Item 1. Business
ITEM 1. BUSINESS
General
Piedmont Office Realty Trust, Inc. (“Piedmont," "we," "our," or "us") (NYSE: PDM) is a Maryland corporation that operates in a manner so as to qualify as a real estate investment trust (“REIT”) for federal income tax purposes and engages in the ownership, management, development, redevelopment, and operation of high-quality, Class A office properties located primarily in select sub-markets within seven major Eastern U.S. office markets, with a majority of our annualized lease revenue ("ALR") being generated from the Sunbelt. Piedmont was incorporated in 1997 and commenced operations in 1998. Piedmont conducts business primarily through Piedmont Operating Partnership, L.P. (“Piedmont OP”), a Delaware limited partnership, as well as performing the management of our buildings through two wholly-owned subsidiaries, Piedmont Government Services, LLC and Piedmont Office Management, LLC. Piedmont owns 99.9% of, and is the sole general partner of, Piedmont OP and as such, possesses full legal control and authority over the operations of Piedmont OP. The remaining 0.1% ownership interest of Piedmont OP is held indirectly by Piedmont through our wholly-owned subsidiary, Piedmont Office Holdings, Inc. ("POH"), the sole limited partner of Piedmont OP. Piedmont OP owns properties directly, through wholly-owned subsidiaries, and through various joint ventures which we control. References to Piedmont herein shall include Piedmont and all of its subsidiaries, including Piedmont OP and its subsidiaries and joint ventures.
Operating Objectives and Strategy
As of December 31, 2020, we owned and operated 54 in-service office properties comprised of approximately 16.4 million square feet of primarily Class A office space which was 86.8% leased. Additionally, we have one redevelopment asset comprising 127,000 square feet in Orlando, Florida. Collectively, approximately 96% of our ALR is generated primarily in select sub-markets within seven major Eastern U.S. office markets: Dallas, Atlanta, Washington, D.C., Minneapolis, Boston, Orlando, and New York, with a majority of our ALR generated from our Sunbelt markets. As we typically lease to larger, credit-worthy corporate tenants, our average lease size is between 15,000 and 20,000 square feet with an average lease term remaining of six years. Our diversified tenant base is primarily comprised of investment grade or nationally recognized corporations or governmental agencies, with the majority of our ALR derived from such tenants. No tenant accounts for more than 5.1% of our ALR.
Headquartered in Atlanta, Georgia, with regional and/or local management offices in each of our seven major markets, Piedmont values operational excellence and is a leading participant among REITs based on the number of buildings owned and managed with Building Owners and Managers Association ("BOMA") 360 designations. BOMA 360 is a program that evaluates six major areas of building operations and management and benchmarks a building's performance against industry standards. As of December 31, 2020, approximately 81% of our portfolio (based on square footage) has achieved such a designation, recognizing excellence in building operations and management. We also have focused on environmental sustainability initiatives at our properties, and 64% of our portfolio (based on square footage) has achieved and maintains "Energy Star" certification (a designation for the top 25% of similar buildings in energy consumption efficiency) as of December 31, 2020. In addition to operational excellence, we focus on fostering long-term relationships with our high-credit quality, diverse tenant base as evidenced by our approximately 67% tenant retention rate over the past ten years.
Our primary objectives are to maximize the risk-adjusted return to our stockholders by increasing cash flow from operations, by achieving sustainable growth in Funds From Operations, and by growing net asset value by realizing long-term capital appreciation. We manage risk by owning almost exclusively Class A, geographically diverse office properties which are among the most desirable in their respective office sub-markets. In addition to the creditworthiness of our tenants, we strive to ensure our tenants represent a broad spectrum of industry types with lease expirations that are laddered over many years. Operationally, we maintain a low leverage structure, utilizing almost exclusively unsecured financing facilities with laddered maturities. We utilize a national buying platform of property management support services to ensure optimal pricing for landlord and tenant services, as well as to consistently implement best practices and achieve sustainability standards. The strategies we intend to execute to achieve these objectives include:
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Capitalizing on Acquisition/Investment Opportunities
Our overall acquisition/investment strategy focuses on properties located in select sub-markets within seven major Eastern U.S. office markets that were identified based on their positive economic and demographic growth trends so as to position our investments for long-term appreciation. We believe these sub-markets are generally characterized by their strong amenity base, desired location for large corporate users, above-average job and rental rate growth, proximity to robust housing options, market-leading transportation access and infrastructure, and limited competitive REIT ownership. Both our acquisition and development activities are targeted towards attractively priced, high quality, Class A office properties that complement our existing portfolio in such a manner that efficiencies can be gained and our market expertise can be maximized.
Proactive Asset Management, Leasing Capabilities and Property Management
Our proactive approach to asset and property management encompasses a number of operating initiatives designed to maximize occupancy and rental rates, including the following: devoting significant resources to building and cultivating our relationships with commercial real estate executives; maintaining local management offices in markets in which we have a significant presence; demonstrating our commitment to our tenants and being socially-responsible in our local communities while maintaining the environmentally-friendly, high quality of our properties; and driving a significant volume of leasing transactions in a manner that provides optimal returns by using creative approaches, including early extensions, lease wrap-arounds and restructurings. We manage portfolio risk by structuring lease expirations to avoid, among other things, having multiple leases expire in the same market in a relatively short period of time; applying our leasing and operational expertise in meeting the specialized requirements of federal, state and local government agencies to attract and retain these types of tenants; evaluating potential tenants based on third party and internal assessments of creditworthiness; and using our purchasing power and market knowledge to reduce our operating costs and those of our tenants.
Recycling Capital Efficiently
We use our proven, disciplined capital recycling capabilities to maximize total return to our stockholders by selectively disposing of non-core assets and assets for which we believe full value potential during our ownership has been achieved, and redeploying the proceeds of those dispositions into new investment opportunities with higher overall return prospects.
Financing Strategy
We employ a conservative leverage strategy by typically maintaining a debt-to-gross assets ratio of between 30% to 40%, and a targeted debt to EBITDA of low 6x and below. To effectively manage our long-term leverage strategy, we continue to analyze various sources of debt capital to prudently ladder debt maturities and to determine which sources will be the most beneficial to our investment strategy at any particular point in time.
Use of Joint Ventures to Improve Returns and Mitigate Risk
We may selectively enter into strategic joint ventures with third parties to acquire, develop, redevelop or dispose of properties, thereby potentially reducing the amount of capital required by us to make investments, diversifying our sources of capital, enabling us to creatively acquire and control targeted properties, and allowing us to reduce our investment concentration in certain properties and/or markets without disrupting our operating performance or local operating capabilities.
Redevelopment and Repositioning of Properties
As circumstances warrant, we may redevelop or reposition properties within our portfolio, including the creation of additional amenities for our tenants to increase both occupancy and rental rates and thereby improve returns on our invested capital, as well as to maintain and enhance the competitive positioning of our properties in their respective marketplaces.
Sustainability
We are dedicated to environmentally sustainable practices that enhance our commitment to provide the highest quality office properties and produce an annual ESG report, available on our website. We strive to own and manage workplaces that are environmentally conscious, productive, and healthy for our tenants, employees, and local communities by:
• empowering our property teams with the data and tools they need to sustainably manage their buildings;
• leveraging industry partnerships with BOMA, Energy Star, and U.S. Green Building Council, to confirm and advance the energy and sustainability performance of our assets; and
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• implementing processes that continually improve our environmental performance.
Further details concerning Piedmont's environmental, social, and governance policies and initiatives, as well as its 2019 sustainability report, can be found on Piedmont's website, www.piedmontreit.com under the "ESG" section. The information contained on our website is not incorporated herein by reference.
Social Responsibility
• Promotion of Equity : As the public discussion surrounding equality in our country continues, so do Piedmont’s efforts to end prejudice and discrimination. Piedmont is committed to demonstrating fairness, equality, and respect to all individuals that we interact with in our communities to bring about positive change. Our commitment includes regularly monitoring and making any necessary changes to our own policies, conduct, and actions, as well as promoting anti-prejudice causes in our communities. In an effort to underscore and promote these values, Piedmont has made financial commitments to the Anti-defamation League, the NAACP, The National Association of Criminal Defense Lawyers, and the Brennan Center for Justice.
• Contribution to Local Communities : In addition to financial contributions through the Piedmont Wayne Woody Foundation, a foundation created to honor of our late Chairman of the Board, W. Wayne Woody, Piedmont recognizes the value and benefit of employee volunteerism and fully appreciates its positive impact on the community, the employees, and ultimately, Piedmont by promoting team building, collaboration, and unity.
• Scholarships to Support Diversity and Equity Efforts : Piedmont invests in the education and the career development of scholars from two Historically Black Colleges and Universities (HBCUs) including Morehouse College (Atlanta, GA) and Howard University (Washington, DC) through the need-based Piedmont Office Realty Trust Scholarship Program. The program provides scholastic support to rising sophomore students seeking an Economic, Finance, Accounting, Engineering, or real estate specific degree with a renewable scholarship for three years (for the Piedmont Scholars’ Sophomore, Junior and Senior years). The scholarship also offers each student the opportunity to intern with Piedmont and acquire a firsthand experience in commercial real estate. We believe that developing a diverse, talented, and skilled pipeline of future candidates for Piedmont and the commercial real estate industry begins with supporting the education and career paths of students today. Our hope is the Program provides career success and an expanded knowledge of commercial real estate for participating students.
Information Regarding Disclosures Presented
ALR, a non-GAAP measure, is calculated by multiplying (i) current rental payments (defined as base rent plus operating expense reimbursements, if payable by the tenant on a monthly basis under the terms of a lease that has been executed, but excluding (a) rental abatements and (b) rental payments related to executed but not commenced leases for space that was covered by an existing lease), by (ii) 12. In instances in which contractual rents or operating expense reimbursements are collected on an annual, semi-annual, or quarterly basis, such amounts are multiplied by a factor of 1, 2, or 4, respectively, to calculate the annualized figure. For leases that have been executed but not commenced relating to unleased space, ALR is calculated by multiplying (i) the monthly base rental payment (excluding abatements) plus any operating expense reimbursements for the initial month of the lease term, by (ii) 12. Unless stated otherwise, this measure excludes revenues associated with development properties and properties taken out of service for redevelopment, if any.
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Human Capital Resources
As of December 31, 2020, we had 137 employees, with 49 of our employees working in our corporate office located in Atlanta, Georgia. Our remaining employees work in regional and/or local management offices located in our seven major markets. These employees are involved in acquiring, developing, redeveloping, leasing, and managing our portfolio of properties. We outsource various functions where cost efficiencies can be achieved, such as certain areas of information technology, construction, building engineering, and leasing. Approximately 66% of our workforce is salaried, with the remaining 34% compensated on an hourly basis.
We strive and are committed to hiring and supporting a diverse workforce that fosters skilled and motivated people working together to deliver results in support of our core business values. We encourage all employees, tenants, and vendors to mutually respect one another's diversity in order to maintain a cohesive work environment that values fairness and equal treatment. In 2020, our employees, managers, and the majority of our contractors received professional training on workplace harassment and cybersecurity. In addition our employees received diversity and inclusion, ethics, pandemic health, and safety training. Select managers also received individual management development. We intend to provide an environment that is diverse, equitable, unbiased, pleasant, healthy, comfortable, and free from intimidation, hostilities, or other offenses that might interfere with work performance. We apply this policy to all of our employees, suppliers, and vendors, regardless of their geographic location. For more information on how we manage our workforce, please refer to our website: www.piedmontreit.com under the "ESG" section. The information contained on our website is not incorporated herein by reference.
Competition
We compete for tenants for our high-quality assets in major U.S. markets by fostering strong tenant relationships and by providing quality customer service including; leasing, asset management, property management, and construction management services. As the competition for high-credit-quality tenants is intense, we may be required to provide rent abatements, incur charges for tenant improvements and other concessions, or we may not be able to lease vacant space timely, all of which may impact our results of operations. We also compete with other buyers who may be interested in properties we wish to acquire, which may affect the amount that we are required to pay for such properties or may ultimately result in our decision not to acquire such properties. Further, we may compete with sellers of similar properties when we sell properties, which may affect the amount of proceeds we receive from the disposal, or which may result in our inability to dispose of such properties due to the lack of an acceptable amount of proceeds offered by interested buyers.
Government Regulations
All real property and the operations conducted on real property are subject to various federal, state, and local laws and regulations. Under the Americans with Disabilities Act (“ADA”) for example, places of public accommodation must meet certain federal requirements related to access and use by disabled persons. We may incur substantial costs to comply with the ADA or any other legislation. Noncompliance with ADA could result in the imposition of fines by the federal government or the award of damages to private litigants.
Furthermore, under various federal, state, and local environmental laws, ordinances, and regulations, we may be liable for the cost to remove or remediate hazardous or toxic substances, wastes, or petroleum products on, under, from, or in such property. These costs, and the costs of compliance with these laws, ordinances and regulations, could be substantial and liability under these laws may attach whether or not the owner or operator knew of, or was responsible for, the presence of such contamination. Some of these laws and regulations may impose joint and several liability on tenants, owners, or operators for the costs to investigate or remediate contaminated properties, regardless of fault or whether the acts causing the contamination were legal. The presence of hazardous substances, or the failure to properly remediate these substances, may hinder our ability to sell, rent, or pledge such property as collateral for future borrowings.
While we believe that we are currently in material compliance with these laws and regulatory requirements, compliance with new laws or regulations or stricter interpretation of existing laws by agencies or the courts may require us to incur material expenditures or may impose additional liabilities on us, including environmental liabilities. In addition, there are various local, state, and federal fire, health, life-safety, and similar regulations with which we may be required to comply, and which may subject us to liability in the form of fines or damages for noncompliance. If we were required to make significant expenditures under applicable regulations, our financial condition, results of operations, cash flows and ability to satisfy our debt service obligations and to pay distributions could be adversely affected. See Item 1A. Risk Factors for further discussion of the risks associated with compliance with regulations and environmental concerns.
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Segment Information
As of December 31, 2020, our reportable segments are determined based on geographic markets in which we have significant investments. We consider geographic location when evaluating our portfolio composition and in assessing the ongoing operations and performance of our properties. See Note 17 , Segment Information, to the accompanying consolidated financial statements.
Concentration of Credit Risk
We are dependent upon the ability of our current tenants to pay their contractual rent amounts as the rents become due. The inability of a tenant to pay future rental amounts would have a negative impact on our results of operations. As of December 31, 2020, our tenants come from broadly diversified industry sectors and no individual tenant represented more than 5.1% of our ALR.
Other Matters
We have contracts with various governmental agencies, exclusively in the form of operating leases in buildings we own. See Item 1A. Risk Factors for further discussion of the risks associated with these contracts.
Website Address
Access to copies of each of our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, proxy statements, and other filings with the Securities and Exchange Commission (the "SEC"), including any amendments to such filings, may be obtained free of charge from the following website, www.piedmontreit.com, or directly from the SEC’s website at www.sec.gov. These filings are available promptly after we file them with, or furnish them to, the SEC. Information contained on our website or that can be accessed through our website is not incorporated by reference into this Annual Report on Form 10-K.
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