Interest rate hedge agreements

6 Months Ended

Jun. 30, 2011

Interest rate hedge agreements

Interest rate hedge agreements

7. Interest rate hedge agreements

We are exposed to certain risks arising from both our business operations and economic conditions.  We principally manage our exposures to a wide variety of business and operational risks through management of our core business activities. We manage economic risks, including interest rate, liquidity, and credit risk primarily by managing the amount, sources, and duration of our debt funding and by the use of interest rate hedge agreements.  Specifically, we enter into interest rate hedge agreements to manage exposures that arise from business activities that result in the payment of future known and uncertain cash amounts, the value of which is determined by interest rates.  Our interest rate hedge agreements are used to manage differences in the amount, timing, and duration of our known or expected cash payments principally related to our LIBOR-based borrowings.  We do not use derivatives for trading or speculative purposes and currently all of our derivatives are designated as hedges. Our objectives in using interest rate hedge agreements are to add stability to interest expense and to manage our exposure to interest rate movements in accordance with our interest rate risk management strategy.  Interest rate hedge agreements designated as cash flow hedges involve the receipt of variable rate amounts from a counterparty in exchange for the Company making fixed rate payments over the life of the interest rate hedge agreements without exchange of the underlying notional amount.

The effective portion of changes in the fair value of our interest rate hedge agreements designated and qualified as cash flow hedges is recorded in accumulated other comprehensive income.  The amount is subsequently reclassified into earnings in the period during which the hedged forecasted transactions affect earnings.  During the three and six months ended June 30, 2011 and 2010, our interest rate hedge agreements were used primarily to hedge the variable cash flows associated with certain of our existing LIBOR-based variable rate debt, including our unsecured line of credit and unsecured term loan.  The ineffective portion of the change in fair value of our interest rate hedge agreements is recognized directly in earnings. During the three and six months ended June 30, 2011 and 2010, our interest rate hedge agreements were 100% effective.  Accordingly, we did not recognize any of the change in fair value of our interest rate hedge agreements directly into earnings.

As of June 30, 2011, and December 31, 2010, our interest rate hedge agreements were classified in accounts payable, accrued expenses, and tenant security deposits based upon their respective fair values aggregating a liability balance of approximately $39.2 million and $44.6 million, respectively, which included accrued interest and adjustments for non-performance risk, with the offsetting adjustment reflected as unrealized gain (loss) in accumulated other comprehensive loss in total equity.  We have not posted any collateral related to our interest rate hedge agreements.

Balances in accumulated other comprehensive loss are recognized in the periods during which the forecasted hedge transactions affect earnings.  For the three months ended June 30, 2011 and 2010, approximately $5.3 million and $7.8 million, respectively, was reclassified from accumulated other comprehensive loss to interest expense as an increase to interest expense.  For the six months ended June 30, 2011 and 2010, approximately $10.7 million and $15.9 million, respectively, was reclassified from accumulated other comprehensive loss to interest expense as an increase to interest expense.  During the next 12 months, we expect to reclassify approximately $20.8 million from accumulated other comprehensive loss to interest expense as an increase to interest expense.

As of June 30, 2011, we had the following outstanding interest rate hedge agreements that were designated as cash flow hedges of interest rate risk (dollars in thousands):

Transaction Date	Effective Date	Termination Date	Interest Pay Rate		Notional Amount		Effective at June 30, 2011		Fair Value
December 2006	December 29, 2006	March 31, 2014	4.990	%	$	50,000	$	50,000	$	(5,551	)
October 2007	October 31, 2007	September 30, 2012	4.546		50,000		50,000		(2,631		)
October 2007	October 31, 2007	September 30, 2013	4.642		50,000		50,000		(4,424		)
October 2007	July 1, 2008	March 31, 2013	4.622		25,000		25,000		(1,799		)
October 2007	July 1, 2008	March 31, 2013	4.625		25,000		25,000		(1,801		)
December 2006	November 30, 2009	March 31, 2014	5.015		75,000		75,000		(8,378		)
December 2006	November 30, 2009	March 31, 2014	5.023		75,000		75,000		(8,394		)
December 2006	December 31, 2010	October 31, 2012	5.015		100,000		100,000		(6,243		)
Total							$	450,000	$	(39,221	)

The fair value of each interest rate hedge agreement is determined using widely accepted valuation techniques including discounted cash flow analyses on the expected cash flows of each derivative. These analyses reflect the contractual terms of the derivatives, including the period to maturity, and use observable market-based inputs, including interest rate curves and implied volatilities (also referred to as “significant other observable inputs”).  The fair values of our interest rate hedge agreements are determined using the market standard methodology of netting the discounted future fixed cash payments and the discounted expected variable cash receipts.  The variable cash receipts are based on an expectation of future interest rates (forward curves) derived from observable market interest rate curves.  The fair value calculation also includes an amount for risk of non-performance using “significant unobservable inputs” such as estimates of current credit spreads to evaluate the likelihood of default, which we have determined to be insignificant to the overall fair value of our interest rate hedge agreements.