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COUSINS PROPERTIES INC - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations

July 29, 2014

Overview:

The Company is a self-administered and self-managed real estate investment trust, or REIT. The Company's core focus is on the acquisition, development, leasing, management and ownership of Class-A office properties in Sunbelt markets with a particular focus on Georgia, Texas, and North Carolina. As of June 30, 2014, the Company's portfolio of real estate assets consisted of interests in 16 operating office properties containing 14.6 million square feet of space, 6 operating retail properties containing 566,000 square feet of space, and two projects (one office and one mixed use) under active development. The Company has a comprehensive strategy in place based on a simple platform, trophy assets and opportunistic investments. This streamlined approach enables the Company to maintain a targeted, asset specific approach to investing where it seeks to leverage its development skills, relationships, market knowledge, and operational expertise. The Company intends to generate returns and create value for shareholders through the continued lease up of its portfolio, through the execution of its development pipeline, and through opportunistic investments in office, retail, and mixed-use projects within its core markets. In March 2014, the Company issued 8.7 million shares of common stock resulting in net proceeds to the Company of $98.5 million. In April 2014, the Company redeemed all outstanding shares of its 7.5% Series B Cumulative Redeemable Preferred Stock, par value $1.00 per share, for $25.00 per share or $94.8 million, excluding accrued dividends. The Company believes that this transaction will improve the financial condition of the Company by reducing fixed charges and by eliminating preferred stock from its capital structure and effectively replacing it with common stock. In May 2014, the Company's Credit Facility was recast to, among other things, increase the size from $350 million to $500 million, extend the maturity from February 28, 2016 to May 28, 2019, and reduce the per annum variable interest rate spread and other fees. The Company believes that this transaction will improve the financial condition of the Company by reducing interest expense and by extending the average maturity of the Company's debt. The Company leased or renewed 416,000 square feet of office and retail space during the second quarter of 2014, bringing total square footage leased for the year to 870,000. Net effective rent, representing base rent less operating expense reimbursements and leasing costs, was $17.37 per square foot for office properties in the second quarter of 2014 and was $16.26 for the first half of 2014. Net effective rent per square foot for office properties increased 48.4% during the second quarter of 2014 and increased 31.2% for the first half of 2014 on spaces that have been previously occupied in the past year. The same property leasing percentage remained stable throughout the first half of 2014. The Company continues to target urban high-barrier to entry submarkets in Austin, Dallas-Fort Worth, Houston, Atlanta, Charlotte, and Raleigh. Management believes these markets continue to show positive demographic and economic trends compared to the national average. Results of Operations Rental Property Revenues Rental property revenues increased $42.9 million (116%) and $87.3 million (124%) between the three and six month 2014 and 2013 periods, respectively, primarily due to the following: Increase of $34.0 million and $65.8 million between the three and six month periods, respectively, due to the September 2013 acquisition of Greenway Plaza;



Increase of $5.5 million and $11.1 million between the three and six month

periods, respectively, due to the September 2013 acquisition of 777 Main;



Increase of $1.3 million and $6.8 million between the three and six month

periods, respectively, due to the February 2013 acquisition of Post Oak

Central and due to increased operating expense reimbursements at Post Oak

Central subsequent to the acquisition;

Increase of $1.1 million and $4.3 million between the three and six month

periods, respectively, due to the April 2013 acquisition of 816 Congress;

Decrease of $1.3 million and $2.6 million between the three and six month

periods, respectively, due to the September 2013 sale of Tiffany Springs

MarketCenter; and

Decrease of $2.3 million between the six month 2014 and 2013 periods due

to the February 2013 sale of 50% of the Company's interest in Terminus

100. Fee Income Fee income decreased $2.1 million (33%) between the six month 2014 and 2013 periods. This decrease is primarily due a decrease in management fees resulting from the sale of the majority of the Company's remaining retail assets (Tiffany Springs MarketCenter, its 50% interest in The Avenue Murfreesboro, and its minority interests in eight retail properties in two joint ventures with Prudential) in the third quarter of 2013. 17



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Rental Property Operating Expenses Rental property operating expenses increased $18.1 million (101%) and $37.7 million (114%) between the three and six month 2014 and 2013 periods, respectively, primarily due to the following: Increase of $14.7 million and $28.3 million between the three and six month periods, respectively, due to the September 2013 acquisition of Greenway Plaza;



Increase of $3.1 million and $6.1 million between the three and six month

periods, respectively, due to the September 2013 acquisition of 777 Main;



Increase of $2.1 million between the six month 2014 and 2013 periods due

to the February 2013 acquisition of Post Oak Central; and

Increase of $2.1 million between the six month 2014 and 2013 periods due

to the April 2013 acquisition of 816 Congress.

Reimbursed Expenses Reimbursed expenses decreased $1.3 million (41%) between the six month 2014 and 2013 periods. This decrease is primarily due to the sale of the majority of the Company's remaining retail assets (Tiffany Springs MarketCenter, its 50% interest in The Avenue Murfreesboro, and its minority interests in eight retail properties in two joint ventures with Prudential) in the third quarter of 2013. General and Administrative Expenses General and administrative expenses increased $1.2 million between the three month 2014 and 2013 periods. This increase is primarily due to an increase in stock-based compensation expense primarily resulting from an increase in the Company's stock price and stock performance relative to its peers. Interest Expense Interest expense increased $2.7 million (64%) and $5.0 million (54%) between the three and six month 2014 and 2013 periods, respectively, primarily due to the following: Increase of $2.0 million and $4.1 million between the three and six month



periods, respectively, as a result of mortgage loan on Post Oak Central

that closed in September 2013;

Increase of $1.2 million and $2.4 million between the three and six month

periods, respectively, as a result of mortgage loan on Promenade that closed in September 2013; and



Decrease of $553,000 and $825,000 between the three and six month periods,

respectively, as a result of an increase in capitalized interest between

periods.

Depreciation and Amortization Depreciation and amortization increased $20.2 million (135%) and $43.1 million (165%) between the three and six month 2014 and 2013 periods, respectively, primarily due to the September 2013 acquisition of Greenway Plaza, the September 2013 acquisition of 777 Main, the February 2013 acquisition of Post Oak Central, and the April 2013 acquisition of 816 Congress. These were partially offset by the February 2013 sale of 50% of the Company's interest in Terminus 100 and the September 2013 sale of Tiffany Springs MarketCenter. Gain on Sale of Investment Properties Gain on sale of investment properties decreased $56.1 million between the six month 2014 and 2013 periods. This decrease is primarily due to gains recognized in February 2013 on the sale of 50% of the Company's interest in Terminus 100 and on the acquisition of Terminus 200, which was achieved in stages. The 2014 amount relates to the sale of an undeveloped tract of land in Austin, Texas. Discontinued Operations Discontinued operations generally includes the operations of properties that have been sold during the periods presented and properties that are held for sale as of the end of the reporting period. The properties that typically have the largest impact on discontinued operations are those that have recently sold or are held for sale. These properties include: Lakeshore Park Plaza, which was held for sale at June 30, 2014; Tiffany Springs MarketCenter and Inhibitex, which were sold in 2013; and 600 University Park Place, a 123,000 square foot office building in Birmingham, Alabama, which was sold in the first quarter of 2014 for a sales price of $19.7 million. This sales price represented a 8.1% capitalization rate. Capitalization rates are generally calculated by



dividing projected annualized net operating income by the sales price.

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In April 2014, the Financial Accounting Standards Board issued new guidance on discontinued operations. Under the new guidance, only assets held for sale and disposals representing a major strategic shift in operations will be presented as discontinued operations. This guidance is effective for periods beginning after December 15, 2016. Dividends to Preferred Stockholders Dividends to preferred stockholders decreased $2.0 million and $3.5 million between the three and six month 2014 and 2013 periods, respectively, due to the redemption of the Series B preferred stock in the second quarter of 2014 and the redemption of the Series A preferred stock in the second quarter of 2013. The Company has no remaining outstanding preferred stock as of June 30, 2014 and, as a result, in future periods will have no preferred stock dividends. Preferred Stock Original Issuance Costs In April 2014, the Company redeemed all outstanding shares of its 7.5% Series B Cumulative Redeemable Preferred Stock. In connection with the redemption of Preferred Stock, the Company decreased net income available for common shareholders by $3.5 million (non-cash), which represents the original issuance costs applicable to the shares redeemed. In May 2013, the Company redeemed all outstanding shares of its 7 3/4% Series A Cumulative Redeemable Preferred Stock. In connection with the redemption of Preferred Stock, the Company increased net loss available for common shareholders by $2.7 million (non-cash), which represents the original issuance costs applicable to the shares redeemed. In 2013, the Company reclassified these costs as well as the basis difference in the Preferred Stock repurchased by the Company in 2008 from Additional Paid-In Capital to Distributions in Excess of Net Income within the Company's statements of equity. Funds From Operations The table below shows Funds from Operations Available to Common Stockholders ("FFO") and the related reconciliation to net income available to common stockholders for the Company. The Company calculates FFO in accordance with the National Association of Real Estate Investment Trusts' ("NAREIT") definition, which is net income available to common stockholders (computed in accordance with GAAP), excluding extraordinary items, cumulative effect of change in accounting principle and gains on sale or impairment losses on depreciable property, plus depreciation and amortization of real estate assets, and after adjustments for unconsolidated partnerships and joint ventures to reflect FFO on the same basis. FFO is used by industry analysts and investors as a supplemental measure of a REIT's operating performance. Historical cost accounting for real estate assets implicitly assumes that the value of real estate assets diminishes predictably over time. Since real estate values instead have historically risen or fallen with market conditions, many industry investors and analysts have considered presentation of operating results for real estate companies that use historical cost accounting to be insufficient by themselves. Thus, NAREIT created FFO as a supplemental measure of REIT operating performance that excludes historical cost depreciation, among other items, from GAAP net income. The use of FFO, combined with the required primary GAAP presentations, has been fundamentally beneficial, improving the understanding of operating results of REITs among the investing public and making comparisons of REIT operating results more meaningful. Company management evaluates operating performance in part based on FFO. Additionally, the Company uses FFO, along with other measures, to assess performance in connection with evaluating and granting incentive compensation to its officers and other key employees. The reconciliation of net income (loss) available to common stockholders to FFO is as follows for the three and six months ended December 31, 2014 and 2013 (in thousands, except per share information): 19



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Three Months Ended June 30,



Six Months Ended June 30,

2014 2013 2014 2013 Net Income Available to Common Stockholders $ (2,223 )$ (5,579 )$ 2,979$ 47,593 Depreciation and amortization of real estate assets: Consolidated properties 34,934 14,739 68,888 25,804 Discontinued properties - 1,047 - 2,098 Share of unconsolidated joint ventures 3,088 4,167 6,086 7,371 (Gain) loss on sale of depreciated properties: Consolidated properties (1 ) (130 ) (1 ) (57,043 ) Discontinued properties (14 ) (86 ) (6,373 ) (204 ) Share of unconsolidated joint ventures - - 387 - Funds From Operations Available to Common Stockholders $ 35,784$ 14,158$ 71,966$ 25,619 Per Common Share - Basic and Diluted: Net Income Available $ (0.01 )$ (0.05 )$ 0.02$ 0.43 Funds From Operations $ 0.18$ 0.12$ 0.37$ 0.23 Weighted Average Shares - Basic 198,440 118,661 195,108 111,430 Weighted Average Shares - Diluted 198,702 118,845 195,347 111,593 Same Property Net Operating Income Net Operating Income is used by industry analysts, investors and Company management to measure operating performance of the Company's properties. Net Operating Income, which is rental property revenues less rental property operating expenses, excludes certain components from net income in order to provide results that are more closely related to a property's results of operations. Certain items, such as interest expense, while included in FFO and net income, do not affect the operating performance of a real estate asset and are often incurred at the corporate level as opposed to the property level. As a result, management uses only those income and expense items that are incurred at the property level to evaluate a property's performance. Depreciation and amortization are also excluded from Net Operating Income. Same Property Net Operating Income includes those office properties that have been fully operational in each of the comparable reporting periods. A fully operational property is one that has achieved 90% economic occupancy for each of the two periods presented or has been substantially complete and owned by the Company for each of the two periods presented and the preceding year. Same Property Net Operating Income allows analysts, investors and management to analyze continuing operations and evaluate the growth trend of the Company's portfolio.


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