XNYS:FCEB Forest City Enterprises Inc Class B Quarterly Report 10-Q Filing - 7/31/2012

Effective Date 7/31/2012

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
_____________________________________________________________
Form 10-Q
_____________________________________________________________
(Mark One)
ý
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended July 31, 2012
 
¨
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 1-4372 
_____________________________________________________________
FOREST CITY ENTERPRISES, INC.
(Exact name of registrant as specified in its charter) 
_____________________________________________________________
Ohio
(State or other jurisdiction of
incorporation or organization)
 
 
 
34-0863886
(I.R.S. Employer
Identification No.)
 
 
 
 
 
Terminal Tower
Suite 1100
 
50 Public Square
Cleveland, Ohio
 
44113
(Address of principal executive offices)
 
(Zip Code)
216-621-6060
Registrant’s telephone number, including area code
(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  ý    No  ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Date File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ý    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. (Check one):
Large accelerated filer
ý
Accelerated filer
¨
Non-accelerated filer
¨  (Do not check if a smaller reporting company)
Smaller reporting company
¨
Indicate by checkmark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  ý
Indicate the number of shares outstanding, including unvested restricted stock, of each of the issuer’s classes of common stock, as of the latest practicable date.
Class
Outstanding at August 30, 2012
Class A Common Stock, $.33 1/3 par value
150,861,461 shares
Class B Common Stock, $.33 1/3 par value
20,858,777 shares



Forest City Enterprises, Inc. and Subsidiaries
Table of Contents
 
 
Page
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Certifications
 
 

i


PART I – FINANCIAL INFORMATION
Item 1. Financial Statements
Forest City Enterprises, Inc. and Subsidiaries
Consolidated Balance Sheets
(Unaudited)
 
July 31, 2012
 
 
 
(Unaudited)
 
January 31, 2012
 
(in thousands)
Assets
 
 
 
Real Estate
 
 
 
Completed rental properties
$
7,549,758

 
$
7,183,448

Projects under construction and development
2,361,600

 
2,328,979

Land held for development and sale
77,175

 
77,298

Total Real Estate
9,988,533

 
9,589,725

Less accumulated depreciation
(1,602,423
)
 
(1,526,503
)
Real Estate, net – (variable interest entities $2,318.2 million and $2,103.8 million, respectively)
8,386,110

 
8,063,222

Cash and equivalents – (variable interest entities $32.9 million and $17.8 million, respectively)
240,866

 
217,486

Restricted cash and escrowed funds – (variable interest entities $172.8 million and $348.1 million, respectively)
476,645

 
542,566

Notes and accounts receivable, net
399,964

 
406,244

Investments in and advances to unconsolidated entities
572,230

 
609,079

Other assets – (variable interest entities $130.2 million and $130.8 million, respectively)
614,787

 
608,541

Land held for divestiture
23,417

 
57,145

Operating property assets held for sale
18,834

 

Total Assets
$
10,732,853

 
$
10,504,283

Liabilities and Equity
 
 
 
Liabilities
 
 
 
Mortgage debt and notes payable, nonrecourse – (variable interest entities $1,224.3 million and $1,122.0 million, respectively)
$
5,754,873

 
$
5,640,439

Bank revolving credit facility

 

Senior and subordinated debt – (variable interest entities $29.0 million as of each period)
1,157,666

 
1,038,529

Accounts payable, accrued expenses and other liabilities – (variable interest entities $217.6 million and $171.0 million, respectively)
1,086,192

 
1,112,462

Cash distributions and losses in excess of investments in unconsolidated entities
292,700

 
279,708

Deferred income taxes
458,825

 
433,040

Mortgage debt and notes payable, nonrecourse of land held for divestiture
19,571

 
19,084

Liabilities of operating property held for sale
15,092

 

Total Liabilities
8,784,919

 
8,523,262

Redeemable Noncontrolling Interest
232,107

 
229,149

Commitments and Contingencies

 

Equity
 
 
 
Shareholders’ Equity
 
 
 
Preferred stock – 7.0% Series A cumulative perpetual convertible, without par value, $50 liquidation preference; 6,400,000 shares authorized; 4,399,998 shares issued and outstanding
220,000

 
220,000

Preferred stock – without par value; 13,600,000 shares authorized; no shares issued

 

Common stock – $.33 1/3 par value
 
 
 
Class A, 371,000,000 shares authorized, 148,855,516 and 148,336,178 shares issued and 148,642,140 and 148,227,849 shares outstanding, respectively
49,619

 
49,445

Class B, convertible, 56,000,000 shares authorized, 20,858,777 and 20,934,335 shares issued and outstanding, respectively; 26,257,961 issuable
6,953

 
6,978

Total common stock
56,572

 
56,423

Additional paid-in capital
740,426

 
740,988

Retained earnings
543,324

 
571,989

Less treasury stock, at cost; 213,376 and 108,329 Class A shares, respectively
(3,438
)
 
(1,874
)
Shareholders’ equity before accumulated other comprehensive loss
1,556,884

 
1,587,526

Accumulated other comprehensive loss
(117,129
)
 
(120,460
)
Total Shareholders’ Equity
1,439,755

 
1,467,066

Noncontrolling interest
276,072

 
284,806

Total Equity
1,715,827

 
1,751,872

Total Liabilities and Equity
$
10,732,853

 
$
10,504,283





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

2

Forest City Enterprises, Inc. and Subsidiaries
Consolidated Statements of Operations
(Unaudited)

 
Three Months Ended July 31,
 
Six Months Ended July 31,
 
2012
 
2011
 
2012
 
2011
 
(in thousands, except per share data)
Revenues from real estate operations
$
261,373

 
$
244,706

 
$
557,162

 
$
548,043

Expenses
 
 
 
 
 
 
 
Operating expenses
173,292

 
152,756

 
339,838

 
313,113

Depreciation and amortization
54,231

 
53,434

 
106,860

 
109,081

Impairment of real estate
2,908

 
235

 
4,289

 
5,070

 
230,431

 
206,425

 
450,987

 
427,264

Interest expense
(62,725
)
 
(62,995
)
 
(120,969
)
 
(128,900
)
Amortization of mortgage procurement costs
(3,682
)
 
(2,711
)
 
(6,547
)
 
(5,589
)
Loss on extinguishment of debt

 
(5,471
)
 
(719
)
 
(5,767
)
Interest and other income
13,678

 
15,315

 
24,357

 
30,822

Net loss on land held for divestiture activity
(6,458
)
 

 
(6,458
)
 

Net gain on disposition of partial interests in rental properties

 

 

 
9,561

Earnings (loss) before income taxes
(28,245
)
 
(17,581
)
 
(4,161
)
 
20,906

Income tax expense (benefit)
 
 
 
 
 
 
 
Current
(25,839
)
 
(2,138
)
 
(24,772
)
 
15,460

Deferred
16,797

 
(3,761
)
 
25,273

 
(3,619
)
 
(9,042
)
 
(5,899
)
 
501

 
11,841

Net gain on change in control of interests
6,766

 

 
6,766

 

Equity in earnings of unconsolidated entities
16,665

 
2,385

 
20,438

 
22,379

Impairment of unconsolidated entities
(390
)
 

 
(390
)
 

Net loss on land held for divestiture activity of unconsolidated entities
(41,887
)
 

 
(41,887
)
 

 
(25,612
)
 
2,385

 
(21,839
)
 
22,379

Earnings (loss) from continuing operations
(38,049
)
 
(9,297
)
 
(19,735
)
 
31,444

Discontinued operations, net of tax:
 
 
 
 
 
 
 
Operating earnings from rental properties
325

 
1,791

 
414

 
2,804

Impairment of real estate
(160
)
 

 
(160
)
 

Gain on disposition of rental properties

 
99,087

 
5,370

 
104,806

 
165

 
100,878

 
5,624

 
107,610

Net earnings (loss)
(37,884
)
 
91,581

 
(14,111
)
 
139,054

Noncontrolling interests
 
 
 
 
 
 
 
(Earnings) loss from continuing operations attributable to noncontrolling interests
(5,836
)
 
(198
)
 
(5,884
)
 
400

(Earnings) loss from discontinued operations attributable to noncontrolling interests
3

 
(82,025
)
 
(970
)
 
(83,753
)
 
(5,833
)
 
(82,223
)
 
(6,854
)
 
(83,353
)
Net earnings (loss) attributable to Forest City Enterprises, Inc.
(43,717
)
 
9,358

 
(20,965
)
 
55,701

Preferred dividends
(3,850
)
 
(3,850
)
 
(7,700
)
 
(7,700
)
Net earnings (loss) attributable to Forest City Enterprises, Inc. common shareholders
$
(47,567
)
 
$
5,508

 
$
(28,665
)
 
$
48,001

Basic earnings per common share
 
 
 
 
 
 
 
Earnings (loss) from continuing operations attributable to Forest City Enterprises, Inc. common shareholders
$
(0.28
)
 
$
(0.08
)
 
$
(0.20
)
 
$
0.14

Earnings from discontinued operations attributable to Forest City Enterprises, Inc. common shareholders

 
0.11

 
0.03

 
0.14

Net earnings (loss) attributable to Forest City Enterprises, Inc. common shareholders
$
(0.28
)
 
$
0.03

 
$
(0.17
)
 
$
0.28

Diluted earnings per common share
 
 
 
 
 
 
 
Earnings (loss) from continuing operations attributable to Forest City Enterprises, Inc. common shareholders
$
(0.28
)
 
$
(0.08
)
 
$
(0.20
)
 
$
0.14

Earnings from discontinued operations attributable to Forest City Enterprises, Inc. common shareholders

 
0.11

 
0.03

 
0.15

Net earnings (loss) attributable to Forest City Enterprises, Inc. common shareholders
$
(0.28
)
 
$
0.03

 
$
(0.17
)
 
$
0.29





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

3

Forest City Enterprises, Inc. and Subsidiaries
Consolidated Statements of Comprehensive Income (Loss)
(Unaudited)

 
Three Months Ended July 31,
 
2012
 
2011
 
(in thousands)
Net earnings (loss)
$
(37,884
)
 
$
91,581

Other comprehensive income (loss), net of tax:
 
 
 
Unrealized net gains (losses) on investment securities (net of tax of $(9) and $10, respectively)
15

 
(16
)
Foreign currency translation adjustments (net of tax of $(534) and $38, respectively)
2,147

 
(59
)
Unrealized net losses on interest rate derivative contracts (net of tax of $2,306 and $7,274, respectively)
(5,004
)
 
(10,277
)
Total other comprehensive loss, net of tax
(2,842
)
 
(10,352
)
Comprehensive income (loss)
(40,726
)
 
81,229

Comprehensive income attributable to noncontrolling interest
(5,781
)
 
(83,326
)
Total comprehensive loss attributable to Forest City Enterprises, Inc.
$
(46,507
)
 
$
(2,097
)
 
Six Months Ended July 31,
 
2012
 
2011
 
(in thousands)
Net earnings (loss)
$
(14,111
)
 
$
139,054

Other comprehensive income (loss), net of tax:
 
 
 
Unrealized net gains (losses) on investment securities (net of tax of $(7) and $2, respectively)
10

 
(2
)
Foreign currency translation adjustments (net of tax of $(623) and $(90), respectively)
2,289

 
143

Unrealized net gains (losses) on interest rate derivative contracts (net of tax of $(1,480) and $7,545, respectively)
984

 
(10,831
)
Total other comprehensive income (loss), net of tax
3,283

 
(10,690
)
Comprehensive income (loss)
(10,828
)
 
128,364

Comprehensive income attributable to noncontrolling interest
(6,806
)
 
(84,393
)
Total comprehensive income (loss) attributable to Forest City Enterprises, Inc.
$
(17,634
)
 
$
43,971































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


4


Forest City Enterprises, Inc. and Subsidiaries
Consolidated Statements of Equity
(Unaudited)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Accumulated
 
 
 
 
 
Preferred Stock
 
Common Stock
 
Additional
 
 
 
 
 
 
 
Other
 
 
 
 
 
Series A
 
Class A
 
Class B
 
Paid-In
 
Retained
 
Treasury Stock
 
Comprehensive
 
Noncontrolling
 
 
 
Shares
 
Amount
 
Shares
 
Amount
 
Shares
 
Amount
 
Capital
 
Earnings
 
Shares
 
Amount
 
(Loss) Income
 
Interest
 
Total
 
(in thousands)
Balances at January 31, 2011
4,400

 
$
220,000

 
144,252

 
$
48,084

 
21,219

 
$
7,073

 
$
689,004

 
$
673,875

 
21

 
$
(259
)
 
$
(94,429
)
 
$
330,912

 
$
1,874,260

Net earnings, net of $4,567 attributable to redeemable noncontrolling interest
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(86,486
)
 
 
 
 
 
 
 
90,485

 
3,999

Other comprehensive loss, net of tax
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(26,031
)
 
1,050

 
(24,981
)
Purchase of treasury stock
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
90

 
(1,670
)
 
 
 
 
 
(1,670
)
Conversion of Class B to Class A shares
 
 
 
 
284

 
95

 
(284
)
 
(95
)
 
 
 
 
 
 
 
 
 
 
 
 
 

Issuance of Class A shares in exchange for Convertible Senior Notes due 2016
 
 
 
 
3,444

 
1,148

 
 
 
 
 
47,594

 
 
 
 
 
 
 
 
 
 
 
48,742

Restricted stock vested
 
 
 
 
343

 
114

 
 
 
 
 
(114
)
 
 
 
 
 
 
 
 
 
 
 

Exercise of stock options
 
 
 
 
13

 
4

 
 
 
 
 
136

 
 
 
(3
)
 
55

 
 
 
 
 
195

Preferred stock dividends
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(15,400
)
 
 
 
 
 
 
 
 
 
(15,400
)
Stock-based compensation
 
 
 
 
 
 
 
 
 
 
 
 
12,585

 
 
 
 
 
 
 
 
 
 
 
12,585

Excess income tax deficiency from stock-based compensation
 
 
 
 
 
 
 
 
 
 
 
 
(812
)
 
 
 
 
 
 
 
 
 
 
 
(812
)
Redeemable noncontrolling interest adjustment
 
 
 
 
 
 
 
 
 
 
 
 
(6,887
)
 
 
 
 
 
 
 
 
 
 
 
(6,887
)
Acquisition of partners’ noncontrolling interest in consolidated subsidiaries
 
 
 
 
 
 
 
 
 
 
 
 
(518
)
 
 
 
 
 
 
 
 
 
(20,435
)
 
(20,953
)
Contributions from noncontrolling interests
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
6,087

 
6,087

Distributions to noncontrolling interests
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(89,644
)
 
(89,644
)
Change to equity method of accounting for subsidiaries
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(33,598
)
 
(33,598
)
Other changes in noncontrolling interests
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(51
)
 
(51
)
Balances at January 31, 2012
4,400

 
$
220,000

 
148,336

 
$
49,445

 
20,935

 
$
6,978

 
$
740,988

 
$
571,989

 
108

 
$
(1,874
)
 
$
(120,460
)
 
$
284,806

 
$
1,751,872

Net loss, net of $4,308 attributable to redeemable noncontrolling interest
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(20,965
)
 
 
 
 
 
 
 
11,162

 
(9,803
)
Other comprehensive income, net of tax
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
3,331

 
(48
)
 
3,283

Purchase of treasury stock
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
107

 
(1,591
)
 
 
 
 
 
(1,591
)
Conversion of Class B to Class A shares
 
 
 
 
76

 
25

 
(76
)
 
(25
)
 
 
 
 
 
 
 
 
 
 
 
 
 

Restricted stock vested
 
 
 
 
444

 
149

 
 
 
 
 
(149
)
 
 
 
 
 
 
 
 
 
 
 

Exercise of stock options
 
 
 
 
 
 
 
 
 
 
 
 
(14
)
 
 
 
(2
)
 
27

 
 
 
 
 
13

Preferred stock dividends
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(7,700
)
 
 
 
 
 
 
 
 
 
(7,700
)
Stock-based compensation
 
 
 
 
 
 
 
 
 
 
 
 
7,829

 
 
 
 
 
 
 
 
 
 
 
7,829

Excess income tax deficiency from stock-based compensation
 
 
 
 
 
 
 
 
 
 
 
 
(779
)
 
 
 
 
 
 
 
 
 
 
 
(779
)
Redeemable noncontrolling interest adjustment
 
 
 
 
 
 
 
 
 
 
 
 
(7,266
)
 
 
 
 
 
 
 
 
 
 
 
(7,266
)
Contributions from noncontrolling interests
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
240

 
240

Distributions to noncontrolling interests
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(19,188
)
 
(19,188
)
Change to equity method of accounting for subsidiary
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(724
)
 
(724
)
Other changes in noncontrolling interests
 
 
 
 
 
 
 
 
 
 
 
 
(183
)
 
 
 
 
 
 
 
 
 
(176
)
 
(359
)
Balances at July 31, 2012
4,400

 
$
220,000

 
148,856

 
$
49,619

 
20,859

 
$
6,953

 
$
740,426

 
$
543,324

 
213

 
$
(3,438
)
 
$
(117,129
)
 
$
276,072

 
$
1,715,827




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

5

Forest City Enterprises, Inc. and Subsidiaires
Consolidated Statements of Cash Flows
(Unaudited)

 
Six Months Ended July 31,
 
2012
 
2011
 
(in thousands)
Net earnings (loss)
$
(14,111
)
 
$
139,054

Depreciation and amortization
106,860

 
109,081

Amortization of mortgage procurement costs
6,547

 
5,589

Impairment of real estate
4,289

 
5,070

Impairment of unconsolidated entities
390

 

Write-offs of abandoned development projects
13,659

 
5,245

Loss on extinguishment of debt
719

 
5,767

Net loss on land held for divestiture activity
6,458

 

Net gain on disposition of partial interests in rental properties

 
(9,561
)
Net gain on change in control of interests
(6,766
)
 

Deferred income tax expense (benefit)
25,273

 
(3,619
)
Equity in earnings of unconsolidated entities
(20,438
)
 
(22,379
)
Net loss on land held for divestiture activity of unconsolidated entities
41,887

 

Stock-based compensation expense
5,208

 
4,401

Amortization and mark-to-market adjustments of derivative instruments
(5,262
)
 
574

Non-cash interest expense related to Senior Notes
186

 
1,148

Cash distributions from operations of unconsolidated entities
30,119

 
23,763

Discontinued operations:
 
 
 
Depreciation and amortization
395

 
4,380

Amortization of mortgage procurement costs
8

 
772

Impairment of real estate
261

 

Deferred income tax expense (benefit)
(2,380
)
 
14,785

Gain on disposition of rental properties
(8,879
)
 
(121,695
)
Cost of sales of land included in projects under construction and development and completed rental properties
2,875

 
2,059

Increase in land held for development and sale
(1,811
)
 
(12,897
)
Decrease in land held for divestiture
33,479

 

Decrease (increase) in notes and accounts receivable
11,355

 
(4,109
)
Decrease (increase) in other assets
2,235

 
(14,288
)
Increase in restricted cash and escrowed funds used for operating purposes
(1,018
)
 
(1,892
)
(Decrease) increase in accounts payable, accrued expenses and other liabilities
(14,743
)
 
3,285

Net cash provided by operating activities
216,795

 
134,533

Cash Flows from Investing Activities
 
 
 
Capital expenditures
(442,098
)
 
(360,580
)
Payment of lease procurement costs
(5,886
)
 
(12,020
)
(Increase) decrease in other assets
(19,140
)
 
1,457

Decrease in restricted cash and escrowed funds used for investing purposes
188,483

 
137,016

Proceeds from disposition of full or partial interests in rental properties
8,896

 
321,438

Increase in investments in and advances to unconsolidated entities
(11,992
)
 
(63,521
)
Net cash (used in) provided by investing activities
(281,737
)
 
23,790

Cash Flows from Financing Activities
 
 
 
Proceeds from nonrecourse mortgage debt and notes payable
461,579

 
176,364

Principal payments on nonrecourse mortgage debt and notes payable
(329,184
)
 
(205,550
)
Borrowings on bank revolving credit facility
75,000

 
464,575

Payments on bank revolving credit facility
(75,000
)
 
(601,727
)
Proceeds from issuance of Convertible Senior Notes, net of $10,625 of issuance costs

 
339,375

Payment of transaction costs related to exchange of Convertible Senior Notes due 2016 for Class A common stock

 
(3,200
)
Payment of deferred financing costs
(7,471
)
 
(9,859
)
Change in restricted cash and escrowed funds and book overdrafts
(8,376
)
 
(10,714
)
Purchase of treasury stock
(1,591
)
 
(1,630
)
Exercise of stock options
13

 
177

Dividends paid to preferred shareholders
(7,700
)
 
(7,700
)
Contributions from noncontrolling interests
240

 
2,909

Distributions to noncontrolling interests
(19,188
)
 
(82,367
)
Net cash provided by financing activities
88,322

 
60,653

Net increase in cash and equivalents
23,380

 
218,976

Cash and equivalents at beginning of period
217,486

 
193,372

Cash and equivalents at end of period
$
240,866

 
$
412,348




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

6

Forest City Enterprises, Inc. and Subsidiaires
Consolidated Statements of Cash Flows
(Unaudited)

Supplemental Non-Cash Disclosures:
The following table represents a summary of non-cash transactions primarily as a result of changes in consolidation methods due to the occurrence of triggering events including, but not limited to, the dispositions of partial interests of rental properties. Other non-cash transactions included in the table include acquisitions of partners' noncontrolling interests, dispositions of properties whereby the nonrecourse mortgage debt is assumed by the buyer, change in construction payables, reclassification prior to sale of outlot land parcels from projects under construction and development or completed rental properties to land held for sale and the capitalization of stock-based compensation granted to employees directly involved with the development and construction of real estate.
In addition to the transactions noted above, during the three months ended July 31, 2012, the Company issued $125,000,000 of 2034 Senior Notes ($116,792,000, net of discount), which was immediately deposited into a cash escrow account. As a result, this non-cash transaction is included in the increase in senior and subordinated debt and increase in restricted cash and escrowed funds within the Financing Activities section of the table below. See Note D – Senior and Subordinated Debt for more information.
 
Six Months Ended July 31,
 
2012
 
2011
 
(in thousands)
Operating Activities
 
Increase in land held for development and sale
$
(1,916
)
 
$
(7,401
)
Increase in land held for divestiture
(5,538
)
 

Decrease in notes and accounts receivable
6,912

 
32,595

(Increase) decrease in other assets
(2,435
)
 
123,885

Decrease in restricted cash and escrowed funds
3,624

 
149,790

Increase (decrease) in accounts payable and accrued expenses
6,701

 
(9,983
)
Total effect on operating activities
$
7,348

 
$
288,886

Investing Activities
 
 
 
(Increase) decrease in projects under construction and development
$
(14,174
)
 
$
487,387

(Increase) decrease in completed rental properties
(2,995
)
 
1,097,239

Decrease (increase) in investments in and advances to affiliates
9,524

 
(253,540
)
Total effect on investing activities
$
(7,645
)
 
$
1,331,086

Financing Activities
 
 
 
Decrease in nonrecourse mortgage debt and notes payable
$
(2,561
)
 
$
(1,569,240
)
Increase (decrease) in senior and subordinated debt
118,951

 
(40,000
)
Increase in restricted cash and escrowed funds
(116,792
)
 

Increase in Class A common stock

 
959

(Decrease) increase in additional paid-in capital
(5,610
)
 
40,861

Increase in redeemable noncontrolling interest
7,266

 
1,987

Decrease in noncontrolling interest
(957
)
 
(54,539
)
Total effect on financing activities
$
297

 
$
(1,619,972
)


7

Forest City Enterprises, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Unaudited)


A. Accounting Policies
Basis of Presentation
The interim consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q and should be read in conjunction with the consolidated financial statements and related notes included in the Company’s annual report on Form 10-K for the year ended January 31, 2012. The results of interim periods are not necessarily indicative of results for the full year or any subsequent period. In the opinion of management, all adjustments considered necessary for a fair statement of financial position, results of operations and cash flows at the dates and for the periods presented have been included.
Revision of Prior Period Financial Statements
Historically, the Company wrote-off specific development projects when management determined it was probable the specific project would not be developed. In addition, the Company recorded an allowance for estimated project development write-offs for projects under development that had not yet been abandoned (the “Allowance”). In connection with the preparation of its financial statements for the year ended January 31, 2012, the Company reconsidered the historical accounting policy related to the Allowance and determined that recording the Allowance was not in accordance with ASC 970-360-40 (Real Estate – Abandonments) and concluded that the reserve should be removed (“Allowance Revision”). The Company assessed the materiality of this error on prior periods’ financial statements in accordance with ASC 250 (SEC’s Staff Accounting Bulletin No. 99, "Materiality"), and concluded that the error was not material to any prior annual or interim periods, but the cumulative adjustment necessary to remove the Allowance would be material if the correction was recorded during the year ended January 31, 2012. Accordingly, in accordance with ASC 250 (SEC Staff Accounting Bulletin No. 108, “Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements”), the financial statements for the three months ended July 31, 2011, which are presented herein, have been revised. The error had no effect on the financial statements for the six months ended July 31, 2011. The following are selected financial statement line items illustrating the effect of the error correction thereon:
 
 
As Reported  (1)
 
Adjustment
 
As Revised
Consolidated Statement of Operations for the three months ended July 31, 2011
 
(in thousands, except per share data)
Operating expenses
 
$
154,756

 
$
(2,000
)
 
$
152,756

Deferred income tax expense (benefit)
 
(4,537
)
 
776

 
(3,761
)
Earnings (loss) from continuing operations
 
(10,521
)
 
1,224

 
(9,297
)
Net earnings attributable to Forest City Enterprises, Inc. common shareholders
 
4,284

 
1,224

 
5,508

Basic earnings (loss) per common share from continuing operations attributable to Forest City Enterprises, Inc. common shareholders
 
(0.09
)
 
0.01

 
(0.08
)
Diluted earnings (loss) per common share from continuing operations attributable to Forest City Enterprises, Inc. common shareholders
 
(0.09
)
 
0.01

 
(0.08
)
Basic net earnings per common share attributable to Forest City Enterprises, Inc. common shareholders
 
0.02

 
0.01

 
0.03

Diluted net earnings per common share attributable to Forest City Enterprises, Inc. common shareholders
 
0.02

 
0.01

 
0.03

(1)
Adjusted to reflect the impact of discontinued operations (see Note M).
Use of Estimates
The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America (“GAAP”) requires the Company to make estimates and assumptions in certain circumstances that affect amounts reported in the accompanying consolidated financial statements and related notes. Some of the critical estimates made by the Company include, but are not limited to, determination of the primary beneficiary of variable interest entities (“VIEs”), estimates of useful lives for long-lived assets, reserves for collection on accounts and notes receivable and other investments, impairment of real estate and other-than-temporary impairments on its equity method investments. As a result of the nature of estimates made by the Company, actual results could differ.
Reclassification
Certain prior year amounts in the accompanying consolidated financial statements have been reclassified to conform to the current year’s presentation.

8

Forest City Enterprises, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Unaudited)

Variable Interest Entities
The Company’s VIEs consist of joint ventures that are engaged, directly or indirectly, in the ownership, development and management of office buildings, regional malls, specialty retail centers, apartment communities, military housing, a hotel, land development and The Nets, a member of the National Basketball Association (“NBA”). As of July 31, 2012, the Company determined that it was the primary beneficiary of 31 VIEs representing 20 properties (16 VIEs representing 7 properties in the Residential Group, 14 VIEs representing 12 properties in the Commercial Group and 1 VIE/property in the Land Development Group). The creditors of the consolidated VIEs do not have recourse to the Company’s general credit. As of July 31, 2012, the Company held variable interests in 59 VIEs for which it is not the primary beneficiary. The maximum exposure to loss as a result of involvement with these unconsolidated VIEs is limited to the Company’s investments in those VIEs totaling approximately $66,000,000 at July 31, 2012. In addition, as of July 31, 2012, the Company consolidates a VIE which holds collateralized borrowings of $29,000,000, which the Company has guaranteed.
Accumulated Other Comprehensive Loss
The following table summarizes the components of accumulated other comprehensive income (loss) (“accumulated OCI”):
 
July 31, 2012
 
January 31, 2012
 
(in thousands)
Unrealized losses on securities
$
428

 
$
445

Unrealized losses on foreign currency translation

 
1,558

Unrealized losses on interest rate contracts (1)
191,110

 
194,928

 
191,538

 
196,931

Noncontrolling interest and income tax benefit
(74,409
)
 
(76,471
)
Accumulated Other Comprehensive Loss
$
117,129

 
$
120,460

(1)
Included in the amounts as of July 31 and January 31, 2012 are $141,840 and $143,303, respectively, of unrealized losses on an interest rate swap associated with New York Times, an office building in Manhattan, New York, on its nonrecourse mortgage debt with a notional amount of $640,000. This swap effectively fixes the mortgage at an all-in lender interest rate of 6.40% (5.50% swap rate plus 0.90% lender spread) and expires in September 2017.
Noncontrolling Interest
Interests held by partners in consolidated entities are reflected in noncontrolling interest, which represents the noncontrolling interests’ share of the underlying net assets of the Company’s consolidated subsidiaries. Noncontrolling interest that is not redeemable is reported in the equity section of the Consolidated Balance Sheets.
Noncontrolling interests where the Company may be required to repurchase the noncontrolling interest at fair value under a put option or other contractual redemption requirement are reported in the mezzanine section of the Consolidated Balance Sheets between liabilities and equity, as redeemable noncontrolling interest. The Company adjusts the redeemable noncontrolling interest to redemption value (which approximates fair value) at each balance sheet date with changes recognized as an adjustment to additional paid-in capital (see Note F – Fair Value Measurements).
Investments in Unconsolidated Entities
For the six months ended July 31, 2012, Brooklyn Basketball Holdings, LLC ("BBH"), an equity method investment that owns The Nets, was deemed a significant subsidiary. Summarized financial information for BBH is as follows:
 
Six Months Ended July 31,
 
2012
 
2011
 
(in thousands)
Operations:
 
 
 
Revenues
$
57,470

 
$
49,132

Operating expenses
(81,151
)
 
(71,647
)
Interest expense, net
(7,228
)
 
(6,764
)
Depreciation and amortization
(4,938
)
 
(4,599
)
Net loss (pre-tax)
$
(35,847
)
 
$
(33,878
)
Company's portion of net loss (pre-tax)
$
(15,230
)
 
$
(3,686
)

9

Forest City Enterprises, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Unaudited)

New Accounting Guidance
The following accounting pronouncements were adopted during the six months ended July 31, 2012:
In September 2011, the Financial Accounting Standards Board ("FASB") issued an amendment to the accounting guidance on testing goodwill for impairment. This guidance provides an entity the option to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If after performing a qualitative assessment, an entity determines that it is not more likely than not that the fair market value of a reporting unit is less than its carrying amount, then performing the two-step goodwill impairment test is not necessary. If an entity concludes otherwise, it is then required to perform the first step of the two-step goodwill impairment test. This guidance is effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011. The adoption of this guidance on February 1, 2012 did not impact the Company’s consolidated financial statements.
In June 2011, the FASB issued an amendment to the accounting guidance for the presentation of comprehensive income. This guidance provides an entity the option to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. This guidance is effective for annual and interim reporting periods beginning after December 15, 2011.The adoption of this guidance on February 1, 2012 did not have a material impact on the Company’s consolidated financial statements.
In May 2011, the FASB issued amendments to the accounting guidance on fair value measurement and disclosure requirements. This guidance results in common fair value measurement and disclosure requirements for financial statements prepared in accordance with GAAP and International Financial Reporting Standards. As a result, this guidance changes the wording used to describe many of the existing requirements for measuring fair value and for disclosing information about fair value measurements, but for many requirements the intent is not to change the existing application. Some of the guidance clarifies the FASB’s intent about the application of existing fair value measurement requirements or may change a particular principle or requirement for measuring fair value or for disclosing information about fair value measurements. This guidance is effective for annual and interim reporting periods beginning after December 15, 2011. The required disclosures upon adoption of this guidance on February 1, 2012 are included in the Company’s consolidated financial statements.
In April 2011, the FASB issued an amendment to the guidance on accounting for transfers and servicing to improve the accounting for repurchase agreements and other agreements that entitle and obligate a transferor to repurchase or redeem financial assets before their maturity. The guidance specifies when an entity may or may not recognize a sale upon the transfer of financial assets subject to repurchase agreements, based upon whether the entity has maintained effective control over the transferred financial assets. This guidance is effective for annual and interim reporting periods beginning on or after December 15, 2011. The adoption of this guidance on February 1, 2012 did not impact the Company’s consolidated financial statements.
The following new accounting pronouncements will be adopted on the respective required effective dates:
In July 2012, the FASB issued an amendment to the accounting guidance on testing indefinite-lived intangible assets for impairment. This guidance provides an entity the option to first assess qualitative factors to determine whether the existence of events and circumstances indicates that it is more likely than not that the indefinite-lived intangible asset is impaired. If an entity concludes that it is not more likely than not that the asset is impaired, then the entity is not required to take further action. If an entity concludes otherwise, it is required to determine the fair value of the indefinite-lived intangible asset and perform the quantitative test by comparing the fair value with the carrying amount. This guidance is effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012. Early adoption is permitted. The Company does not expect the adoption of this guidance to have a material impact on its consolidated financial statements.
In December 2011, the FASB issued an amendment to the accounting guidance on derecognition of in substance real estate. This guidance specifies that when a parent company (reporting entity) ceases to have a controlling financial interest (as described in the accounting guidance on Consolidation) in a subsidiary that is in substance real estate as a result of a default on the subsidiary’s nonrecourse debt, the reporting entity should apply the guidance on property, plant and equipment to determine whether it should derecognize the in substance real estate. Generally, a reporting entity would not satisfy the requirements to derecognize the in substance real estate before the legal transfer of the real estate to the lender and the extinguishment of the related nonrecourse indebtedness. This guidance is effective for annual and interim reporting periods beginning on or after June 15, 2012. Early adoption is permitted. The guidance in this amendment is consistent with the Company's previous accounting policies and, as a result will not impact its consolidated financial statements or their comparability to previously issued financial statements.

10

Forest City Enterprises, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Unaudited)

In December 2011, the FASB issued an amendment to the accounting guidance that requires entities to disclose both gross and net information on financial instruments and transactions eligible for offset on the balance sheets and financial instruments and transactions subject to an agreement similar to a master netting arrangement. This guidance is effective for annual and interim reporting periods beginning on or after January 1, 2013. Early adoption is not permitted. The Company does not expect the adoption of the guidance to have a material impact on its consolidated financial statements.

B. Mortgage Debt and Notes Payable, Nonrecourse
The following table summarizes the mortgage debt and notes payable, nonrecourse maturities, including balances associated with land held for divestiture and operating property held for sale, as of July 31, 2012:
Fiscal Years Ending January 31,
Total
Maturities
 
(in thousands)
2013
$
1,048,808

2014
797,294

2015
325,514

2016
373,480

2017
424,954

Thereafter
2,819,308

Total
$
5,789,358


C. Bank Revolving Credit Facility
The Company has a Third Amended and Restated Credit Agreement and a Third Amended and Restated Guaranty of Payment of Debt (collectively, the “Credit Facility”) which provides total available borrowings of $450,000,000. The Credit Facility matures on March 30, 2014 and provides for one, 12-month extension option, subject to certain conditions. Borrowings bear interest at LIBOR, subject to a floor of 100 basis points, plus 3.75%. Up to $100,000,000 of the available borrowings may be used, in the aggregate, for letters of credit and/or surety bonds. The Credit Facility has a number of restrictive covenants, including a prohibition on certain consolidations and mergers, limitations on the amount of debt, guarantees and property liens that the Company may incur and restrictions on the pledging of ownership interests in subsidiaries. Additionally, the Credit Facility contains certain development limitations and financial covenants, including the maintenance of minimum liquidity, certain debt service and cash flow coverage ratios, and specified levels of shareholders’ equity (all as specified in the Credit Facility). At July 31, 2012, the Company was in compliance with all of these financial covenants.
The Company also has a First Amended Pledge Agreement (“Pledge Agreement”) with the banks party to the Credit Facility. The Pledge Agreement secures the Company’s obligations under the Credit Facility by granting a security interest to the bank group in its right, title and interest as a member, partner, shareholder or other equity holder of certain direct subsidiaries, including, but not limited to, its right to receive profits, proceeds, accounts, income, dividends, distributions or return of capital from such subsidiaries, to the extent the granting of such security interest would not result in a default under project level financing or the organizational documents of such subsidiary.
The following table summarizes the available credit on the Credit Facility:
 
July 31, 2012
 
January 31, 2012
 
(in thousands)
Maximum borrowings
$
450,000

 
$
450,000

Less outstanding balances:
 
 
 
Borrowings

 

Letters of credit
70,646

 
69,389

Surety bonds

 

Available credit
$
379,354

 
$
380,611



11

Forest City Enterprises, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Unaudited)

D. Senior and Subordinated Debt
The following table summarizes the Company’s senior and subordinated debt:
 
July 31, 2012
 
January 31, 2012
 
(in thousands)
Senior Notes:
 
 
 
3.625% Puttable Equity-Linked Senior Notes due 2014, net of discount
$
199,294

 
$
199,132

7.625% Senior Notes due 2015
178,253

 
178,253

5.000% Convertible Senior Notes due 2016
50,000

 
50,000

6.500% Senior Notes due 2017
132,144

 
132,144

4.250% Convertible Senior Notes due 2018
350,000

 
350,000

7.375% Senior Notes due 2034, net of discount
218,975

 
100,000

Total Senior Notes
1,128,666

 
1,009,529

Subordinated Debt:
 
 
 
Subordinate Tax Revenue Bonds due 2013
29,000

 
29,000

Total Senior and Subordinated Debt
$
1,157,666

 
$
1,038,529

On July 3, 2012, the Company issued $125,000,000 of additional 7.375% Senior Notes due February 1, 2034 (“2034 Senior Notes”) in a public offering, net of a 4.84% discount. The terms of the 2034 Senior Notes, other than their issue date and public offering price, are identical to the previously issued $100,000,000 aggregate principal amount of 2034 Senior Notes on February 10, 2004. Proceeds of this offering, net of discounts and underwriters commissions were $116,792,000. Net proceeds, along with an additional $8,208,000 of cash on hand were immediately deposited into a restricted cash escrow account established to redeem $125,000,000 principal amount of the Company's 7.625% Senior Notes due 2015 (“2015 Senior Notes”). The amount included in the restricted escrow account is included in restricted cash and escrowed funds on the Consolidated Balance Sheets at July 31, 2012.
On August 20, 2012, the Company used the cash escrow to redeem $125,000,000 in principal amount of its outstanding 2015 Senior Notes. The 2015 Senior Notes were purchased at par plus any accrued and unpaid interest up to, but not including, August 20, 2012. After the redemption, $53,253,000 of 2015 Senior Notes remain outstanding.
All of the Company’s senior notes are unsecured senior obligations and rank equally with all existing and future unsecured indebtedness; however, they are effectively subordinated to all existing and future secured indebtedness and other liabilities of the Company’s subsidiaries to the extent of the value of the collateral securing such other debt, including the Credit Facility. The indentures governing the senior notes contain covenants providing, among other things, limitations on incurring additional debt and payment of dividends. At July 31, 2012, the Company was in compliance with these financial covenants.

E. Derivative Instruments and Hedging Activities
Risk Management Objective of Using Derivatives
The Company maintains an overall interest rate risk management strategy that incorporates the use of derivative instruments to minimize significant unplanned impact on earnings and cash flows that may be caused by interest rate volatility. The Company’s strategy includes the use of interest rate swaps and option contracts that have indices related to the pricing of specific balance sheet liabilities. The Company enters into interest rate swaps to convert certain floating-rate debt to fixed-rate long-term debt, and vice-versa, depending on market conditions, or forward starting swaps to hedge the changes in benchmark interest rates on forecasted financings. The Company enters into interest rate swap agreements for hedging purposes for periods that are generally one to ten years. Option products utilized include interest rate caps, floors and Treasury options. The use of these option products is consistent with the Company’s risk management objective to reduce or eliminate exposure to variability in future cash flows primarily attributable to changes in benchmark rates relating to forecasted financings, and the variability in cash flows attributable to increases relating to interest payments on its floating-rate debt. The caps and floors have typical durations ranging from one to three years while the Treasury options are for periods of five to ten years. The Company does not have any Treasury options outstanding at July 31, 2012.
Cash Flow Hedges of Interest Rate Risk
The Company’s objectives in using interest rate derivatives are to add stability to interest expense and to manage exposure to interest rate movements. The Company primarily uses interest rate caps and swaps as part of its interest rate risk management strategy. Interest rate caps designated as cash flow hedges involve the receipt of variable-rate amounts from a counterparty if interest rates rise above the strike rate on the contract in exchange for an upfront premium. Interest rate swaps 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 agreements without exchange of the underlying notional amount.

12

Forest City Enterprises, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Unaudited)

The effective portion of changes in the fair value of derivatives designated and qualifying as cash flow hedges is recorded in accumulated OCI and is subsequently reclassified into earnings in the period that the hedged forecasted transaction affects earnings. The ineffective portion of the change in fair value of the derivatives is recognized directly in earnings. The Company did not incur any charges for ineffectiveness related to fully consolidated cash flow hedges during the three and six months ended July 31, 2012 and 2011. As of July 31, 2012, the Company expects that within the next twelve months it will reclassify amounts recorded in accumulated OCI into earnings as an increase in interest expense of approximately $28,085,000, net of tax. However, the actual amount reclassified could vary due to future changes in fair value of these derivatives.
Fair Value Hedges of Interest Rate Risk
From time to time, the Company and/or certain of its joint ventures (the “Joint Ventures”) enter into total rate of return swaps (“TRS”) on various tax-exempt fixed-rate borrowings generally held by the Company and/or within the Joint Ventures. The TRS convert these borrowings from a fixed rate to a variable rate and provide an efficient financing product to lower the cost of capital. In exchange for a fixed rate, the TRS require the Company and/or the Joint Ventures to pay a variable rate, generally equivalent to the SIFMA rate plus a spread. At July 31, 2012, the SIFMA rate was 0.15%. Additionally, the Company and/or the Joint Ventures have guaranteed the fair value of the underlying borrowings. Any fluctuation in the value of the TRS is offset by the fluctuation in the value of the underlying borrowings, resulting in minimal financial impact to the Company and/or the Joint Ventures. At July 31, 2012, the aggregate notional amount of TRS that are designated as fair value hedging instruments is $266,660,000. The underlying TRS borrowings are subject to a fair value adjustment (see Note F – Fair Value Measurements).
Nondesignated Hedges of Interest Rate Risk
The Company entered into derivative contracts that are intended to economically hedge certain interest rate risk, even though the contracts do not qualify for or the Company has elected not to apply hedge accounting. In situations in which hedge accounting is discontinued, or not elected, and the derivative remains outstanding, the Company records the derivative at its fair value and recognizes changes in the fair value in the Consolidated Statements of Operations.
The Company enters into forward swaps to protect itself against fluctuations in the swap rate at terms ranging between five to ten years associated with forecasted fixed rate borrowings. At the time the Company secures and locks an interest rate on an anticipated financing, it intends to simultaneously terminate the forward swap associated with that financing. At July 31, 2012, the Company had no forward swaps outstanding. The Company terminated a forward swap with a notional amount of $62,800,000 on February 1, 2011. This forward swap was not designated as a cash flow hedge. As such, the change in fair value of this swap was marked to market through earnings on a quarterly basis. Related to this forward swap, the Company recorded $229,000 for the six months ended July 31, 2011 as a reduction of interest expense.

13

Forest City Enterprises, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Unaudited)

In instances where the Company enters into separate derivative instruments effectively hedging the same debt for consecutive annual periods, the amount of notional is excluded from the following disclosure in an effort to provide information that enables the financial statement user to understand the Company’s volume of derivative activity. The following table presents the fair values and location in the Consolidated Balance Sheets of all derivative instruments.
  
Fair Value of Derivative Instruments
 
July 31, 2012
  
Asset Derivatives
(included in Other Assets)
 
Liability Derivatives
(included in Accounts Payable
and Accrued Expenses)
 
Current
Notional
 
Fair Value
 
Current
Notional
 
Fair Value
 
(in thousands)
Derivatives Designated as Hedging Instruments
 
 
 
 
 
 
 
Interest rate caps
$

 
$

 
$

 
$

Interest rate swap agreements

 

 
1,020,446

 
146,703

TRS
28,100

 
987

 
238,560

 
10,536

Total derivatives designated as hedging instruments
$
28,100

 
$
987

 
$
1,259,006

 
$
157,239

Derivatives Not Designated as Hedging Instruments
 
 
 
 
 
 
 
Interest rate caps
$
534,585

 
$
13

 
$

 
$

Interest rate swap agreements
19,521

 
673

 

 

TRS
140,800

 
18,692

 
30,360

 
16,874

Total derivatives not designated as hedging instruments
$
694,906

 
$
19,378

 
$
30,360

 
$
16,874

 
 
 
 
 
 
 
 
 
January 31, 2012
 
(in thousands)
Derivatives Designated as Hedging Instruments
 
 
 
 
 
 
 
Interest rate caps
$

 
$

 
$

 
$

Interest rate swap agreements

 

 
897,193

 
148,699

TRS
27,197

 
774

 
243,560

 
9,954

Total derivatives designated as hedging instruments
$
27,197

 
$
774

 
$
1,140,753

 
$
158,653

Derivatives Not Designated as Hedging Instruments
 
 
 
 
 
 
 
Interest rate caps
$
435,201

 
$
13

 
$

 
$

Interest rate swap agreements
19,521

 
1,083

 

 

TRS
141,703

 
9,534

 
30,360

 
15,367

Total derivatives not designated as hedging instruments
$
596,425

 
$
10,630

 
$
30,360

 
$
15,367


14

Forest City Enterprises, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Unaudited)

The following table presents the impact of gains and losses related to derivative instruments designated as cash flow hedges included in the accumulated OCI section of the Consolidated Balance Sheets and in equity in loss of unconsolidated entities and interest expense in the Consolidated Statements of Operations:
 
 
 
 
Gain (Loss) Reclassified from
Accumulated OCI
Derivatives Designated as
Cash Flow Hedging Instruments
 
Gain (Loss)
Recognized
in OCI
(Effective Portion)
 
Location on Consolidated Statements
of Operations
 
Effective
Amount
 
Ineffective
Amount
 
 
(in thousands)
Three Months Ended July 31, 2012
 
 
 
 
 
 
 
 
Interest rate caps, interest rate swaps and Treasury options
 
$
(7,019
)
 
Interest expense
 
$
(980
)
 
$

Interest rate caps, interest rate swaps and Treasury options
 

 
Equity in loss of 
unconsolidated entities
 
(93
)
 
6

Total
 
$
(7,019
)
 
 
 
$
(1,073
)
 
$
6

Six Months Ended July 31, 2012
 
 
 
 
 
 
 
 
Interest rate caps, interest rate swaps and Treasury options
 
$
1,706

 
Interest expense
 
$
(1,947
)
 
$

Interest rate caps, interest rate swaps and Treasury options
 

 
Equity in loss of 
unconsolidated entities
 
(181
)
 
8

Total
 
$
1,706

 
 
 
$
(2,128
)
 
$
8

Three Months Ended July 31, 2011
 
 
 
 
 
 
 
 
Interest rate caps, interest rate swaps and Treasury options
 
$
(20,850
)
 
Interest expense
 
$
(944
)
 
$


Interest rate caps and Treasury options
 

 
Equity in loss of unconsolidated entities
 
(94
)
 
(555
)
Total
 
$
(20,850
)
 
 
 
$
(1,038
)
 
$
(555
)
Six Months Ended July 31, 2011
 
 
 
 
 
 
 
 
Interest rate caps, interest rate swaps and Treasury options
 
$
(22,889
)
 
Interest expense
 
$
(1,635
)
 
$

 
Interest rate caps and Treasury options
 

 
Equity in loss of unconsolidated entities
 
(182
)
 
(555
)
Total
 
$
(22,889
)
 
 
 
$
(1,817
)
 
$
(555
)
The following table presents the impact of gains and losses in the Consolidated Statements of Operations related to derivative instruments:
 
Net Gain (Loss) Recognized
 
Three Months Ended July 31,
 
Six Months Ended July 31,
 
2012
 
2011
 
2012
 
2011
 
(in thousands)
Derivatives Designated as Fair Value Hedging Instruments
 
 
 
 
 
 
 
TRS (1)
$
(225
)
 
$
5,982

 
$
(370
)
 
$
7,464

Derivatives Not Designated as Hedging Instruments
 
 
 
 
 
 
 
Interest rate caps and interest rate swaps
$
(241
)
 
$
(201
)
 
$
(446
)
 
$
(397
)
TRS
3,348

 
414

 
7,651

 
1,454

Total
$
3,107

 
$
213

 
$
7,205

 
$
1,057

(1)
The net gain (loss) recognized in interest expense from the change in fair value of the underlying TRS borrowings was $225 and $370 for the three and six months ended July 31, 2012, respectively, and $(5,982) and $(7,464) for the three and six months ended July 31, 2011, respectively, offsetting the gain (loss) recognized on the TRS (see Note F – Fair Value Measurements).
Credit-risk-related Contingent Features
The principal credit risk to the Company through its interest rate risk management strategy is the potential inability of the financial institution from which the derivative financial instruments were purchased to cover its obligations. If a counterparty fails to fulfill its obligation under a derivative contract, the Company’s risk of loss approximates the fair value of the derivative. To mitigate this exposure, the Company generally purchases its derivative financial instruments from the financial institution that issues the related debt, from financial institutions with which the Company has other lending relationships, or from financial institutions with a minimum credit rating of AA at the time the Company enters into the transaction.

15

Forest City Enterprises, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Unaudited)

The Company has agreements with its derivative counterparties that contain a provision under which the derivative counterparty could terminate the derivative obligations if the Company defaults on its obligations under the Credit Facility and designated conditions are fulfilled. In instances where the Company’s subsidiaries have derivative obligations that are secured by a mortgage, the derivative obligations could be terminated if the indebtedness between the two parties is terminated, either by loan payoff or default of the indebtedness. In addition, the Company has certain derivative contracts which provide that if the Company’s credit rating falls below certain levels, it may trigger additional collateral to be posted with the counterparty up to the full amount of the liability position of the derivative contracts. Also, certain subsidiaries have agreements that contain provisions whereby the subsidiaries must maintain certain minimum financial ratios.
As of July 31, 2012, the aggregate fair value of all derivative instruments in a liability position, prior to the adjustment for nonperformance risk of $14,960,000, is $189,073,000. The Company had posted collateral consisting primarily of cash and notes receivable of $88,479,000 related to all derivative instruments. If all credit risk contingent features underlying these agreements had been triggered on July 31, 2012, the Company would have been required to post collateral of the full amount of the liability position.

F. Fair Value Measurements
The Company’s financial assets and liabilities subject to fair value measurements are interest rate caps, interest rate swap agreements, TRS and borrowings subject to TRS (see Note E—Derivative Instruments and Hedging Activities). The Company’s impairment of real estate and unconsolidated entities is also subject to fair value measurements (see Note I – Land Held for Divestiture, Note L –Impairment of Real Estate, Impairment of Unconsolidated Entities and Write-Off of Abandoned Development Projects and Note M – Discontinued Operations and Gain on Disposition of Rental Properties).
Financial Instruments Measured at Fair Value on a Recurring Basis
The Company’s financial assets consist of interest rate caps, interest rate swap agreements and TRS with positive fair values that are included in other assets. The Company’s financial liabilities consists of interest rate swap agreements and TRS with negative fair values that are included in accounts payable, accrued expenses and other liabilities and borrowings subject to TRS included in mortgage debt and notes payable, nonrecourse. The Company records the redeemable noncontrolling interest related to Brooklyn Arena, LLC at redemption value, which approximates fair value.
The following table presents information about the Company’s financial assets and liabilities and redeemable noncontrolling interest that were measured at fair value on a recurring basis, and indicates the fair value hierarchy of the valuation techniques utilized to determine such fair value.
 
Fair Value Measurements
 
July 31, 2012
 
Level 1
 
Level 2
 
Level 3
 
Total
 
(in thousands)
Interest rate caps
$

 
$
13

 
$

 
$
13

Interest rate swap agreements (positive fair value)

 
673

 

 
673

Interest rate swap agreements (negative fair value)

 
(4,863
)
 
(141,840
)
 
(146,703
)
TRS (positive fair value)

 

 
19,679

 
19,679

TRS (negative fair value)

 

 
(27,410
)
 
(27,410
)
Fair value adjustment to the borrowings subject to TRS

 

 
9,550

 
9,550

Redeemable noncontrolling interest

 

 
(232,107
)
 
(232,107
)
Total
$

 
$
(4,177
)
 
$
(372,128
)
 
$
(376,305
)
 
 
 
 
 
 
 
 
 
January 31, 2012
 
(in thousands)
Interest rate caps
$

 
$
13

 
$

 
$
13

Interest rate swap agreements (positive fair value)

 
1,083

 

 
1,083

Interest rate swap agreements (negative fair value)

 
(5,396
)
 
(143,303
)
 
(148,699
)
TRS (positive fair value)

 

 
10,308

 
10,308

TRS (negative fair value)

 

 
(25,321
)
 
(25,321
)
Fair value adjustment to the borrowings subject to TRS

 

 
9,180

 
9,180

Redeemable noncontrolling interest

 

 
(229,149
)
 
(229,149
)
Total
$

 
$
(4,300
)
 
$
(378,285
)
 
$
(382,585
)

16

Forest City Enterprises, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Unaudited)

The table below presents a reconciliation of all financial assets and liabilities and redeemable noncontrolling interest measured at fair value on a recurring basis using significant unobservable inputs (Level 3).