Document
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

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

For the quarterly period ended September 30, 2016

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 1-12993

ALEXANDRIA REAL ESTATE EQUITIES, INC.
(Exact name of registrant as specified in its charter)
Maryland
 
95-4502084
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer Identification Number)
 385 East Colorado Boulevard, Suite 299, Pasadena, California 91101
(Address of principal executive offices) (Zip code)

(626) 578-0777
(Registrant’s telephone number, including area code)

N/A
(Former name, former address and former fiscal year, if changed since last report)

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

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

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer ☒
Accelerated filer ☐
Non-accelerated filer ☐   (Do not check if a smaller reporting company)
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 ☐  No ☒

As of October 24, 2016, 79,414,121 shares of common stock, par value $.01 per share, were outstanding.



TABLE OF CONTENTS

 
 
Page
 
 
 
 
FINANCIAL STATEMENTS (UNAUDITED)
 
 
 
 
 
Consolidated Balance Sheets as of September 30, 2016, and December 31, 2015
 
 
 
 
Consolidated Statements of Income for the Three and Nine Months Ended September 30, 2016 and 2015
 
 
 
 
Consolidated Statements of Comprehensive Income for the Three and Nine Months Ended
September 30, 2016 and 2015
 
 
 
 
Consolidated Statement of Changes in Stockholders’ Equity and Noncontrolling Interests for the Nine Months Ended September 30, 2016
 
 
 
 
Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2016 and 2015
 
 
 
 
Notes to Consolidated Financial Statements
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 


i




GLOSSARY

The following abbreviations or acronyms that may be used in this document shall have the adjacent meanings set forth below:

ASU
Accounting Standards Update
ATM
At the Market
BBA
British Bankers’ Association
CIP
Construction in Progress
EPS
Earnings per Share
FASB
Financial Accounting Standards Board
FFO
Funds from Operations
GAAP
U.S. Generally Accepted Accounting Principles
HVAC
Heating, Ventilation, and Air Conditioning
JV
Joint Venture
LEED®
Leadership in Energy and Environmental Design
LIBOR
London Interbank Offered Rate
NAREIT
National Association of Real Estate Investment Trusts
NYSE
New York Stock Exchange
R&D
Research and Development
REIT
Real Estate Investment Trust
RSF
Rentable Square Feet/Foot
SEC
Securities and Exchange Commission
SF
Square Feet/Foot
SoMa
South of Market (submarket of the San Francisco market)
U.S.
United States
VIE
Variable Interest Entity
YTD
Year to Date



ii




PART I – FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS (UNAUDITED)

Alexandria Real Estate Equities, Inc.
Consolidated Balance Sheets
(In thousands)
(Unaudited)
 
September 30, 2016
 
December 31, 2015
Assets
 
 
 
Investments in real estate
$
7,939,179

 
$
7,629,922

Investments in unconsolidated real estate joint ventures
133,580

 
127,212

Cash and cash equivalents
157,928

 
125,098

Restricted cash
16,406

 
28,872

Tenant receivables
9,635

 
10,485

Deferred rent
318,286

 
280,570

Deferred leasing costs
191,765

 
192,081

Investments
320,989

 
353,465

Other assets
206,133

 
133,312

Total assets
$
9,293,901

 
$
8,881,017

 
 
 
 
Liabilities, Noncontrolling Interests, and Equity
 
 
 
Secured notes payable
$
789,450

 
$
809,818

Unsecured senior notes payable
2,377,482

 
2,030,631

Unsecured senior line of credit
416,000

 
151,000

Unsecured senior bank term loans
746,162

 
944,243

Accounts payable, accrued expenses, and tenant security deposits
605,181

 
589,356

Dividends payable
66,705

 
62,005

Total liabilities
5,000,980

 
4,587,053

 
 
 
 
Commitments and contingencies


 


 
 
 
 
Redeemable noncontrolling interests
9,012

 
14,218

 
 
 
 
Alexandria Real Estate Equities, Inc.’s stockholders’ equity:
 
 
 
7.00% Series D cumulative convertible preferred stock
161,792

 
237,163

6.45% Series E cumulative redeemable preferred stock
130,000

 
130,000

Common stock
768

 
725

Additional paid-in capital
3,649,263

 
3,558,008

Accumulated other comprehensive (loss) income
(31,745
)
 
49,191

Alexandria Real Estate Equities, Inc.’s stockholders’ equity
3,910,078

 
3,975,087

Noncontrolling interests
373,831

 
304,659

Total equity
4,283,909

 
4,279,746

Total liabilities, noncontrolling interests, and equity
$
9,293,901

 
$
8,881,017



The accompanying notes are an integral part of these consolidated financial statements.

1




Alexandria Real Estate Equities, Inc.
Consolidated Statements of Income
(In thousands, except per share amounts)
(Unaudited)

 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
Revenues:
 
 
 
 
 
 
 
Rental
$
166,591

 
$
155,311

 
$
486,505

 
$
450,724

Tenant recoveries
58,681

 
56,119

 
165,385

 
154,107

Other income
5,107

 
7,180

 
20,654

 
14,688

Total revenues
230,379

 
218,610

 
672,544

 
619,519

 
 
 
 
 
 
 
 
Expenses:
 
 
 
 
 
 
 
Rental operations
72,002

 
68,846

 
205,164

 
192,319

General and administrative
15,854

 
15,143

 
46,426

 
44,519

Interest
25,850

 
27,679

 
75,730

 
77,583

Depreciation and amortization
77,133

 
67,953

 
218,168

 
189,044

Impairment of real estate
8,114

 
—

 
193,237

 
14,510

Loss on early extinguishment of debt
3,230

 
—

 
3,230

 
189

Total expenses
202,183

 
179,621

 
741,955

 
518,164

 
 
 
 
 
 
 
 
Equity in earnings (losses) of unconsolidated real estate joint ventures
273

 
710

 
(270
)
 
1,825

Income (loss) from continuing operations
28,469


39,699


(69,681
)

103,180

Loss from discontinued operations
—

 
—

 
—

 
(43
)
Gain on sales of real estate – land parcels
90


—


90


—

Net income (loss)
28,559

 
39,699

 
(69,591
)
 
103,137

Net income attributable to noncontrolling interests
(4,084
)

(170
)

(11,614
)

(925
)
Net income (loss) attributable to Alexandria Real Estate Equities, Inc.’s stockholders
24,475

 
39,529

 
(81,205
)
 
102,212

Dividends on preferred stock
(5,007
)
 
(6,247
)
 
(16,388
)
 
(18,740
)
Preferred stock redemption charge
(13,095
)
 
—

 
(25,614
)
 
—

Net income attributable to unvested restricted stock awards
(921
)
 
(623
)
 
(2,807
)
 
(1,736
)
Net income (loss) attributable to Alexandria Real Estate Equities, Inc.’s common stockholders
$
5,452

 
$
32,659

 
$
(126,014
)
 
$
81,736

 
 
 
 
 
 
 
 
Net income (loss) per share attributable to Alexandria Real Estate Equities, Inc.’s common stockholders – basic and diluted:
 
 
 
 
 
 
 
Continuing operations
$
0.07

 
$
0.46

 
$
(1.69
)
 
$
1.14

Discontinued operations
—

 
—

 
—

 
—

Net income (loss) per share
$
0.07

 
$
0.46

 
$
(1.69
)
 
$
1.14

 
 
 
 
 
 
 
 
Dividends declared per share of common stock
$
0.80

 
$
0.77

 
$
2.40

 
$
2.28



The accompanying notes are an integral part of these consolidated financial statements.

2




Alexandria Real Estate Equities, Inc.
Consolidated Statements of Comprehensive Income
(In thousands)
(Unaudited)

 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
Net income (loss)
$
28,559

 
$
39,699

 
$
(69,591
)
 
$
103,137

Other comprehensive (loss) income:
 
 
 
 
 
 
 
Unrealized (losses) gains on available-for-sale equity securities:
 
 
 
 
 
 
 
Unrealized holding (losses) gains arising during the period
(38,621
)
 
(29,832
)
 
(70,055
)
 
54,004

Reclassification adjustment for gains included in net income
(8,540
)
 
(4,968
)
 
(18,627
)
 
(2,503
)
Unrealized (losses) gains on available-for-sale equity securities, net
(47,161
)
 
(34,800
)
 
(88,682
)
 
51,501

 
 
 
 
 
 
 
 
Unrealized gains (losses) on interest rate hedge agreements:
 
 
 
 
 
 
 
Unrealized interest rate hedge gains (losses) arising during the period
2,982

 
(5,474
)
 
(7,655
)
 
(9,712
)
Reclassification adjustment for amortization to interest expense included in net income
1,702

 
727

 
3,725

 
1,942

Unrealized gains (losses) on interest rate hedge agreements, net
4,684

 
(4,747
)
 
(3,930
)
 
(7,770
)
 
 
 
 
 
 
 
 
Unrealized gains (losses) on foreign currency translation:
 
 
 
 
 
 
 
Unrealized foreign currency translation (losses) gains arising during the period
(1,322
)
 
(9,294
)
 
842

 
(17,072
)
Reclassification adjustment for losses included in net income
3,779

 
—

 
10,807

 
9,236

Unrealized gains (losses) on foreign currency translation, net
2,457

 
(9,294
)
 
11,649

 
(7,836
)
 
 
 
 
 
 
 
 
Total other comprehensive (loss) income
(40,020
)
 
(48,841
)
 
(80,963
)
 
35,895

Comprehensive (loss) income
(11,461
)
 
(9,142
)
 
(150,554
)
 
139,032

Less: comprehensive income attributable to noncontrolling interests
(4,081
)
 
(71
)
 
(11,587
)
 
(954
)
Comprehensive (loss) income attributable to Alexandria Real Estate Equities, Inc.'s common stockholders
$
(15,542
)
 
$
(9,213
)
 
$
(162,141
)
 
$
138,078


The accompanying notes are an integral part of these consolidated financial statements.


3




Alexandria Real Estate Equities, Inc.
Consolidated Statement of Changes in Stockholders’ Equity and Noncontrolling Interests
(Dollars in thousands)
(Unaudited)

 
 
Alexandria Real Estate Equities, Inc.’s Stockholders’ Equity
 
 
 
 
 
 
 
 
7.00% Series D
Cumulative
Convertible
Preferred
Stock
 
6.45% Series E
Cumulative
Redeemable
Preferred
Stock
 
Number of
Common
Shares
 
Common
Stock
 
Additional
Paid-In Capital
 
Retained
Earnings
 
Accumulated Other Comprehensive Income (Loss)
 
Noncontrolling
Interests
 
Total
Equity
 
Redeemable
Noncontrolling
Interests
Balance as of December 31, 2015
 
$
237,163

 
$
130,000

 
72,548,693

 
$
725

 
$
3,558,008

 
$
—

 
$
49,191

 
$
304,659

 
$
4,279,746

 
$
14,218

Net (loss) income
 
—

 
—

 
—

 
—

 
—

 
(81,205
)
 
—

 
10,829

 
(70,376
)
 
785

Total other comprehensive loss
 
—

 
—

 
—

 
—

 
—

 
—

 
(80,936
)
 
(27
)
 
(80,963
)
 
—

Redemption of redeemable noncontrolling interests
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
(5,206
)
Distributions to noncontrolling interests
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
(10,181
)
 
(10,181
)
 
(785
)
Issuances of common stock
 
—

 
—

 
3,948,491

 
40

 
367,762

 
—

 
—

 
—

 
367,802

 
—

Issuances pursuant to stock plan
 
—

 
—

 
326,906

 
3

 
28,743

 
—

 
—

 
—

 
28,746

 
—

Sale of and contributions from noncontrolling interests
 
—

 
—

 
—

 
—

 
(537
)
 
—

 
—

 
68,551

 
68,014

 
—

Repurchase of 7.00% Series D preferred stock
 
(75,371
)
 
—

 
—

 
—

 
2,352

 
(25,614
)
 
—

 
—

 
(98,633
)
 
—

Dividends declared on common stock
 
—

 
—

 
—

 
—

 
—

 
(183,858
)
 
—

 
—

 
(183,858
)
 
—

Dividends declared on preferred stock
 
—

 
—

 
—

 
—

 
—

 
(16,388
)
 
—

 
—

 
(16,388
)
 
—

Distributions in excess of earnings
 
—

 
—

 
—

 
—

 
(307,065
)
 
307,065

 
—

 
—

 
—

 
—

Balance as of September 30, 2016
 
$
161,792

 
$
130,000

 
76,824,090

 
$
768

 
$
3,649,263

 
$
—

 
$
(31,745
)
 
$
373,831

 
$
4,283,909

 
$
9,012



The accompanying notes are an integral part of these consolidated financial statements.

4




Alexandria Real Estate Equities, Inc.
Consolidated Statements of Cash Flows
(In thousands)
(Unaudited)

 
Nine Months Ended September 30,
 
2016
 
2015
Operating Activities
 
 
 
Net (loss) income
$
(69,591
)
 
$
103,137

Adjustments to reconcile net (loss) income to net cash provided by operating activities:
 
 
 
Depreciation and amortization
218,168

 
189,044

Loss on early extinguishment of debt
3,230

 
189

Gain on sales of real estate – land parcels
(90
)
 
—

Impairment of real estate
193,237

 
14,510

Equity in losses (earnings) of unconsolidated real estate joint ventures
270

 
(1,825
)
Distributions of earnings from unconsolidated real estate joint ventures
286

 
740

Amortization of loan fees
8,792

 
8,348

Amortization of debt premiums
(117
)
 
(282
)
Amortization of acquired below-market leases
(2,905
)
 
(5,121
)
Deferred rent
(30,679
)
 
(34,421
)
Stock compensation expense
19,007

 
12,922

Investment gains
(28,721
)
 
(22,368
)
Investment losses
10,670

 
11,157

Changes in operating assets and liabilities:
 
 
 
Restricted cash
(278
)
 
24

Tenant receivables
843

 
380

Deferred leasing costs
(21,621
)
 
(47,725
)
Other assets
(14,813
)
 
(13,721
)
Accounts payable, accrued expenses, and tenant security deposits
6,163

 
31,423

Net cash provided by operating activities
291,851

 
246,411

 
 
 
 
Investing Activities
 
 
 
Proceeds from sales of real estate (Note 3)
27,332

 
92,455

Additions to real estate
(638,568
)
 
(362,215
)
Purchase of real estate
(18,108
)
 
(248,933
)
Deposits for investing activities
(54,998
)
 
(6,707
)
Investments in unconsolidated real estate joint ventures
(6,924
)
 
(7,979
)
Additions to investments
(68,384
)
 
(67,965
)
Sales of investments
35,295

 
39,590

Repayment of notes receivable
9,054

 
4,264

Net cash used in investing activities
$
(715,301
)
 
$
(557,490
)

5




Alexandria Real Estate Equities, Inc.
Consolidated Statements of Cash Flows
(In thousands)
(Unaudited)

 
Nine Months Ended September 30,
 
2016
 
2015
Financing Activities
 
 
 
Borrowings from secured notes payable
$
215,330

 
$
47,375

Repayments of borrowings from secured notes payable
(234,096
)
 
(12,217
)
Proceeds from issuance of unsecured senior notes payable
348,604

 
—

Borrowings from unsecured senior line of credit
2,349,000

 
1,432,000

Repayments of borrowings from unsecured senior line of credit
(2,084,000
)
 
(893,000
)
Repayments of borrowings from unsecured senior bank term loans
(200,000
)
 
(25,000
)
Change in restricted cash related to financing activities
7,742

 
(4,737
)
Payment of loan fees
(16,499
)
 
(4,182
)
Repurchase of 7.00% Series D preferred stock
(98,633
)
 
—

Proceeds from the issuance of common stock
367,802

 
5,052

Dividends on common stock
(177,966
)
 
(162,280
)
Dividends on preferred stock
(17,487
)
 
(18,740
)
Financing costs paid for sale of noncontrolling interests
(8,093
)
 
—

Contributions from and sale of noncontrolling interests (Note 3)
68,621

 
340

Distributions to and purchase of noncontrolling interests
(62,605
)
 
(62,973
)
Net cash provided by financing activities
457,720

 
301,638

 
 
 
 
Effect of foreign exchange rate changes on cash and cash equivalents
(1,440
)
 
(187
)
 
 
 
 
Net increase (decrease) in cash and cash equivalents
32,830

 
(9,628
)
Cash and cash equivalents as of the beginning of period
125,098

 
86,011

Cash and cash equivalents as of the end of period
$
157,928

 
$
76,383

 
 
 
 
Supplemental Disclosure of Cash Flow Information:
 
 
 
Cash paid during the period for interest, net of interest capitalized
$
58,820

 
$
64,197

 
 
 
 
Non-Cash Investing Activities:
 
 
 
Change in accrued construction
$
23,023

 
$
(7,305
)
Assumption of secured notes payable in connection with purchase of real estate
$
—

 
$
(82,000
)
 
 
 
 
Non-Cash Financing Activities:
 
 
 
Redemption of redeemable noncontrolling interest
$
(5,000
)
 
$
—

Payable for purchase of noncontrolling interest
$
—

 
$
(51,887
)

The accompanying notes are an integral part of these consolidated financial statements.


6

Alexandria Real Estate Equities, Inc.
Notes to Consolidated Financial Statements
(Unaudited)

1.
Background

As used in this quarterly report on Form 10-Q, references to the “Company,” “Alexandria,” “ARE,” “we,” “us,” and “our” refer to Alexandria Real Estate Equities, Inc., and its consolidated subsidiaries.

Alexandria Real Estate Equities, Inc. (NYSE:ARE), is an urban office REIT uniquely focused on world-class collaborative science and technology campuses in AAA innovation cluster locations with a total market capitalization of $13.0 billion and an asset base in North America of 24.5 million square feet as of September 30, 2016. The asset base in North America includes 18.8 million RSF of operating properties and development and redevelopment projects (under construction or pre-construction) and 5.7 million square feet of future ground-up development projects. Alexandria pioneered this niche in 1994 and has since established a significant market presence in key locations, including Greater Boston, San Francisco, New York City, San Diego, Seattle, Maryland, and Research Triangle Park. Alexandria is known for our high-quality and diverse tenant base, with 54% of our total annualized base rent as of September 30, 2016, generated from investment-grade tenants. Alexandria has a longstanding and proven track record of developing Class A properties clustered in urban science and technology campuses that provide its innovative tenants with highly dynamic and collaborative environments that enhance their ability to successfully recruit and retain world-class talent and inspire productivity, efficiency, creativity, and success. We believe these advantages result in higher occupancy levels, longer lease terms, higher rental income, higher returns, and greater long-term asset value. For additional information on Alexandria, please visit www.are.com.

Our asset base in North America (including consolidated and unconsolidated real estate joint ventures) consisted of the following, as of September 30, 2016:
 
 
Square Feet
 
 
Consolidated
 
Unconsolidated
 
Total
Operating properties
 
16,052,751

 
313,407

 
16,366,158

Projects under construction or pre-construction:
 
 
 
 
 
 
Projects to be delivered during the three months ending December 31, 2016
 
366,081

 
100,392

 
466,473

Projects to be delivered in 2017 and 2018
 
1,564,968

 
422,980

 
1,987,948

Development and redevelopment projects
 
1,931,049

 
523,372

 
2,454,421

Operating properties and development and redevelopment projects
 
17,983,800

 
836,779

 
18,820,579

Future value-creation projects
 
5,678,707

 
—

 
5,678,707

Asset base in North America
 
23,662,507

 
836,779

 
24,499,286


As of September 30, 2016:

•
Investment-grade tenants represented 54% of our total annualized base rent;
•
Approximately 97% of our leases (on an RSF basis) were triple net leases, requiring tenants to pay substantially all real estate taxes, insurance, utilities, common area expenses, and other operating expenses (including increases thereto) in addition to base rent;
•
Approximately 95% of our leases (on an RSF basis) contained effective annual rent escalations that were either fixed (generally ranging from 3% to 3.5%) or indexed based on a consumer price index or other index; and
•
Approximately 95% of our leases (on an RSF basis) provided for the recapture of certain capital expenditures (such as HVAC systems maintenance and/or replacement, roof replacement, and parking lot resurfacing) that we believe would typically be borne by the landlord in traditional office leases.

Any references to the number of buildings, square footage, number of leases, occupancy, and tenants, and any amounts derived from these values in the notes to consolidated financial statements are unaudited.


7


2.
Basis of presentation and summary of significant accounting policies (continued)

2.
Basis of presentation and summary of significant accounting policies

We have prepared the accompanying interim consolidated financial statements in accordance with GAAP and in conformity with the rules and regulations of the SEC. In our opinion, the interim consolidated financial statements presented herein reflect all adjustments, of a normal recurring nature, that are necessary to fairly present the interim consolidated financial statements. The results of operations for the interim period are not necessarily indicative of the results that may be expected for the year ending December 31, 2016. These consolidated financial statements should be read in conjunction with the consolidated financial statements and the notes thereto included in our annual report on Form 10-K for the year ended December 31, 2015.

Basis of presentation and consolidation

The accompanying consolidated financial statements include the accounts of Alexandria Real Estate Equities, Inc. and its consolidated subsidiaries. All significant intercompany balances and transactions have been eliminated. Certain prior-period amounts have been reclassified to conform to current-period presentation.

Consolidation

On an ongoing basis, as circumstances indicate the need for reconsideration, we evaluate each legal entity that is not wholly owned by us, under the consolidation guidance, first under the variable interest model, then under the voting model. Our evaluation considers all of our variable interests, including equity ownership, as well as fees paid to us for our involvement in the management of each partially owned entity. The variable interest model applies to entities that meet both of the following criteria:

•
A legal structure has been established to conduct business activities and to hold assets; such entity can be in the form of a partnership, limited liability company, or corporation, among others; and
•
The entity established has variable interests – i.e., it has variable interests that are contractual, such as equity ownership or other financial interests that change with changes in the fair value of the entity’s net assets.

If an entity meets both criteria above, we then evaluate such entity under the variable interest model. If an entity does not meet these criteria, we then evaluate such entity under the voting model or apply other GAAP, such as the cost or equity method of accounting.

Variable interest model

A legal entity is determined to be a VIE if it has any of the following three characteristics:

1)
The entity does not have sufficient equity to finance its activities without additional subordinated financial support;
2)
The entity is established with non-substantive voting rights (i.e., where the entity deprives the majority economic interest holder(s) of voting rights); or
3)
The equity holders, as a group, lack the characteristics of a controlling financial interest. Equity holders meet this criterion if they lack any of the following:
•
The power, through voting rights or similar rights, to direct the activities of the entity that most significantly impact the entity’s economic performance, as evidenced by:
•
Substantive participating rights in day-to-day management of the entity’s activities; or
•
Substantive kick-out rights over the party responsible for significant decisions
•
The obligation to absorb the entity’s expected losses; and
•
The right to receive the entity’s expected residual returns.


8


2.
Basis of presentation and summary of significant accounting policies (continued)

Once we consider the sufficiency of equity and voting rights of each legal entity, we then evaluate the characteristics of the equity holders’ interests, as a group, to see if they qualify as controlling financial interests. Our real estate joint ventures consist of limited partnerships or limited liability companies. For entities structured as limited partnerships or limited liability companies, our evaluation of whether the equity holders (equity partners other than us in each of our real estate joint ventures) lack the characteristics of a controlling financial interest includes the determination of whether the limited partners or non-managing members (the noncontrolling equity holders) lack both substantive participating rights and substantive kick-out rights, defined as follows:

•
Participating rights – provide the noncontrolling equity holders the ability to direct significant financial and operating decisions made in the ordinary course of business that most significantly impact the entity’s economic performance.
•
Kick-out rights – allow the noncontrolling equity holders to remove the general partner or managing member without cause.

If we conclude that any of the three characteristics of a VIE are met, including whether equity holders lack the characteristics of a controlling financial interest because they lack both substantive participating rights and substantive kick-out rights, we also then conclude that the entity is a VIE and evaluate it for consolidation under the variable interest model.

If an entity is determined to be a VIE, we evaluate whether we are the primary beneficiary. The primary beneficiary analysis is a qualitative analysis based on power and benefits. We consolidate a VIE if we have both power and benefits – that is, (i) we have the power to direct the activities of a VIE that most significantly impact the VIE’s economic performance (power), and (ii) we have the obligation to absorb losses of the VIE that could potentially be significant to the VIE, or the right to receive benefits from the VIE that potentially could be significant to the VIE (benefits). We consolidate VIEs whenever we determine that we are the primary beneficiary. Refer to Note 3 – “Investments in Real Estate” to these unaudited consolidated financial statements for information on specific real estate joint ventures that qualify as VIEs. If we have a variable interest in a VIE but we are not the primary beneficiary, we account for our investment using the equity method of accounting.

Voting model

If a legal entity fails to meet any of the three characteristics of a VIE (insufficiency of equity, non-substantive voting rights, or lack of controlling financial interest), we then evaluate such entity under the voting model. Under the voting model, we consolidate the entity if we determine that we, directly or indirectly, have greater than 50% of the voting shares, and we determine that other equity holders do not have substantive participating rights. Refer to Note 4 – “Investments in Unconsolidated Real Estate Joint Ventures” to these unaudited consolidated financial statements for further information on our unconsolidated real estate joint ventures that qualify for evaluation under the voting model.

Use of estimates

The preparation of consolidated financial statements in conformity with GAAP requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, and equity; the disclosure of contingent assets and liabilities as of the date of the consolidated financial statements; and the amounts of revenues and expenses during the reporting period. Actual results could materially differ from those estimates.


9


2.
Basis of presentation and summary of significant accounting policies (continued)

Investments in real estate and properties classified as held for sale

We recognize real estate acquired (including the intangible value of acquired above- or below-market leases, acquired in-place leases, tenant relationships, and other intangible assets or liabilities), liabilities assumed, and any noncontrolling interest in an acquired entity at their fair value as of the acquisition date. If there is a bargain fixed-rate renewal option for the period beyond the non-cancelable lease term of an in-place lease, we evaluate factors such as the business conditions in the industry in which the lessee operates, the economic conditions in the area in which the property is located, and the ability of the lessee to sublease the property during the renewal term, in order to determine the likelihood that the lessee will renew. When we determine there is reasonable assurance that such bargain purchase option will be exercised, we consider its impact in determining the intangible value of such lease and its related amortization period. The value of tangible assets acquired is based upon our estimation of value on an “as if vacant” basis. The value of acquired in-place leases includes the estimated costs during the hypothetical lease-up period and other costs that would have been incurred in the execution of similar leases under the market conditions at the acquisition date of the acquired in-place lease. We assess the fair value of tangible and intangible assets based on numerous factors, including estimated cash flow projections that utilize appropriate discount and capitalization rates and available market information. Estimates of future cash flows are based on a number of factors, including the historical operating results, known trends, and market/economic conditions that may affect the property. We also recognize the fair values of assets acquired, the liabilities assumed, and any noncontrolling interest in acquisitions of less than a 100% interest when the acquisition constitutes a change in control of the acquired entity. Acquisition-related costs related to the acquisition of businesses, including real estate acquired with in-place leases, are expensed as incurred.

The values allocated to buildings and building improvements, land improvements, tenant improvements, and equipment are depreciated on a straight-line basis using the shorter of the term of the respective ground lease and up to 40 years for buildings and building improvements, an estimated life of up to 20 years for land improvements, the respective lease term for tenant improvements, and the estimated useful life for equipment. The values of acquired above- and below-market leases are amortized over the terms of the related leases and recognized as either an increase (for below-market leases) or a decrease (for above-market leases) to rental revenue. The values of acquired above- and below-market ground leases are amortized over the terms of the related ground leases and recognized as either an increase (for below-market ground leases) or a decrease (for above-market ground leases) to rental operating expense. The values of acquired in-place leases are classified in other assets in the accompanying consolidated balance sheets and amortized over the remaining terms of the related leases.

We capitalize project costs, including predevelopment costs, interest, property taxes, insurance, and other costs directly related and essential to the development, redevelopment, predevelopment, or construction of a project. Capitalization of development, redevelopment, predevelopment, and construction costs is required while activities are ongoing to prepare an asset for its intended use. Fluctuations in our development, redevelopment, predevelopment, and construction activities could result in significant changes to total expenses and net income. Costs incurred after a project is substantially complete and ready for its intended use are expensed as incurred. Should development, redevelopment, predevelopment, or construction activity cease, interest, property taxes, insurance, and certain other costs would no longer be eligible for capitalization and would be expensed as incurred. Expenditures for repairs and maintenance are expensed as incurred.

A property is classified as held for sale when all of the following criteria for a plan of sale have been met: (i) management, having the authority to approve the action, commits to a plan to sell the property; (ii) the property is available for immediate sale in its present condition, subject only to terms that are usual and customary; (iii) an active program to locate a buyer and other actions required to complete the plan to sell have been initiated; (iv) the sale of the property is probable and is expected to be completed within one year; (v) the property is being actively marketed for sale at a price that is reasonable in relation to its current fair value; and (vi) actions necessary to complete the plan of sale indicate that it is unlikely that significant changes to the plan will be made or that the plan will be withdrawn. Depreciation of assets ceases upon designation of a property as held for sale.

If the disposal of the property represents a strategic shift that has (or will have) a major effect on our operations or financial results, such as (i) a major line of business, (ii) a major geographic area, (iii) a major equity method investment, or (iv) other major parts of an entity, then the operations of the property, including any interest expense directly attributable to it, are classified as discontinued operations in our consolidated statements of income, and amounts for all prior periods presented are reclassified from continuing operations to discontinued operations. The disposal of an individual property generally will not represent a strategic shift and, therefore, will typically not meet the criteria for classification as discontinued operations.


10


2.
Basis of presentation and summary of significant accounting policies (continued)

Impairment of long-lived assets

On a quarterly basis, we review current activities and changes in the business conditions of all of our properties prior to and subsequent to the end of each quarter to determine the existence of any triggering events requiring an impairment analysis. If triggering events are identified, we review an estimate of the future undiscounted cash flows for the properties, including, if necessary, a probability-weighted approach if multiple outcomes are under consideration.

Long-lived assets to be held and used, including our rental properties, CIP, land held for development, and intangibles, are individually evaluated for impairment when conditions exist that may indicate that the carrying amount of a long-lived asset may not be recoverable. The carrying amount of a long-lived asset to be held and used is not recoverable if it exceeds the sum of the undiscounted cash flows expected to result from the use and eventual disposition of the asset. Impairment indicators or triggering events for long-lived assets to be held and used, including our rental properties, CIP, land held for development, and intangibles, are assessed by project and include significant fluctuations in estimated rental revenues less rental operating expenses, occupancy changes, significant near-term lease expirations, current and historical operating and/or cash flow losses, construction costs, estimated completion dates, rental rates, and other market factors. We assess the expected undiscounted cash flows based upon numerous factors, including, but not limited to, construction costs, available market information, current and historical operating results, known trends, current market/economic conditions that may affect the property, and our assumptions about the use of the asset, including, if necessary, a probability-weighted approach if multiple outcomes are under consideration. Upon determination that an impairment has occurred, a write-down is recognized to reduce the carrying amount to its estimated fair value. If an impairment loss is not required to be recognized, the recognition of depreciation is adjusted prospectively, as necessary, to reduce the carrying amount of the real estate to its estimated disposition value over the remaining period that the real estate is expected to be held and used. We may adjust depreciation of properties that are expected to be disposed of or redeveloped prior to the end of their useful lives.

We use the held for sale impairment model for our properties classified as held for sale. The held for sale impairment model is different from the held and used impairment model. Under the held for sale impairment model, an impairment loss is recognized if the carrying amount of the long-lived asset classified as held for sale exceeds its fair value less cost to sell. Because of these two different models, it is possible for a long-lived asset previously classified as held and used to require the recognition of an impairment charge upon classification as held for sale.

Investments

We hold equity investments in certain publicly traded companies and investments in certain privately held entities and limited partnerships primarily involved in the science and technology industries. All of our equity investments in actively traded public companies are considered available-for-sale and are reflected in the accompanying consolidated balance sheets at fair value. Fair value has been determined based upon the closing price as of each balance sheet date, with unrealized gains and losses shown as a separate component of other comprehensive income. The classification of each investment is determined at the time each investment is made, and such determination is reevaluated at each balance sheet date. The cost of each investment sold is determined by the specific identification method, with realized gains or losses classified in other income in the accompanying consolidated statements of income. Investments in privately held entities are generally accounted for under the cost method when our interest in the entity is so minor that we have virtually no influence over the entity’s operating and financial policies. Certain investments in privately held entities require accounting under the equity method unless our interest in the entity is deemed to be so minor that we have virtually no influence over the entity’s operating and financial policies. Under the equity method of accounting, we recognize our investment initially at cost and adjust the carrying amount of the investment to recognize our share of the earnings or losses of the investee subsequent to the date of our investment. Additionally, we limit our ownership percentage in the voting stock of each individual entity to less than 10%. As of September 30, 2016, and December 31, 2015, our ownership percentage in the voting stock of each individual entity was less than 10%.

We monitor each of our investments throughout the year for new developments, including operating results, results of clinical trials, capital-raising events, and merger and acquisition activities. Individual investments are evaluated for impairment when changes in conditions may indicate an impairment exists. The factors that we consider in making these assessments include, but are not limited to, market prices, market conditions, available financing, prospects for favorable or unfavorable clinical trial results, new product initiatives, and new collaborative agreements. If there are no identified events or changes in circumstances that might have an adverse effect on our cost method investments, we do not estimate the investment’s fair value. For all of our investments, if a decline in the fair value of an investment below the carrying value is determined to be other than temporary, such investment is written down to its estimated fair value with a charge to current earnings.


11


2.
Basis of presentation and summary of significant accounting policies (continued)

Recognition of rental revenue and tenant recoveries

Rental revenue from leases is recognized on a straight-line basis over the respective lease terms. We classify amounts currently recognized as revenue, and expected to be received in later years, as deferred rent in the accompanying consolidated balance sheets. Amounts received currently but recognized as revenue in future years are classified in accounts payable, accrued expenses, and tenant security deposits in the accompanying consolidated balance sheets. We commence recognition of rental revenue at the date the property is ready for its intended use and the tenant takes possession of or controls the physical use of the property.

Tenant recoveries related to reimbursement of real estate taxes, insurance, utilities, repairs and maintenance, common area expenses, and other operating expenses are recognized as revenue in the period during which the applicable expenses are incurred.

Tenant receivables consist primarily of amounts due for contractual lease payments, reimbursements of common area maintenance expenses, property taxes, and other expenses recoverable from tenants. Tenant receivables are expected to be collected within one year. We may maintain an allowance for estimated losses that may result from the inability of our tenants to make payments required under the terms of the lease and for tenant recoveries due. If a tenant fails to make contractual payments beyond any allowance, we may recognize additional bad debt expense in future periods equal to the amount of uncollectible tenant receivables and deferred rent arising from the straight-lining of rent. As of September 30, 2016, and December 31, 2015, we had no allowance for uncollectible tenant receivables and deferred rent.

Monitoring tenant credit quality

During the term of each lease, we monitor the credit quality of our tenants by (i) monitoring the credit rating of tenants that are rated by a nationally recognized credit rating agency, (ii) reviewing financial statements of the tenants that are publicly available or that are required to be delivered to us pursuant to the applicable lease, (iii) monitoring news reports regarding our tenants and their respective businesses, and (iv) monitoring the timeliness of lease payments. We have a research team consisting of employees who, among them, have graduate and undergraduate degrees in biology, chemistry, and industrial biotechnology and experience in the science and technology industries, as well as in finance. Our research team is responsible for assessing and monitoring the credit quality of our tenants and any material changes in their credit quality.

Income taxes

We are organized and qualify as a REIT pursuant to the Internal Revenue Code (the “Code”). Under the Code, a REIT that distributes at least 90% of its REIT taxable income to its shareholders annually and meets certain other conditions is not subject to federal income taxes but could be subject to certain state and local taxes. We distribute 100% of our taxable income annually; therefore, a provision for federal income taxes is not required. In addition to our REIT returns, we file federal, state, and local tax returns for our subsidiaries. We file with jurisdictions located in the U.S., Canada, India, China, and other international locations. Our tax returns are subject to routine examination in various jurisdictions for the 2010-2015 calendar years.

Other income

The following is a summary of other income in the accompanying consolidated statements of income for the three and nine months ended September 30, 2016 and 2015 (in thousands):

 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
 
2016
 
2015
 
2016
 
2015
Management fee income
 
$
46

 
$
530

 
$
380

 
$
1,341

Interest and other income
 
795

 
1,272

 
2,223

 
2,136

Investment income
 
4,266

 
5,378

 
18,051

 
11,211

Total other income
 
$
5,107

 
$
7,180

 
$
20,654

 
$
14,688



12


2.
Basis of presentation and summary of significant accounting policies (continued)

Recent accounting pronouncements

On January 1, 2016, we adopted an ASU that requires debt issuance costs, excluding debt issuance costs associated with a line of credit, to be classified in our consolidated balance sheet as a direct deduction from the face amount of the related debt. As a result of adopting the ASU, unamortized deferred financing costs aggregating $30.1 million as of January 1, 2016, were classified with the corresponding debt instrument appearing on our consolidated balance sheet, and deferred financing costs related to our unsecured senior line of credit, aggregating $11.9 million as of January 1, 2016, were classified in other assets. The ASU was applied retrospectively to all prior periods presented in the financial statements. The adoption of this ASU had no impact on our consolidated statements of income.

In January 2016, the FASB issued an ASU that amended the accounting for equity investments and the presentation and disclosure requirements for financial instruments. The ASU requires equity investments that have a readily determinable fair value (except those accounted for under the equity method of accounting or that result in consolidation) to be measured at fair value, with the changes in fair value recognized in earnings. Available-for-sale equity securities that under current GAAP require the recognition of unrealized gains and losses in other comprehensive income will no longer be permitted. An election will be available to measure equity investments without a readily determinable fair value at cost less impairments, plus or minus changes resulting from observable price changes in orderly transactions for an identical or similar investment of the same issuer. Changes in the carrying value from this measurement will also be reported in current earnings. A cumulative-effect adjustment will be recorded to the beginning balance of retained earnings in the reporting period in which the guidance is adopted. The ASU is effective for fiscal years beginning after December 15, 2017. As of September 30, 2016, we had $28.9 million of net unrealized gains related to our available-for-sale equity securities in publicly traded companies included in accumulated other comprehensive income in our consolidated balance sheets.

In February 2016, the FASB issued an ASU that sets out the principles for the recognition, measurement, presentation, and disclosure of leases for both parties to a contract (i.e., lessees and lessors). The ASU requires lessees to apply a dual approach, classifying leases as either finance or operating leases based on the principle of whether or not the lease is effectively a financed purchase of the leased asset by the lessee. This classification will determine whether the lease expense is recognized based on an effective interest method or on a straight-line basis over the term of the lease. A lessee is also required to record a right-of-use asset and a lease liability for all leases with a term of greater than 12 months regardless of their classification. Leases with a term of 12 months or less will be accounted for similar to existing guidance for operating leases today. The ASU is expected to impact our consolidated financial statements as we have certain operating ground lease arrangements for which we are the lessee. As of September 30, 2016, the remaining contractual payments under our ground lease agreements aggregated $607.3 million. Additionally, the new ASU will require that lessees and lessors capitalize, as initial direct costs, only those costs that are incurred due to the execution of a lease. Under this ASU, allocated payroll costs and other costs that are incurred regardless of whether the lease is obtained will no longer be capitalized as initial direct costs and instead will be expensed as incurred. Lessors will continue to account for leases using an approach that is substantially equivalent to existing guidance for sales-type leases, direct financing leases, and operating leases. The ASU is effective for reporting periods beginning after December 15, 2018, with early adoption permitted. The standard permits the use of either the retrospective or modified retrospective transition method. We are currently assessing the potential impact that the adoption of the ASU will have on our consolidated financial statements.

In March 2016, the FASB issued an ASU that further clarifies an ASU issued in 2014 on recognition of revenue arising from contracts with customers. The core principle underlying this ASU is that entities will recognize revenue to represent the transfer of goods and services to customers in an amount that reflects the consideration to which the entity expects to be entitled to in such exchange. Leases are specifically excluded from this ASU and will be governed by the applicable lease codification; however, this update may have implications in certain variable payment terms included in lease agreements and in sale and leaseback transactions. The ASU is effective for interim and annual reporting periods in fiscal years that begin after December 15, 2017. We are currently assessing the potential impact the adoption of this ASU will have on our consolidated financial statements.

In June 2016, the FASB issued an ASU that changes the impairment model for most financial instruments by requiring companies to recognize an allowance for expected losses, rather than incurred losses as required currently by the other-than-temporary impairment model. The ASU will apply to most financial assets measured at amortized cost and certain other instruments, including trade and other receivables, loans, held-to-maturity debt securities, net investments in leases, and off-balance-sheet credit exposures (e.g., loan commitments). The ASU is effective for reporting periods beginning after December 15, 2019, with early adoption permitted, and will be applied as a cumulative adjustment to retained earnings as of the effective date. We are currently assessing the potential impact the adoption of this ASU will have on our consolidated financial statements.


13


2.
Basis of presentation and summary of significant accounting policies (continued)

In August 2016, the FASB issued an ASU that provides guidance on classification of cash distributions received from equity method investments, including unconsolidated joint ventures. The ASU provides two approaches to determine the classification of cash distributions received: i) the “cumulative earnings” approach, under which distributions up to the amount of cumulative equity in earnings recognized will be classified as cash inflows from operating activities, and those in excess of that amount will be classified as cash inflows from investing activities, and ii) the “nature of the distribution” approach, under which distributions will be classified based on the nature of the underlying activity that generated cash distributions. Companies will elect either the “cumulative earnings” or the “nature of the distribution” approach. Entities that elect the “nature of the distribution” approach but lack the information to apply it will apply the cumulative earnings approach as an accounting change on a retrospective basis. The ASU is effective for reporting periods beginning after December 15, 2017, with early adoption permitted, and will be applied retrospectively (exceptions apply). During the nine months ended September 30, 2016, operating distributions received from our equity method investees aggregated approximately $286 thousand and were classified as cash inflows from operating activities on our consolidated statements of cash flows. We expect to continue to utilize the “nature of the distribution” approach to classify distributions from our equity method investees after the adoption of this ASU.


14




3.
Investments in real estate

Our consolidated investments in real estate consisted of the following as of September 30, 2016, and December 31, 2015 (in thousands):
 
 
September 30, 2016
 
December 31, 2015
North America:
 
 
 
 
Land (related to rental properties)
 
$
763,794

 
$
677,649

Buildings and building improvements
 
7,109,271

 
6,644,634

Other improvements
 
371,888

 
260,605

Rental properties
 
8,244,953

 
7,582,888

 
 
 
 
 
Development and redevelopment projects (under construction or pre-construction)
 
875,717

 
917,706

Future value-creation projects
 
238,728

 
206,939

Value-creation pipeline
 
1,114,445

 
1,124,645

 
 
 
 
 
Gross investments in real estate – North America
 
9,359,398

 
8,707,533

 
 
 
 
 
Less: accumulated depreciation
 
(1,473,064
)
 
(1,299,548
)
Net investments in real estate – North America
 
7,886,334

 
7,407,985

Net investments in real estate – Asia
 
52,845

(1) 
221,937

Investments in real estate
 
$
7,939,179

 
$
7,629,922


(1)
Refer to “Assets located in Asia” in Note 14 – “Assets Classified as Held for Sale” to these unaudited consolidated financial statements for further information.

Acquisitions

In June 2016, we entered into a definitive agreement to acquire One Kendall Square, a 644,771 RSF, seven-building collaborative science and technology campus located in our Cambridge urban innovation cluster submarket in Greater Boston. One Kendall Square also includes an entitled land parcel providing for a near-term ground-up development of a new 172,500 square foot building. The purchase price is $725.0 million, including the assumption of a $203.0 million secured note payable. The secured note payable has a maturity date of February 2024, and a contractual interest rate of 4.82%. We are in the process of obtaining approval by the lender for the assumption of the secured note payable and expect to close the One Kendall Square acquisition in the fourth quarter of 2016. The One Kendall Square acquisition is subject to customary closing conditions, and there is no assurance that the One Kendall Square acquisition will be completed, or will be completed in the time frame, on the terms or in the manner currently anticipated. Refer to “Forward Equity Sales Agreements” in Note 12 – “Stockholders’ Equity” to these unaudited consolidated financial statements for further discussion.

In October 2016, we acquired Torrey Ridge Science Center, a 294,993 RSF, three-building collaborative life science campus located in the heart of our Torrey Pines submarket of San Diego for a purchase price of $182.5 million. The campus is 87.1% occupied and we expect an initial stabilized cash yield of 6.8% at stabilization in the first half of 2018 upon completion of near-term renewals/re-leasing of acquired below-market leases and the conversion of 75,953 RSF existing shell and office space into office/laboratory space.

We have an executed agreement for the acquisition of 88 Bluxome Street in our Mission Bay/SoMa submarket of San Francisco for a purchase price of $140.0 million. We are pursuing entitlements for the ground-up development of 1,070,925 RSF, which represents estimated total anticipated RSF upon completion of entitlements for construction of two office buildings in separate phases. The closing date of this acquisition may be deferred to the first quarter of 2017. Upon completion of the acquisition, the seller may lease the property for a term of one year or more depending on certain factors.


15


3.
Investments in real estate (continued)

Investments in consolidated real estate joint ventures

In June 2016, we entered into a joint venture agreement with an institutional investor, TIAA Global Asset Management and affiliates (“TIAA”), to sell a 45% partial interest in 10290 Campus Point Drive, a 304,326 RSF redevelopment project in our University Town Center submarket of San Diego, 100% leased to Eli Lilly and Company.

The sale of a partial interest in 10290 Campus Point Drive closed on June 29, 2016. Gross proceeds received from our partner as a result of the sale of a partial interest in 10290 Campus Point Drive through September 30, 2016, were $68.6 million. We retained a controlling interest in the joint venture following the sale and, therefore, continued to consolidate this entity. As a result, we accounted for the proceeds received as an equity financing transaction. The difference of $537 thousand between the aggregate proceeds of $68.6 million received through September 30, 2016, and our cost basis of $68.0 million was recorded as a reduction to additional paid-in capital. This transaction did not qualify as a sale of real estate and did not result in purchase accounting adjustments to the carrying value. Accordingly, the carrying amounts of our partner’s share of assets and liabilities are reported at historical cost. Our partner is expected to fund substantially all of the remaining costs to complete the redevelopment at 10290 Campus Point Drive and other construction costs of common areas in the campus. We expect to receive additional proceeds from our partner aggregating $37.7 million, which will be used to fund construction.

Additionally, in June 2016, we entered into a separate joint venture agreement with TIAA to sell a 45% partial interest in 10300 Campus Point Drive in our University Town Center submarket of San Diego, consisting of 449,759 RSF primarily leased to Celgene Corporation, Eli Lilly and Company, and The Regents of the University of California. The sale of a partial interest in 10300 Campus Point Drive is expected to close in the fourth quarter of 2016. Total gross proceeds from this sale are estimated to be $150.0 million and are expected to be received primarily in the fourth quarter of 2016.

As of September 30, 2016, we have four real estate joint ventures with TIAA, which are VIEs. Through these joint ventures, we own partial interests in the following Class A properties: (i) 225 Binney Street in our Cambridge submarket, (ii) 1500 Owens Street in our Mission Bay/SoMa submarket, (iii) 409/499 Illinois Street in our Mission Bay/SoMa submarket, and (iv) 10290 Campus Point Drive in our University Town Center submarket.

Under each of these real estate joint venture arrangements, we are the managing member and earn a fee for continuing to manage the day-to-day operations of each property and, in the case of 10290 Campus Point Drive, for managing the redevelopment construction of the project.

For each of our joint ventures with TIAA, we first evaluated the partially owned legal entity that owns the property under the variable interest model to determine whether each entity met any of the three characteristics of a VIE, which are as follows:

1)
The entity does not have sufficient equity to finance its activities without additional subordinated financial support.
•
Each joint venture has significant equity at risk to fund its activities, as the ventures are primarily capitalized by contributions from the members and could obtain, if necessary, non-recourse commercial financing arrangements on customary terms.

2)
The entity is established with non-substantive voting rights.
•
The voting rights of each joint venture require both members to approve major decisions, which results in voting rights that are disproportionate to the members’ economic interest. However, the activities of each joint venture are conducted on behalf of both members, so the voting rights, while disproportionate, are substantive.

3)
The equity holders, as a group, lack the characteristics of a controlling financial interest, as evidenced by lack of substantive kick-out rights or substantive participating rights.
•
The institutional investor lacks substantive kick-out rights as it may not remove us as the managing member without cause.
•
The institutional investor also lacks substantive participating rights as day-to-day control is vested in us as the managing member and the major decisions that require unanimous consent are primarily protective in nature.

Based on the analysis detailed in Note 2 – “Basis of Presentation and Summary of Significant Accounting Policies” to these unaudited consolidated financial statements, the institutional investor, as the non-managing member of each of the four joint ventures, lacks the characteristics of a controlling financial interest in each of the joint ventures because it does not have substantive kick-out rights or substantive participating rights. Therefore, the joint ventures meet the criteria to be considered VIEs and accordingly, are evaluated for consolidation under the VIE model.

16


3.
Investments in real estate (continued)


After determining that these joint ventures are VIEs, we determined that we are the primary beneficiary of each real estate joint venture, as, in our capacity as managing member, we have the power to make decisions that most significantly impact operations and economic performance of the joint ventures. In addition, through our investment in each joint venture, we have the right to receive benefits and participate in losses that can be significant to the VIEs. Based on this evaluation, we concluded that we are the primary beneficiary of each joint venture, and therefore, we consolidate each entity.

The following table aggregates the balance sheet information of our consolidated VIEs as of September 30, 2016 and December 31, 2015 (in thousands):
 
 
September 30, 2016
 
December 31, 2015
Investments in real estate
 
$
802,266

 
$
608,474

Cash and cash equivalents
 
37,566

 
2,060

Other assets
 
40,863

 
37,633

Total assets
 
$
880,695

 
$
648,167

 
 
 
 
 
Secured notes payable
 
$
—

 
$
—

Other liabilities
 
75,865

 
38,666

Total liabilities
 
75,865

 
38,666

Alexandria Real Estate Equities, Inc.’s share of equity
 
432,735

 
307,220

Noncontrolling interests’ share of equity
 
372,095

 
302,281

Total liabilities and equity
 
$
880,695

 
$
648,167

 
 
 
 
 

In determining whether to aggregate the balance sheet information of our consolidated VIEs, we considered the
similarity of each VIE, including the primary purpose of these entities to own, manage, operate, and lease real estate properties owned by the VIEs, and the similar nature of our involvement in each VIE as a managing member. Due to the similarity of the characteristics of each VIE, we present the balance sheet information of these entities on an aggregated basis.

There are no creditors or other partners of our consolidated VIEs who have recourse to our general credit. Our maximum exposure to all our VIEs is limited to our variable interests in each VIE.

Purchase of noncontrolling interest

During the nine months ended September 30, 2016, we completed the purchase of the remaining outstanding noncontrolling interest in our campus at Alexandria Technology Square® in our Cambridge submarket. For additional information, refer to Note 13 – “Noncontrolling Interests” to these unaudited consolidated financial statements.

Sale of real estate assets and related impairment charges

In April 2016, we completed the sale of a 71,000 RSF R&D/warehouse property, located at 16020 Industrial Drive in our Gaithersburg submarket of Maryland, for approximately $6.4 million at no gain or loss.

In May 2016, management committed to the sale of a 4.6-acre land parcel, located at 14 Firstfield Road in our Gaithersburg submarket of Maryland and evaluated the asset under the held for sale impairment model. Accordingly, we assessed the fair value of the property and determined that the carrying value of the property exceeded its fair value. As a result, we recognized an impairment charge of $863 thousand in May 2016. In June 2016, we completed the sale of the property for approximately $3.5 million at no gain or loss.

In September 2016, we sold land parcels aggregating 1.3 acres in our non-cluster market in North America for approximately $5.2 million and recognized a gain of $90 thousand in connection with this sale.

For information on assets held for sale and assets sold in Asia, refer to “Assets Located in Asia” in Note 14 – “Assets Classified as Held for Sale” to these unaudited consolidated financial statements.


17




4.
Investments in unconsolidated real estate joint ventures

360 Longwood Avenue

We have a 27.5% effective interest in this real estate joint venture that is currently developing a building aggregating 413,799 RSF in our Longwood Medical Area submarket of Greater Boston. The cost at completion for this real estate project is expected to be approximately $350 million. As of September 30, 2016, the joint venture had 313,407 RSF, or 76% of the project, leased and in service. Our equity investment in this real estate joint venture was $50.2 million as of September 30, 2016. The real estate joint venture has a non-recourse, secured construction loan (“Longwood Construction Loan”) that includes the following key terms (dollars in thousands):
Tranche
 
Maturity Date
 
Stated Rate
 
Outstanding Balance
 
Remaining Commitments
 
Total
Fixed rate
 
April 1, 2017
(1 
) 
 
5.25
%
 
 
$
173,226

 
$
2,015

 
$
175,241

Floating rate (2)
 
April 1, 2017
(1 
) 
 
L+3.75
%
 
 
8,081

 
29,878

 
37,959

 
 
 
 
 
 
 
 
181,307

 
$
31,893

 
$
213,200

Unamortized deferred financing costs
 
 
 
 
 
 
 
235

 
 
 
 
 
 
 
 
 
 
 
 
$
181,072

 
 
 
 

(1)
We have two, one-year options to extend the stated maturity date to April 1, 2019, subject to certain conditions.
(2)
Borrowings under the floating rate tranche have an interest rate floor equal to 5.25%, and are subject to an interest rate cap on LIBOR of 3.50%.

1455/1515 Third Street

We have a real estate joint venture with an affiliate of Uber Technologies, Inc. (“Uber”), for the development of two buildings aggregating 422,980 RSF at 1455/1515 Third Street in our Mission Bay/SoMa submarket of San Francisco. We have a 51% interest, and Uber has a 49% interest, in this real estate joint venture. The project is 100% leased to Uber for a 15-year term. Our equity investment in the real estate joint venture aggregated $83.4 million as of September 30, 2016.

As described in Note 2 – “Basis of Presentation and Summary of Significant Accounting Policies” to these unaudited consolidated financial statements, we evaluate each of our unconsolidated real estate joint ventures, which are limited liability companies, using the consolidation guidance under the variable interest model first, and then under the voting model if the entity is not a VIE. We evaluated our 360 Longwood Avenue joint venture (27.5% interest held by the Company) and our 1455/1515 Third Street joint venture (51% interest held by the Company) under the variable interest model, based upon the following characteristics of a VIE:

1)
The entity does not have sufficient equity to finance its activities without additional subordinated financial support.
•
360 Longwood Avenue – This entity has significant equity and non-recourse financing in place to fund the remainder of the development.
•
1455/1515 Third Street – This entity has significant equity, and non-recourse financing is available, to fund the remainder of the development.

2)
The entity is established with non-substantive voting rights.
•
360 Longwood Avenue – Our 27.5% economic interest in 360 Longwood Avenue consists of an interest in a real estate joint venture with a development partner. The joint venture with our development partner holds an interest in the property with an institutional investor. Our development partner is responsible for the day-to-day management of construction and development activities, and we are responsible for the day-to-day administrative operations of components of the property once it is placed into service following development completion. At the property level, all major decisions (including the development plan, annual budget, leasing plan, and financing plan) require approval of all three investors. Although voting rights within the structure are disproportionate to the members’ economic interests, the activities of the ventures are conducted on behalf of all members, and therefore, the voting rights, while disproportionate, are substantive.

18


4.
Investments in unconsolidated real estate joint ventures (continued)


•
1455/1515 Third Street – We hold a 51% economic interest in this real estate joint venture, and our joint venture partner holds a 49% economic interest. However, both members are required to approve major decisions, resulting in equal voting rights. Although voting rights within the structure are disproportionate to the members’ economic interests, the activities of the ventures are conducted on behalf of both members, and therefore, the voting rights, while disproportionate, are substantive.

3)
The equity holders, as a group, lack the characteristics of a controlling financial interest, as evidenced by lack of substantive kick-out rights or substantive participating rights.
•
360 Longwood Avenue – The other members have significant participating rights, including the day-to-day management of development activities and the participation in decisions related to the operations of the property.
•
1455/1515 Third Street – Our joint venture partner has significant participating rights, including joint decision making for the design of the project, overall development costs, future potential financing and operating activities of the joint venture, and disposal of the assets held by the joint venture.

Since the joint ventures do not meet the VIE criteria, we determined that these entities do not qualify for evaluation under the VIE model. Therefore, we evaluate each of these joint ventures under the voting model. Under the voting model, we consolidate the entity if we determine that we, directly or indirectly, have greater than 50% of the voting shares and that noncontrolling equity holders do not have substantive participating rights.

For our 360 Longwood Avenue joint venture, our interest is limited to 27.5%, and since we do not have other contractual rights, we account for this joint venture under the equity method of accounting.

For our 1455/1515 Third Street joint venture, both members have substantive participating rights, and therefore, we also account for this joint venture under the equity method of accounting.


19




5.
Investments

We hold equity investments in certain publicly traded companies and investments in certain privately held entities and limited partnerships primarily involved in the science and technology industries. All of our equity investments in actively traded public companies are considered available-for-sale and are reflected in the accompanying consolidated balance sheets at fair value. Our investments in privately held entities are primarily accounted for under the cost method.

Investments in available-for-sale equity securities with gross unrealized losses as of September 30, 2016, had been in a continuous unrealized loss position for less than 12 months. We have the ability and intent to hold these investments for a reasonable period of time sufficient for the recovery of our investment. We believe that these unrealized losses are temporary. Accordingly, there are no other-than-temporary impairments in accumulated other comprehensive income related to available-for-sale equity securities as of September 30, 2016, or December 31, 2015.

The following table summarizes our investments as of September 30, 2016, and December 31, 2015 (in thousands):
 
September 30, 2016
 
December 31, 2015
Available-for-sale equity securities, cost basis
$
40,090

 
$
20,022

Unrealized gains
33,182

 
118,392

Unrealized losses
(4,265
)
 
(793
)
Available-for-sale equity securities, at fair value
69,007

 
137,621

Investments accounted for under cost method
251,982

 
215,844

Total investments
$
320,989

 
$
353,465

    
We periodically assess our investments in privately held companies accounted for under the cost method for other-than-temporary impairment. If a decline in the fair value of an investment below the carrying value is determined to be other than temporary, such investment is written down to its estimated fair value with a charge to current earnings. During the three months ended September 30, 2016, we determined there was an other-than-temporary impairment on certain of our cost method investments and wrote the investment down to fair value. The impairment charge is included in the investment losses for the three and nine months ended September 30, 2016, presented in the table below, which outlines the components of our investment income classified within other income in the accompanying consolidated statements of income (in thousands):
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
Investment gains
$
8,115

 
$
8,658

 
$
28,721

 
$
22,368

Investment losses
(3,849
)
 
(3,280
)
 
(10,670
)
 
(11,157
)
Investment income
$
4,266

 
$
5,378

 
$
18,051

 
$
11,211



20




6.
Other assets

The following table summarizes the components of other assets as of September 30, 2016, and December 31, 2015 (in thousands):
 
September 30, 2016
 
December 31, 2015
Acquired below-market ground leases
$
12,970

 
$
13,142

Acquired in-place leases
24,616

 
27,997

Deferred compensation plan
10,667

 
8,489

Deferred financing costs – $1.65 billion unsecured senior line of credit
15,168

 
11,909

Deposits
75,474

(1) 
3,713

Furniture, fixtures, and equipment, net
13,379

 
13,682

Interest rate hedge assets
180

 
596

Notes receivable
6,876

 
16,630

Prepaid expenses
13,945

 
17,651

Real estate
18,612

 
—

Other assets
14,246

 
19,503

Total
$
206,133

 
$
133,312


(1)
Includes a $60.0 million deposit for the acquisition of One Kendall Square located in our Cambridge urban innovation cluster submarket of Greater Boston.


21

7.
Fair value measurements

We are required to disclose fair value information about all financial instruments, whether or not recognized in the balance sheet, for which it is practicable to estimate fair value. We measure and disclose the estimated fair value of financial assets and liabilities utilizing a fair value hierarchy that distinguishes between data obtained from sources independent of the reporting entity and the reporting entity’s own assumptions about market participant assumptions. This hierarchy consists of three broad levels, as follows: (i) quoted prices in active markets for identical assets or liabilities, (ii) significant other observable inputs, and (iii) significant unobservable inputs. Significant other observable inputs can include quoted prices for similar assets or liabilities in active markets, as well as inputs that are observable for the asset or liability, such as interest rates, foreign exchange rates, and yield curves that are observable at commonly quoted intervals. Significant unobservable inputs are typically based on an entity’s own assumptions, since there is little, if any, related market activity. In instances in which the determination of the fair value measurement is based on inputs from different levels of the fair value hierarchy, the level in the fair value hierarchy within which the entire fair value measurement falls is based on the lowest level of input that is significant to the fair value measurement in its entirety. Our assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment and considers factors specific to the asset or liability. There were no transfers between the levels in the fair value hierarchy during the nine months ended September 30, 2016 and 2015.

The following tables set forth the assets and liabilities that we measure at fair value on a recurring basis by level within the fair value hierarchy as of September 30, 2016, and December 31, 2015 (in thousands):
 
 
 
 
September 30, 2016
Description
 
Total
 
Quoted Prices in
Active Markets
for Identical
Assets
 
Significant
Other
Observable
Inputs
 
Significant
Unobservable
Inputs
Assets:
 
 
 
 
 
 
 
 
Available-for-sale equity securities
 
$
69,007

 
$
69,007

 
$
—

 
$
—

Interest rate hedge agreements
 
$
180

 
$
—

 
$
180

 
$
—

Liabilities:
 
 
 
 
 
 
 
 
Interest rate hedge agreements
 
$
7,705

 
$
—

 
$
7,705

 
$
—

 
 
 
 
December 31, 2015
Description
 
Total
 
Quoted Prices in
Active Markets
for Identical
Assets
 
Significant
Other
Observable
Inputs
 
Significant
Unobservable
Inputs
Assets:
 
 
 
 
 
 
 
 
Available-for-sale equity securities
 
$
137,621

 
$
137,621

 
$
—

 
$
—

Interest rate hedge agreements
 
$
596

 
$
—

 
$
596

 
$
—

Liabilities:
 
 
 
 
 
 
 
 
Interest rate hedge agreements
 
$
4,314

 
$
—

 
$
4,314

 
$
—


The carrying values of cash and cash equivalents, restricted cash, tenant receivables, other assets, accounts payable, accrued expenses, and tenant security deposits approximate fair value. Our available-for-sale equity securities and our interest rate hedge agreements have been recognized at fair value. Refer to Note 5 – “Investments” and Note 9 – “Interest Rate Hedge Agreements” to these unaudited consolidated financial statements for further details. The fair values of our secured notes payable, unsecured senior notes payable, $1.65 billion unsecured senior line of credit, and unsecured senior bank term loans were estimated using widely accepted valuation techniques, including discounted cash flow analyses using significant other observable inputs such as available market information on discount and borrowing rates with similar terms, maturities, and credit ratings. Because the valuations of our financial instruments are based on these types of estimates, the actual fair value of our financial instruments may differ materially if our estimates do not prove to be accurate. Additionally, the use of different market assumptions or estimation methods may have a material effect on the estimated fair value amounts.


22


7.
Fair value measurements (continued)

As of September 30, 2016, and December 31, 2015, the book and estimated fair values of our available-for-sale equity securities, interest rate hedge agreements, secured notes payable, unsecured senior notes payable, $1.65 billion unsecured senior line of credit, and unsecured senior bank term loans were as follows (in thousands):
 
September 30, 2016
 
December 31, 2015
 
Book Value
 
Fair Value
 
Book Value
 
Fair Value
Assets:
 
 
 
 
 
 
 
Available-for-sale equity securities
$
69,007

 
$
69,007

 
$
137,621

 
$
137,621

Interest rate hedge agreements
$
180

 
$
180

 
$
596

 
$
596

 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
Interest rate hedge agreements
$
7,705

 
$
7,705

 
$
4,314

 
$
4,314

Secured notes payable
$
789,450

 
$
802,722

 
$
809,818

 
$
832,342

Unsecured senior notes payable
$
2,377,482

 
$
2,551,835

 
$
2,030,631

 
$
2,059,855

$1.65 billion unsecured senior line of credit
$
416,000

 
$
415,962

 
$
151,000

 
$
151,450

Unsecured senior bank term loans
$
746,162

 
$
750,746

 
$
944,243

 
$
951,098


Nonrecurring fair value measurements

Refer to “Assets Located in Asia” in Note 14 – “Assets Classified as Held for Sale” to these unaudited consolidated financial statements for further discussion.


8.
Secured and unsecured senior debt

The following table summarizes our secured and unsecured senior debt as of September 30, 2016 (dollars in thousands):
 
Fixed-Rate/Hedged
Variable-Rate
 
Unhedged
Variable-Rate
 
 
 
 
 
Weighted-Average
 
 
 
 
 
 
 
Interest
 
Remaining Term
(in years)
 
 
 
Total
 
Percentage
 
Rate (1)
 
Secured notes payable
$
419,276

 
$
370,174

 
$
789,450

 
18.2
%
 
3.34
%
 
2.6
Unsecured senior notes payable
2,377,482

 
—

 
2,377,482

 
55.0

 
4.14

 
7.5
$1.65 billion unsecured senior line of credit
200,000

 
216,000

 
416,000

 
9.6

 
1.52

 
5.1
2019 Unsecured Senior Bank Term Loan
398,355

 
—

 
398,355

 
9.2

 
3.03

 
2.3
2021 Unsecured Senior Bank Term Loan
347,807

 
—

 
347,807

 
8.0

 
2.18

 
4.3
Total/weighted average
$
3,742,920

 
$
586,174

 
$
4,329,094

 
100.0
%
 
3.49
%
 
5.6
Percentage of total debt
86%

 
14%

 
100%

 
 
 
 
 
 

(1)
See footnote 1 on the page 24 for additional information on weighted-average interest rate.

23
    

8.
Secured and unsecured senior debt (continued)

The following table summarizes our outstanding indebtedness and respective principal payments as of September 30, 2016 (dollars in thousands):
 
 
Stated 
Rate
 
Weighted-Average
Interest Rate
 
Maturity
 
Principal Payments Remaining for the Periods Ending December 31,
 
 
 
Unamortized (Deferred Financing Cost), (Discount)/Premium
 
 
Debt
 
 
(1) 
Date (2)
 
2016
 
2017
 
2018
 
2019
 
2020
 
Thereafter
 
Principal
 
 
Total
Secured notes payable
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Maryland
 
2.44
%
 
2.81
%
 
1/20/17
(3) 
$
—

 
$
76,000

 
$
—

 
$
—

 
$
—

 
$
—

 
$
76,000

 
$
(86
)
 
$
75,914

Greater Boston
 
L+1.35

 
2.47

 
8/23/17
(4) 
—

 
210,464

 
—

 
—

 
—

 
—

 
210,464

 
(1,268
)
 
209,196

Greater Boston
 
L+1.50

 
1.85

 
1/28/19
(4) 
—

 
—

 
—

 
213,969

 
—

 
—

 
213,969

 
(2,781
)
 
211,188

Greater Boston
 
L+2.00

 
2.79

 
4/20/19
(4) 
—

 
—

 
—

 
64,256

 
—

 
—

 
64,256

 
(3,410
)
 
60,846

Greater Boston, San Diego, Seattle, and Maryland
 
7.75

 
8.10

 
4/1/20
 
437

 
1,833

 
1,979

 
2,140

 
104,351

 
—

 
110,740

 
(1,169
)
 
109,571

San Diego
 
4.66

 
4.99

 
1/1/23
 
370

 
1,540

 
1,614

 
1,692

 
1,770

 
29,905

 
36,891

 
(412
)
 
36,479

Greater Boston
 
3.93

 
3.18

 
3/10/23
 
—

 
—

 
1,091

 
1,505

 
1,566

 
77,838

 
82,000

 
3,463

 
85,463

San Francisco
 
6.50

 
6.76

 
7/1/36
 
—

 
20

 
22

 
23

 
25

 
703

 
793

 
—

 
793

Secured debt weighted-average interest rate/subtotal
 
3.32
%
 
3.34

 
 
 
807

 
289,857

 
4,706

 
283,585

 
107,712

 
108,446


795,113

 
(5,663
)
 
789,450

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
2019 Unsecured Senior Bank Term Loan
 
L+1.20
%
 
3.03

 
1/3/19
 
—

 
—

 
—

 
400,000

 
—

 
—

 
400,000

 
(1,645
)
 
398,355

2021 Unsecured Senior Bank Term Loan
 
L+1.10
%
 
2.18

 
1/15/21
 
—

 
—

 
—

 
—

 
—

 
350,000

 
350,000

 
(2,193
)
 
347,807

$1.65 billion unsecured senior line of credit
 
L+1.00
%
(5) 
1.52

 
10/29/21
 
—

 
—

 
—

 
—

 
—

 
416,000

 
416,000

 
—

 
416,000

Unsecured senior notes payable
 
2.75
%
 
2.95

 
1/15/20
 
—

 
—

 
—

 
—

 
400,000

 
—

 
400,000

 
(2,601
)
 
397,399

Unsecured senior notes payable
 
4.60
%
 
4.72

 
4/1/22
 
—

 
—

 
—

 
—

 
—

 
550,000

 
550,000

 
(3,563
)
 
546,437

Unsecured senior notes payable
 
3.90
%
 
4.02

 
6/15/23
 
—

 
—

 
—

 
—

 
—

 
500,000

 
500,000

 
(3,954
)
 
496,046

Unsecured senior notes payable
 
4.30
%
 
4.46

 
1/15/26
 
—

 
—

 
—

 
—

 
—

 
300,000

 
300,000

 
(4,455
)
 
295,545

Unsecured senior notes payable
 
3.95
%
 
4.11

 
1/15/27
 
—

 
—

 
—

 
—

 
—

 
350,000

 
350,000

 
(5,114
)
 
344,886

Unsecured senior notes payable
 
4.50
%
 
4.58

 
7/30/29
 
—

 
—

 
—

 
—

 
—

 
300,000

 
300,000

 
(2,831
)
 
297,169

Unsecured debt weighted average/subtotal
 
 
 
3.52

 
 
 
—

 
—

 
—