, for cash, shares of our common stock or a combination of cash and shares of our common stock at an exchange rate of approximately 43.1091 shares per one thousand dollars principal amount of Notes at the option of the Operating Partnership.

 

The Operating Partnership may redeem the Notes at any time to preserve the Company’s status as a REIT. In addition, on or after April 5, 2012, the Operating Partnership may redeem the Notes for cash, in whole or in part, at 100% of the principal amount plus accrued and unpaid interest, upon at least 30 days but not more than 60 days prior written notice to holders of the Notes.

 

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Table of Contents

 

The holders of the Notes have the right to require the Operating Partnership to repurchase the Notes for cash, in whole or in part, on each of April 1, 2012, April 1, 2017 and April 1, 2022, and upon the occurrence of a designated event, in each case for a repurchase price equal to 100% of the principal amount of the Notes plus accrued and unpaid interest. Certain events are considered “Events of Default,” as defined in the indenture governing the Notes, which may result in the accelerated maturity of the Notes.

 

Adoption of FSP APB 14-1(ASC 470-20)

 

In May 2008, the FASB issued FSP ABP 14-1 (ASC 470-20). Under this guidance entities with convertible debt instruments that may be settled entirely or partially in cash upon conversion should separately account for the liability and equity components of the instrument in a manner that reflects the issuer’s economic interest cost.  The Company retroactively adopted FSP APB 14-1 (ASC 470-20) effective January 1, 2009.  As a result, the liability and equity components of the Notes are now accounted for separately.  The equity component is included in the paid-in-capital section of stockholders’ equity on the condensed consolidated balance sheet, and the value of the equity component is treated as original issue discount for purposes of accounting for the debt component.  The discount is being amortized over the period of the debt as additional interest expense.

 

Information about the carrying amounts of the equity component, the principal amount of the liability component, its unamortized discount, and its net carrying amount are as follows:

 

 

 

September 30, 2009

 

December 31, 2008

 

Carrying amount of equity component

 

$

19,726

 

$

21,779

 

 

 

 

 

 

 

Principal amount of liability component

 

$

95,163

 

$

209,663

 

Unamortized discount

 

(4,639

)

(13,031

)

Net carrying amount of liability component

 

$

90,524

 

$

196,632

 

 

The discount will be amortized over the remaining period of the debt through its first redemption date (April 1, 2012).  The effective interest rate on the liability component is 5.75%.  The amount of interest cost recognized relating to the contractual interest rate and the amortization of the discount on the liability component is as follows:

 

 

 

Three Months Ended September 30,

 

Nine Months Ended September 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

Contractual interest

 

$

870

 

$

2,266

 

$

3,723

 

$

6,798

 

Amortization of discount

 

430

 

1,059

 

1,834

 

3,147

 

Total interest expense recognized

 

$

1,300

 

$

3,325

 

$

5,557

 

$

9,945

 

 

Repurchases of Notes

 

FSP APB 14-1 (ASC 470-20) requires that the value of the consideration paid to repurchase the Notes be allocated (1) to the extinguishment of the liability component and (2) the reacquisition of the equity component.  The amount allocated to the extinguishment of the liability component is equal to the fair value of that component immediately prior to extinguishment.  The difference between the consideration attributed to the extinguishment of the liability component and the sum of (a) the net carrying amount of the repurchased liability component, and (b) the related unamortized debt issuance costs is recognized as a gain on debt extinguishment.  The remaining settlement consideration is allocated to the reacquisition of the equity component of the repurchased Notes, and recognized as a reduction of stockholders’ equity.

 

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Table of Contents

 

Information on the repurchases and the related gains is as follows:

 

 

 

May 2009

 

March 2009

 

October 2008

 

 

 

 

 

 

 

 

 

Principal amount repurchased

 

$

43,000

 

$

71,500

 

$

40,337

 

Amount allocated to:

 

 

 

 

 

 

 

Extinguishment of liability component

 

$

35,000

 

$

43,800

 

$

30,696

 

Reacquisition of equity component

 

1,340

 

713

 

1,025

 

Total cash paid for repurchase

 

$

36,340

 

$

44,513

 

$

31,721

 

 

 

 

 

 

 

 

 

Exchangeable senior notes repurchased

 

$

43,000

 

$

71,500

 

$

40,337

 

Extinguishment of liability component

 

(35,000

)

(43,800

)

(30,696

)

Discount on exchangeable senior notes