UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

                                  

FORM 10-Q

Commission File Number 1-11533

(Exact name of registrant as specified in its charter)

Bank of America Center, Suite 2400

390 North Orange Avenue

(Address of principal executive offices) (Zip Code)

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  R No £

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§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 R 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):

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes £ No R

68,765,182 shares of Common Stock, $.001 par value, were outstanding at May 1, 2013.

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			Page
Part I. Financial Information
Item 1.		Financial Statements (unaudited)
		Consolidated Balance Sheets, March 31, 2013 and December 31, 2012	4
		Consolidated Statements of Operations and Comprehensive Income (Loss) for the Three Months
		Ended March 31, 2013 and 2012	5
		Consolidated Statement of Changes in Equity for the Three Months Ended
		March 31, 2013	6
		Consolidated Statements of Cash Flows for the Three Months Ended
		March 31, 2013 and 2012	7
		Notes to Consolidated Financial Statements	8
Item 2.		Management's Discussion and Analysis of Financial Condition and Results of Operations	20
Item 3.		Quantitative and Qualitative Disclosures About Market Risk	37
Item 4.		Controls and Procedures	37
Part II. Other Information
Item 1A.		Risk Factors	37
Item 2.		Unregistered Sales of Equity Securities and Use of Proceeds	37
Item 3.		Defaults Upon Senior Securities	38
Item 4.		Mine Safety Disclosures	38
Item 5.		Other Information	38
Item 6.		Exhibits	38
Signatures
Authorized Signatures			39

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Forward-Looking Statements

Certain statements in this Form 10-Q that are not in the present or past tense or discuss the Company's expectations (including the use of the words anticipate, believe, forecast, intends, expects, project, or similar expressions) are forward-looking statements within the meaning of the federal securities laws and as such are based upon the Company's current belief as to the outcome and timing of future events.  Examples of forward-looking statements include projected capital resources, projected profitability and portfolio performance, estimates of market rental rates, projected capital improvements, expected sources of financing, expectations as to the timing of closing of acquisitions, dispositions or other transactions, the expected operating performance of anticipated near-term acquisitions and descriptions relating to these expectations, including without limitation, the anticipated net operating income yield.  Forward-looking statements involve risks and uncertainties (some of which are beyond our control) and are subject to change based upon various factors including, but not limited to, the following risks and uncertainties: changes in the real estate industry and in performance of the financial markets; the demand for and market acceptance of our properties for rental purposes; the amount and growth of our expenses; tenant financial difficulties and general economic conditions, including interest rates, as well as economic conditions in our geographic markets;  defaults or non-renewal of leases; risks associated with joint venture partners; the risks associated with the ownership of real property, including risks related to natural disasters; risks associated with property acquisitions; the failure to acquire or sell properties as and when anticipated; termination of property management contracts; the bankruptcy or insolvency of companies for which we provide property management services or the sale of these properties; the outcome of claims and litigation involving or affecting us; the ability to satisfy conditions necessary to close pending transactions; our failure to maintain our status as real estate investment trust, or REIT, under the Internal Revenue Code of 1986, as amended, or the Code; and other risks and uncertainties detailed from time to time in our SEC filings. Should one or more of these risks or uncertainties occur, or should underlying assumptions prove incorrect, our business, financial condition, liquidity, cash flows and results could differ materially from those expressed in any forward-looking statement. Any forward-looking statements speak only as of the date on which it is made. New risks and uncertainties arise over time, and it is not possible for us to predict the occurrence of those matters or the manner in which they may affect us. Except as required by law, we undertake no obligation to publicly update or revise any forward-looking statement to reflect changes in underlying assumptions or factors, of new information, data or methods, future events or other changes.

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PARKWAY PROPERTIES, INC.

CONSOLIDATED BALANCE SHEETS

 (In thousands, except share and per share data)

See notes to consolidated financial statements.

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PARKWAY PROPERTIES, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)

(In thousands, except per share data)

See notes to consolidated financial statements.

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PARKWAY PROPERTIES, INC.

CONSOLIDATED STATEMENT OF CHANGES IN EQUITY

(In thousands, except share and per share data)

(Unaudited)

See notes to consolidated financial statements.

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PARKWAY PROPERTIES, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

See notes to consolidated financial statements.

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Parkway Properties, Inc.

Notes to Condensed Consolidated Financial Statements (Unaudited)

March 31, 2013

Note A – Basis of Presentation

The consolidated financial statements include the accounts of Parkway Properties, Inc. ("Parkway" or the "Company"), its wholly owned subsidiaries and joint ventures in which the Company has a controlling interest.  The other partners' equity interests in the consolidated joint ventures are reflected as noncontrolling interests in the consolidated financial statements.  Parkway also consolidates subsidiaries where the entity is a variable interest entity ("VIE") and Parkway is the primary beneficiary and has the power to direct the activities of the VIE and has the obligation to absorb losses or the right to receive the benefits from the VIE that could be potentially significant to the VIE.  At March 31, 2013 and December 31, 2012, Parkway did not have any VIEs that required consolidation.  All significant intercompany transactions and accounts have been eliminated in the accompanying financial statements.

The Company also consolidates certain joint ventures where it exercises significant control over major operating and management decisions, or where the Company is the sole general partner and the limited partners do not possess kick-out rights or other substantive participating rights.  The equity method of accounting is used for those joint ventures that do not meet the criteria for consolidation and where Parkway exercises significant influence but does not control these joint ventures.

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X.  Accordingly, they do not include all of the information and footnotes required by United States generally accepted accounting principles ("GAAP") for complete financial statements.

The accompanying unaudited condensed consolidated financial statements reflect all adjustments which are, in the opinion of management, necessary for a fair statement of the results for the interim periods presented.  All such adjustments are of a normal recurring nature.  The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.  Operating results for the three months ended March 31, 2013 are not necessarily indicative of the results that may be expected for the year ended December 31, 2013.  The financial statements should be read in conjunction with the 2012 annual report and the notes thereto.

The balance sheet at December 31, 2012 has been derived from the audited financial statements as of that date but does not include all of the information and footnotes required by United States GAAP for complete financial statements.

In February 2013, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") 2013-02, "Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income", which requires disclosure of the effect of significant reclassifications out of accumulated other comprehensive income on the respective line items in net income.  The disclosure requirements are effective for the Company on January 1, 2013, and the Company does not expect the guidance to have a material impact on its consolidated financial statements.

The Company has evaluated all subsequent events through the issuance date of the financial statements.

Note B – Net Income (Loss) Per Common Share

Basic earnings per share ("EPS") are computed by dividing net income (loss) attributable to common stockholders by the weighted-average number of common shares outstanding for the period. In arriving at net income (loss) attributable to common stockholders, preferred stock dividends are deducted.  Diluted EPS reflects the potential dilution that could occur if share equivalents such as employee stock options, restricted shares and deferred incentive share units were exercised or converted into common stock that then shared in the earnings of Parkway.

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The computation of diluted EPS is as follows (in thousands, except per share data):

 

The computation of diluted EPS for the three months ended March 31, 2013 and 2012 did not include the effect of employee stock options, deferred incentive share units, and restricted shares as their inclusion would have been anti-dilutive.

Note C – Supplemental Cash Flow Information and Schedule of Non-Cash Investing and Financing Activity

The Company considers all highly liquid investments with a maturity of three months or less when purchased to be cash equivalents.

Note D – Acquisitions

On January 17, 2013, the Company purchased Tower Place 200, a 258,000 square foot office tower located in the Buckhead submarket of Atlanta, Georgia, for a gross purchase price of $56.3 million.  The purchase of Tower Place 200 was financed with borrowings under the Company's senior unsecured revolving credit facility.  The building is unencumbered by debt and the Company does not plan to place secured financing on the property at this time.

On March 7, 2013, the Company purchased two office complexes totaling 1.0 million square feet located in the Deerwood submarket of Jacksonville, Florida (the "Deerwood Portfolio") for a gross purchase price of $130.0 million.  The purchase of these properties was financed with a mortgage loan secured by the properties in the aggregate amount of $84.5 million and borrowings under the Company's senior unsecured revolving credit facility. The mortgage loan has a maturity date of April 1, 2023 and a fixed interest rate of 3.9%.

On March 15, 2013, the Company entered into a definitive agreement to acquire approximately 75% of the interest in the US Airways Building, a 225,000 square foot office property located in the Tempe submarket of Phoenix, Arizona, for a purchase price of $41.8 million.  The building is currently encumbered by an approximate $18.0 million mortgage, which the Company intends to refinance at closing.  This nine-story Class A office building is adjacent to Parkway's Hayden Ferry Lakeside and Tempe Gateway assets and shares a parking garage with Tempe Gateway.  The property is the headquarters for US Airways, which has leased 100% of the building through April 2024.  US Airways has a termination option on December 31, 2016 or December 31, 2021 with 12 months prior notice.  US Airways is also the owner of the remaining approximate 25% in the building.  Closing is expected to occur by the end of the second quarter 2013, subject to customary closing conditions.

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On March 25, 2013, the Company purchased its co-investor's 70% interest in three office properties totaling 788,000 square feet located in the Westshore submarket of Tampa, Florida ("Tampa Fund II Assets").  The Tampa Fund II Assets were owned by Parkway Properties Office Fund II, L.P. ("Fund II").  The Company's purchase price for its co-investor's 70% interest in the Tampa Fund II Assets was $97.5 million.  Simultaneously with closing, the Company assumed $40.7 million of existing mortgage indebtedness that is secured by the properties, which represents its co-investor's 70% share of the approximately $58.1 million of existing mortgage indebtedness.  The three office properties include Corporate Center IV at International Plaza, Cypress Center I, II and III, and The Pointe. The Tampa Fund II Assets' office properties and associated mortage loans were previously included in the Company's consolidated balance sheets and statements of operations and comprehensive income (loss).  Therefore, the Company's purchase of its co-investor's share in these office properties will not impact the Company's overall financial position.

The allocation of purchase price related to intangible assets and liabilities and weighted average amortization period (in years) for each class of asset or liability for Tower Place 200 and the Deerwood Portfolio is as follows (in thousands, except weighted average life):

The allocation of purchase price for Tower Place 200 and the Deerwood Portfolio was preliminary at March 31, 2013 due to the timing of the acquisitions.

The unaudited pro forma effect on the Company's results of operations for the purchase of Tower Place 200, the Deerwood Portfolio and the Tampa Fund II assets as if the purchase had occurred on January 1, 2012 is as follows (in thousands, except per share data):

On April 26, 2013, the Company entered into a purchase and sale agreement to acquire Lincoln Place, a 140,000 square foot office building located in the South Beach submarket of Miami, Florida.  Lincoln Place is comprised of 111,000 square feet of office space and 29,000 square feet of retail space on the ground floor, with a five-story garage adjacent to the property. The property is currently 100% leased to LNR Corporation through June 2021 with no renewal or early termination option. Parkway is under contract to acquire Lincoln Place in exchange for the assumption of the existing secured first mortgage, which has a current outstanding balance of approximately $49.6 million, a fixed interest rate of 5.9% and a maturity date of June 11, 2016, and the issuance of 900,000 shares of operating partnership units. Based on Parkway's closing stock price of $18.20 per share on May 3, 2013, the implied purchase price would be approximately $66.0 million.  Closing is expected to occur by the end of the third quarter 2013, subject to customary closing conditions.

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For details regarding dispositions during the three months ended March 31, 2013, please see Note E – Discontinued Operations.

Note E – Discontinued Operations

All current and prior period income from the following office property dispositions and properties held for sale is included in discontinued operations for the three months ended March 31, 2013 and 2012 (in thousands).

On March 20, 2013, the Company sold Atrium at Stoneridge, a 108,000 square foot office property located in Columbia, South Carolina, for a gross sales price of $3.1 million and recorded a gain of $542,000 during first quarter 2013.  The Company received $3.0 million in net proceeds from the sale, which was used to reduce amounts outstanding under the Company's senior unsecured revolving credit facility.

 

 

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The amount of revenues and expenses for the office properties reported in discontinued operations for the three months ended March 31, 2013 and 2012 is as follows (in thousands):

	Three Months Ended March 31
		2013				2012
Statement of Operations:
Revenues
Income from office and parking properties		$	(50	)		$	10,065
			(50	)			10,065
Expenses
Office and parking properties:
Operating expense			244				4,233
Management company expense			8				152
Interest expense			-				1,791
Non-cash adjustment for interest rate swap			-				(138	)
Depreciation and amortization			45				736
			297				6,774
Income (loss) from discontinued operations			(347	)			3,291
Gain on sale of real estate from discontinued operations			542				5,575
Total discontinued operations per Statement of Operations			195				8,866
Net (income) loss attributable to noncontrolling     interest from discontinued operations			13				(3,355	)
Total discontinued operations-Parkway's share		$	208			$	5,511

Note F – Management Contracts

During the second quarter of 2011, as part of the Company's combination with Eola, Parkway purchased the management contracts associated with Eola's property management business.  At December 31, 2012, the contracts were valued by an independent appraiser at $19.0 million.  The value of the management contracts is based on the sum of the present value of future cash flows attributable to the management contracts, in addition to the value of tax savings as a result of the amortization of intangible assets.  During the three months ended March 31, 2013, the Company recorded amortization expense of $1.8 million on the management contracts.  At March 31, 2013, management contracts, net of accumulated amortization totaled $17.2 million.

Note G - Capital and Financing Transactions

Notes Payable to Banks

At March 31, 2013, the Company did not have any amounts outstanding under its senior unsecured revolving credit facilities and had $125.0 million outstanding under its unsecured term loan.  The Company was in compliance with all loan covenants under its revolving credit facilities and term loan.

(1)

The interest rate on the credit facilities is based on LIBOR plus an applicable margin of 160 to 235 basis points, depending upon overall Company leverage as defined in the loan agreements for the Company's credit facilities, with the current rate set at 160 basis points.  Additionally, the Company pays fees on the unused portion of the credit facilities ranging between 25 and 35 basis points based upon usage of the aggregate commitment, with the current rate set at 35 basis points.

(2)

The interest rate on the term loan is based on LIBOR plus an applicable margin of 150 to 230 basis points depending on overall Company leverage (with the current rate set at 150 basis points).  On September 28, 2012, the Company executed two floating-to-fixed interest rate swaps totaling $125 million, locking LIBOR at 0.7% for five years which was effective October 1, 2012.

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Mortgage Notes Payable

Mortgage notes payable at March 31, 2013 totaled $768.0 million, with an average interest rate of 5.0% and were secured by office properties.

On February 21, 2013, the Company obtained an $80.0 million first mortgage secured by Phoenix Tower, a 629,000 square foot office property located in the Greenway Plaza submarket of Houston, Texas.  The mortgage loan bears interest at a fixed rate of 3.9% and matures on March 1, 2023.  Payments of interest only are due on the loan for two years, after which the principal amount of the loan begins amortizing over a 25-year period until maturity.  The loan is pre-payable after March 1, 2015, but any such prepayment is subject to a yield maintenance premium.  The agreement governing the mortgage loan contains customary rights of the lender to accelerate the loan upon, among other things, a payment default or if certain representations and warranties made by the borrower are untrue.

On March 7, 2013, simultaneously with the purchase of the Deerwood Portfolio, the Company obtained an $84.5 million first mortgage, which is secured by the office properties in the portfolio.  The mortgage bears interest at a fixed rate of 3.9% and matures on April 1, 2023.  Payments of interest only are due on the loan for three years, after which the principal amount of the loan begins amortizing over a 30-year period until maturity.  The loan is pre-payable after May 1, 2015, but any such prepayment is subject to a yield maintenance premium.  The agreement governing the mortgage contains customary rights of the lender to accelerate the loan upon, among other things, a payment default or if certain representations and warranties made by the borrower are untrue.

On March 25, 2013, simultaneously with the purchase of its co-investor's 70% interest in the Tampa Fund II assets, the Company assumed $40.7 million of existing first mortgages that are secured by the properties, which represents its co-investor's 70% share of the approximately $58.1 million of the existing first mortgage indebtedness.

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Interest Rate Swaps

The Company has entered into interest rate swap agreements.  The Company designated the swaps as cash flow hedges of the variable interest rates on the Company's borrowings under the $125.0 million unsecured term loan and the debt secured by 245 Riverside, Corporate Center IV at International Plaza, Cypress Center I, II, and III, Bank of America Center, Two Ravinia, Hayden Ferry I, Hayden Ferry II, and NASCAR Plaza.  These swaps are considered to be fully effective and changes in the fair value of the swaps are recognized in accumulated other comprehensive loss.

The Company's interest rate hedge contracts at March 31, 2013, and 2012 are summarized as follows (in thousands):

On March 25, 2013, in connection with the purchase of its co-investor's interest in the Tampa Fund II Assets, the Company assumed the remaining 70% of two interest rate swaps, which have a total notional amount of $34.6 million.

Note H – Noncontrolling Interests

The Company has an interest in one joint venture that is included in its consolidated financial statements. Information relating to this consolidated joint venture as of March 31, 2013 is detailed below.

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Fund II, a $750.0 million discretionary fund, was formed on May 14, 2008 and was fully invested at February 10, 2012.  Fund II was structured with Teacher Retirement System of Texas ("TRST") as a 70% investor and Parkway as a 30% investor in the fund, with an original target capital structure of approximately $375.0 million of equity capital and $375.0 million of non-recourse, fixed-rate first mortgage debt.  Fund II currently owns 10 properties totaling 3.4 million square feet in Atlanta, Charlotte, Phoenix, Jacksonville, Orlando and Philadelphia.  In August 2012, Fund II increased its investment capacity by $20.0 million to purchase Hayden Ferry Lakeside III, IV and V, a 2,500 space parking garage, a 21,000 square foot office property and a vacant parcel of development land, all adjacent to Hayden Ferry Lakeside I and Hayden Ferry Lakeside II in Phoenix.

Parkway serves as the general partner of Fund II and provides asset management, property management, leasing and construction management services to the fund, for which it is paid market-based fees.  Cash is distributed by Fund II pro rata to each partner until a 9% annual cumulative preferred return is received and invested capital is returned.  Thereafter, 56% will be distributed to TRST and 44% to Parkway.  The term of Fund II is seven years from the date the fund was fully invested, or until February 2019, with provisions to extend the term for two additional one-year periods at the Company's discretion.

Noncontrolling interest - real estate partnerships represents the other partner's proportionate share of equity in the partnership discussed above at March 31, 2013. Income is allocated to noncontrolling interest based on the weighted average percentage ownership during the year.

On March 25, 2013, the Company purchased its co-investor's 70% interest in the Tampa Fund II Assets.  See Note D - Acquisitions.

Note I - Share-Based and Long-Term Compensation Plans

Effective May 1, 2010, the stockholders of the Company approved Parkway's 2010 Omnibus Equity Incentive Plan (the "2010 Equity Plan") that authorized the grant of up to 600,000 equity based awards to employees and directors of the Company.   The 2010 Equity Plan has a ten-year term.

Compensation expense, including estimated forfeitures, for service-based awards is recognized over the expected vesting period.  The total compensation expense for the long-term equity incentive awards is based upon the fair value of the shares on the grant date, adjusted for estimated forfeitures.  Time-based restricted shares and deferred incentive share units are valued based on the New York Stock Exchange closing market price of Parkway common shares (NYSE:  PKY) as of the date of grant.  The grant date fair value for awards that are subject to market conditions is determined using a simulation pricing model developed to specifically accommodate the unique features of the awards.

Restricted shares and deferred incentive share units are forfeited if an employee leaves the Company before the vesting date except in the case of the employee's death or permanent disability or upon termination following a change of control. Shares and/or units that are forfeited become available for future grant under the 2010 Equity Plan.

The time-based awards vest ratably over four years from the date the shares are granted.  The market condition awards are contingent on the Company meeting goals for compounded annual total return to stockholders ("TRTS") over the three year period beginning July 1, 2010.  The market condition goals are based upon (i) the Company's absolute compounded annual TRTS; and (ii) the Company's absolute compounded annual TRTS relative to the compounded annual return of the MSCI US REIT ("RMS") Index calculated on a gross basis, as follows:

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With respect to the absolute return goal, 15% of the award is earned if the Company achieves threshold performance and a cumulative 60% is earned for target performance.  With respect to the relative return goal, 20% of the award is earned if the Company achieves threshold performance and a cumulative 55% is earned for target performance.  In each case, 100% of the award is earned if the Company achieves maximum performance or better. To the extent actually earned, the market condition awards vest 50% on each of July 15, 2013 and 2014.

The Company also adopted a long-term cash incentive that was designed to reward significant outperformance over the three year period beginning July 1, 2010.  The performance goals for actual payment under the long-term cash incentive will require the Company to (i) achieve an absolute compounded annual TRTS that exceeds 14% and (ii) achieve an absolute compounded annual TRTS that exceeds the compounded annual return of the RMS by at least 500 basis points.  Notwithstanding the above goals, in the event the Company achieves an absolute compounded annual TRTS that exceeds 19%, then the Company must achieve an absolute compounded annual TRTS that exceeds the compounded annual return of the RMS by at least 600 basis points.  The aggregate amount of the cash incentive earned would increase with corresponding increases in the absolute compounded annual TRTS achieved by the Company.  There will be a cap on the aggregate cash incentive earned in the amount of $7.1 million.  Achievement of the maximum cash incentive would equate to an absolute compounded annual TRTS that approximates 23%, provided that the absolute compounded annual TRTS exceeds the compounded annual return of the RMS by at least 600 basis points.  The total compensation expense for the long-term cash incentive awards is based upon the estimated fair value of the award on the grant date and adjustment as necessary each reporting period.  The long-term cash incentive awards are accounted for as a liability-classified award on the Company's March 31, 2013 and December 31, 2012 consolidated balance sheets.  The grant date and quarterly fair value estimates for awards that are subject to a market condition are determined using a simulation pricing model developed to specifically accommodate the unique features of the awards.

At March 31, 2013, a total of 244,472 shares of restricted stock had been granted to officers of the Company and remain outstanding.  The shares are valued at $2.0 million, which equates to an average price per share of $8.09.  The value, including estimated forfeitures, of restricted shares that vest based on service conditions will be amortized to compensation expense ratably over the vesting period for each grant of stock.  At March 31, 2013, a total of 17,235 deferred incentive share units had been granted to employees of the Company and remain outstanding.  The deferred incentive share units are valued at $356,000, which equates to an average price per share of $20.66, and the units vest four years from grant date.  Total compensation expense related to the restricted stock and deferred incentive units of $89,000 and $157,000 was recognized during the three months ended March 31, 2013 and 2012, respectively.  Total compensation expense related to non-vested awards not yet recognized was $724,000 at March 31, 2013.  The weighted average period over which this expense is expected to be recognized is approximately 1.5 years.

A summary of the Company's restricted shares and deferred incentive share unit activity for the three months ended March 31, 2013 is as follows:

On December 19, 2012, the Company's Board of Directors adopted the Parkway Properties, Inc. and Parkway Properties LP 2013 Omnibus Equity Incentive Plan (the "Plan"), subject to approval by its stockholders within 12 months of approval and adoption of the Plan by the Company's Board of Directors, or December 19, 2013. Except with respect to awards granted to non-employee directors, the Compensation Committee of the Company's Board of Directors (the "Committee") has the authority to administer the Plan.  The Plan authorizes the Committee or the Company's Board, where applicable, to grant stock options (including incentive stock options and non-qualified stock options), stock appreciation rights, restricted stock, restricted stock units ("RSUs"), dividend equivalents, profits interest units ("LTIP units") and other stock-based awards. The Company's employees, non-employee directors and consultants are eligible to receive awards under the Plan.  The aggregate number of shares of common stock available for awards pursuant to the Plan is 3,250,000, including a maximum of 2,000,000 shares that may be granted pursuant to stock options or stock appreciation rights and a maximum of 1,250,000 shares that may be granted pursuant to other awards.

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On March 2, 2013, the Committee approved the grant of 1.85 million stock options, 114,443 LTIP units and 173,947 RSUs (comprised of 115,350 time-vesting RSUs and 58,597 performance-vesting RSUs) under the Plan to employees of the Company.  Each stock option and time-vesting RSU award will vest in increments of 25% per year on each of the first, second, third and fourth anniversaries of the grant date, subject to the employee's continued service.  Each LTIP unit and performance-vesting RSU will vest based on the attainment of total stockholder return targets during the performance period running from March 2, 2013 to March 1, 2016, subject to the employee's continued service.  The Company will begin to expense the grants only if and when it receives stockholder approval of the Plan.  The actual expense associated with these grants is dependant on the public price of our common stock on the day of adoption of the Plan by the Company's stockholders.  If the Company's stockholders do not approve the Plan by December 19, 2013, the grants automatically will terminate and be forfeited.

Note J - Fair Values of Financial Instruments

FASB Accounting Standards Codification ("ASC") 820, "Fair Value Measurements and Disclosures" ("ASC 820"), defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. ASC 820 also provides guidance for using fair value to measure financial assets and liabilities.  ASC 820 requires disclosure of the level within the fair value hierarchy in which the fair value measurements fall, including measurements using quoted prices in active markets for identical assets or liabilities (Level 1), quoted prices for similar instruments in active markets or quoted prices for identical or similar instruments in markets that are not active (Level 2), and significant valuation assumptions that are not readily observable in the market (Level 3).  A summary of the carrying amount and fair value of the Company's financial assets and liabilities as of March 31, 2013 and 2012 are as follows (in thousands):

The methods and assumptions used to estimate fair value for each class of financial asset or liability are discussed below:

Cash and cash equivalents:  The carrying amounts for cash and cash equivalents approximate fair value.

Mortgage notes payable:  The fair value of mortgage notes payable is estimated using discounted cash flow analysis, based on the Company's current incremental borrowing rates for similar types of borrowing arrangements.  This information is considered a Level 2 input as defined by ASC 820.

Notes payable to banks:  The fair value of the Company's notes payable to banks is estimated by discounting expected cash flows at current market rates.  This information is considered a Level 2 input as defined by ASC 820.

Interest rate swap agreements:  The fair value of the interest rate swaps is determined by estimating the expected cash flows over the life of the swap using the mid-market rate and price environment as of the last trading day of the reporting period.  This information is considered a Level 2 input as defined by ASC 820.

Note K – Income Taxes

The Company qualifies and has elected to be taxed as a real estate investment trust ("REIT") under the Internal Revenue Code of 1986, as amended (the "Code").  The Company will generally not be subject to federal income tax to the extent that it distributes its taxable income to the Company's shareholders, and as long as Parkway satisfies the ongoing REIT requirements including meeting certain asset, income and stock ownership tests.

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The Company has elected to treat certain consolidated subsidiaries as taxable REIT subsidiaries, which are tax paying entities for income tax purposes and are taxed separately from the Company.  Taxable REIT subsidiaries may participate in non-real estate related activities and/or perform non-customary services for tenants and are subject to federal and state income tax at regular corporate tax rates.

Parkway's provision for income taxes for the three months ended March 31, 2013 and 2012, was $61,000 and $406,000, respectively, of current federal and state income tax expense resulting from taxable REIT subsidiary income.

In connection with the contribution of the Eola management company to the Company, the Company recorded a deferred tax liability representing differences between the tax basis and GAAP basis of the acquired assets and liabilities (primarily related to the management company contracts) multiplied by the effective tax rate.  The Company was required to record these deferred tax liabilities as a result of the management company becoming a C corporation at the time it was acquired.  The Company's net deferred tax liabilities as of March 31, 2013 and December 31, 2012, were $1.4 million and $2.0 million, respectively.

Note L – Other Matters

On March 25, 2013, the Company completed an underwritten public offering of 11.0 million shares of its common stock, plus an additional 1.65 million shares of its common stock issued and sold pursuant to the exercise of the underwriters' option to purchase additional shares in full, at the public offering price of $17.25 per share.  The net proceeds from the offering, after deducting the underwriting discount and offering expenses, were approximately $209.0 million.  The Company used the net proceeds of the common stock offering to redeem in full all of its outstanding 8.00% Series D Cumulative Redeemable Preferred Stock and will use remaining net proceeds to fund potential acquisition opportunities, to repay amounts outstanding from time to time under its senior unsecured revolving credit facility and/or for general corporate purposes.

On April 25, 2013, the Company redeemed all of its outstanding 8.00% Series D Cumulative Redeemable Preferred Stock.  The Company paid $136.3 million to redeem the preferred shares and expects to incur a charge during the second quarter of approximately $6.6 million, which represents the difference between the costs associated with the issuances, including the price at which such shares were paid, and the redemption price.

 

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Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Overview

We are a fully integrated, self-administered and self-managed real estate investment trust ("REIT") specializing in the acquisition, ownership and management of quality office properties in high-growth submarkets in the Sunbelt region of the United States.  At April 1, 2013, we owned or had an interest in 45 office properties located in eight states with an aggregate of approximately 13.0 million square feet of leasable space.  We offer fee-based real estate services through our wholly owned subsidiaries, which in total managed and/or leased approximately 11.8 million square feet for third-party property owners at April 1, 2013.  Unless otherwise indicated, all references to square feet represent net rentable area.

Business Objective and Operating Strategies

Our business objective is to maximize long-term stockholder value by generating sustainable cash flow growth and increasing the long-term value of our real estate assets through operations, acquisitions and capital recycling, while maintaining a conservative and flexible balance sheet. We intend to achieve this objective by executing on the following business and growth strategies:

·

Create Value as the Leading Owner of Quality Assets in Core Submarkets. Our investment strategy is to pursue attractive returns by focusing primarily on owning high-quality office buildings and portfolios that are well-located and competitively positioned within central business district and urban infill locations within our core submarkets in the Sunbelt region of the United States.   In these submarkets, we seek to maintain a portfolio that consists of core, core-plus, and value-add investment opportunities.  Further, we intend to pursue an efficient capital allocation strategy that maximizes the returns on our invested capital.  This may include selectively disposing of properties when we believe returns have been maximized and redeploying capital into acquisitions or other opportunities.

·

Maximize Cash Flow by Continuing to Enhance the Operating Performance of Each Property.  We provide property management and leasing services to our portfolio, actively managing our properties and leveraging our tenant relationships to improve operating performance, maximize long-term cash flow and enhance stockholder value.  We seek to attain a favorable customer retention rate by providing outstanding property management and customer service programs responsive to the varying needs of our diverse tenant base.  We also employ a judicious prioritization of capital projects to focus on projects that enhance the value of our property through increased rental rates, occupancy, service delivery, or enhanced reversion value.

·

Realize Leasing and Operational Efficiencies and Gain Local Advantage.  We concentrate our real estate portfolio in submarkets where we believe that we can maximize market penetration by accumulating a critical mass of properties and thereby enhance operating efficiencies.  We believe that strengthening our local presence and leveraging our extensive market relationships will yield superior market information and service delivery and facilitate additional investment opportunities to create long-term stockholder value.

Occupancy.  Our revenues are dependent on the occupancy of our office buildings.  At April 1, 2013, occupancy of our office portfolio was 88.7% compared to 88.0% at January 1, 2013 and 85.9% at April 1, 2012.  Not included in the April 1, 2013 occupancy rate is the impact of 21 signed leases totaling 129,000 square feet expected to take occupancy between now and the first quarter of 2014, of which the majority will commence during the second and third quarters of 2013.  Including these signed leases, our portfolio was 89.7% leased at April 1, 2013.  Our average occupancy for the three months ended March 31, 2013 was 88.0%.

During the first quarter of 2013, 39 leases were renewed totaling 354,000 rentable square feet at an average annual rental rate per square foot of $25.42, representing a 1.2% rate decrease as compared to expiring rental rates, and at an average cost of $2.31 per square foot per year of the lease term.

During the first quarter of 2013, 15 expansion leases were signed totaling 86,000 rentable square feet at an average annual rental rate per square foot of $25.48 and at an average cost of $5.37 per square foot per year of the lease term.

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During the first quarter of 2013, 17 new leases were signed totaling 61,000 rentable square feet at an average annual rental rate per square foot of $22.18 and at an average cost of $6.41 per square foot per year of the term.

Rental Rates.  An increase in vacancy rates in a market or at a specific property has the effect of reducing market rental rates.  Inversely, a decrease in vacancy rates in a market or at a specific property has the effect of increasing market rental rates.  Our leases typically have three to seven year terms, though we do enter into leases with terms that are either shorter or longer than that typical range from time to time.  As leases expire, we seek to replace existing leases with new leases at the current market rental rate.  For our properties owned as of April 1, 2013, management estimates that we have approximately $0.34 per square foot in annual rental rate embedded loss in our office property leases.  Embedded loss is defined as the difference between the weighted average in-place cash rents including operating expense reimbursements and the weighted average estimated market rental rate.

Customer Retention.  Keeping existing customers is important as high customer retention leads to increased occupancy, less downtime between leases, and reduced leasing costs.  Our customer retention rate was 78.2% for the quarter ended March 31, 2013, as compared to 68.9% for the quarter ended December 31, 2012, and 46.8% for the quarter ended March 31, 2012.

Joint Ventures and Partnerships

Management views investing in wholly owned properties as the highest priority of our capital allocation.  However, we may selectively pursue joint ventures if we determine that such a structure will allow us to reduce anticipated risks related to a property or portfolio, limit concentration of rental revenue from a particular market or building or address unusual operational risks.  To the extent we enter into joint ventures and partnerships, we will seek to manage all phases of the investment cycle including acquisition, financing, operations, leasing and dispositions, and we will seek to receive fees for providing these services.

At March 31, 2013, we had one partnership structured as a discretionary fund.  Parkway Properties Office Fund II, L.P. ("Fund II"), a $750.0 million discretionary fund, was formed on May 14, 2008 and was fully invested at February 10, 2012.  Fund II was structured with Teacher Retirement System of Texas ("TRST") as a 70% investor and our operating partnership as a 30% investor, with an original target capital structure of approximately $375.0 million of equity capital and $375.0 million of non-recourse, fixed-rate first mortgage debt.  Fund II currently owns 10 properties totaling 3.4 million square feet in Atlanta, Charlotte, Phoenix, Jacksonville, Orlando and Philadelphia. In August 2012, Fund II increased its investment capacity by $20.0 million to purchase Hayden Ferry Lakeside III, IV and V, all adjacent to Hayden Ferry Lakeside I and Hayden Ferry Lakeside II office properties in Phoenix.

On March 25, 2013, we purchased our co-investor's 70% interest in three office properties totaling 788,000 square feet located in the Westshore submarket of Tampa, Florida ("Tampa Fund II Assets").  The Tampa Fund II Assets were owned by Parkway Properties Office Fund II, L.P. ("Fund II").  The purchase price for our co-investor's 70% interest in the Tampa Fund II Assets was $97.5 million.  Simultaneously with closing, we assumed $40.7 million of existing mortgage indebtedness that is secured by the properties, which represents our co-investor's 70% share of the approximately $58.1 million of existing mortgage indebtedness.  The three office properties include Corporate Center IV at International Plaza, Cypress Center I, II and III, and The Pointe.  The Tampa Fund II Assets' office properties and associated mortgage loans were previously included in the Company's consolidated balance sheets and statements of operations and comprehensive income (loss).  Therefore, the Company's purchase of its co-investor's share in these office properties will not impact the Company's overall financial position.

We serve as the general partner of Fund II and provide asset management, property management, leasing and construction management services to the fund, for which we are paid market-based fees.  Cash is distributed by Fund II pro rata to each partner until a 9% annual cumulative preferred return is received and invested capital is returned.  Thereafter, 56% will be distributed to TRST and 44% to us.  The term of Fund II is seven years from the date the fund was fully invested, or until February 2019, with provisions to extend the term for two additional one-year periods at our discretion.

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Financial Condition

Comparison of the three months ended March 31, 2013 to the year ended December 31, 2012

Assets. In 2013, we have continued the execution of our strategy of operating and acquiring office properties as well as disposing of non-core assets that no longer meet our investment criteria or for which a disposition would maximize value.  During the three months ended March 31, 2013, total assets increased $171.0 million or 9.0% as compared to the year ended December 31, 2012.  The primary reason for the increase is due to the purchase of three office properties during first quarter 2013, partially offset by the disposition of one office property.

Acquisitions and Improvements.  Our investment in office properties increased $155.5 million net of depreciation to a carrying amount of $1.7 billion at March 31, 2013 and consisted of 45 office properties.  The primary reason for the increase in office properties relates to the purchase of three office properties.

During the three months ended March 31, 2013, we purchased three office properties and our co-investor's interest in three additional office properties as follows (in thousands):

(1)	We purchased two office complexes (collectively, the "Deerwood Portfolio) totaling 1.0 million square feet located in the Deerwood submarket of Jacksonville, Florida.

(2)

We purchased our co-investor's interest of Corporate Center IV at International Plaza, Cypress Center I, II and III and the Pointe for $97.5 million, which represents our co-investor's 70% interest in these office properties.  The Tampa Fund II Assets' office properties and associated mortgage loans were previously included in the Company's consolidated balance sheets and statements of operations and comprehensive income (loss).  Therefore, the Company's purchase of its co-investor's share in these office properties will not impact the Company's overall financial position.

On April 26, 2013, we entered into a purchase and sale agreement to acquire Lincoln Place, a 140,000 square foot office building located in the South Beach submarket of Miami, Florida.  Lincoln Place is comprised of 111,000 square feet of office space and 29,000 square feet of retail space on the ground floor, with a five-story garage adjacent to the property. The property is currently 100% leased to LNR Corporation through June 2021 with no renewal or early termination option. Parkway is under contract to acquire Lincoln Place in exchange for the assumption of the existing secured first mortgage, which has a current outstanding balance of approximately $49.6 million, a fixed interest rate of 5.9% and a maturity date of June 11, 2016, and the issuance of 900,000 shares of operating partnership units. Based on our closing stock price of $18.20 per share on May 3, 2013, the implied purchase price would be approximately $66.0 million.  Closing is expected to occur by the end of the third quarter 2013, subject to customary closing conditions.

During the three months ended March 31, 2013, we capitalized building improvements of $8.5 million and recorded depreciation expense of $17.5 million related to our office properties.

Dispositions.  During the three months ended March 31, 2013, we completed the sale of Atrium at Stoneridge, a 108,000 square foot office property in Columbia, South Carolina, for a gross sales price of $3.1 million and recorded a gain of $542,000 during first quarter 2013.  We received $3.0 million in net proceeds from the sale, which was used to reduce amounts outstanding under our senior unsecured revolving credit facility.

Receivables and Other Assets. For the three months ended March 31, 2013, receivables and other assets increased $14.7 million or 11.8%. The net increase is primarily due to an increase in straight line rent receivable balances, related to one large lease renewal, office property purchases during the fourth quarter of 2012 and the first quarter of 2013, as well as an increase in capitalized lease costs and escrow deposits related to the purchase of three office properties during the first quarter of 2013.

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Intangible Assets, Net. For the three months ended March 31, 2013, intangible assets net of related amortization increased $9.9 million or 8.4% due to the purchase of three office properties.

Management Contracts, Net.  For the three months ended March 31, 2013, management contracts, net of related amortization decreased $1.8 million or 9.4% as a result of amortization recorded during the period.

Cash and Cash Equivalents.  Cash and cash equivalents decreased $7.3 million or 8.9% during the three months ended March 31, 2013 primarily due to cash used to fund acquisitions during the first quarter of 2013, offset by proceeds received from our March 2013 underwritten public offering of common stock.  Our proportionate share of cash and cash equivalents at March 31, 2013 and December 31, 2012 was $46.2 million and $56.0 million, respectively.

Notes Payable to Banks. Notes payable to banks decreased $137.0 million or 52.3% during the three months ended March 31, 2013.  At March 31, 2013, notes payable to banks totaled $125.0 million and the net decrease was attributable to repayment of all borrowings under our unsecured revolving credit facility from proceeds of our March 2013 underwritten public offering of common stock, offset by borrowings used to fund acquisitions during the quarter.

Mortgage Notes Payable. During the three months ended March 31, 2013, mortgage notes payable increased $162.1 million or 26.8% due to the placement of non-recourse mortgage loans secured by three wholly owned office properties totaling $164.5 million, offset by scheduled principal payments of $2.4 million.

On February 21, 2013, we obtained an $80.0 million first mortgage secured by Phoenix Tower, a 629,000 square foot office property located in the Greenway Plaza submarket of Houston, Texas.  The mortgage loan bears interest at a fixed rate of 3.9% and matures on March 1, 2023.  Payments of interest only are due on the loan for two years, after which the principal amount of the loan begins amortizing over a 25-year period until maturity.  The loan is pre-payable after March 1, 2015, but any such prepayment is subject to a yield maintenance premium.  The agreement governing the mortgage loan contains customary rights of the lender to accelerate the loan upon, among other things, a payment default or if certain representations and warranties made by the borrower are untrue.

On March 7, 2013, simultaneously with the purchase of the Deerwood Portfolio, we obtained an $84.5 million first mortgage, which is secured by the office properties in the portfolio.  The mortgage bears interest at a fixed rate of 3.9% and matures on April 1, 2023.  Payments of interest only are due on the loan for three years, after which the principal amount of the loan begins amortizing over a 30-year period until maturity.  The loan is pre-payable after May 1, 2015, but any such prepayment is subject to a yield maintenance premium.  The agreement governing the mortgage contains customary rights of the lender to accelerate the loan upon, among other things, a payment default or if certain representations and warranties made by the borrower are untrue.

On March 25, 2013, simultaneously with the purchase of our co-investor's interest of the Tampa Fund II Assets, we assumed $40.7 million of existing first mortgages that are secured by the properties, which represents our co-investor's 70% share of the approximately $58.1 million of the existing first mortgages.

We expect to continue seeking primarily fixed-rate, non-recourse mortgage financing with maturities from five to ten years typically amortizing over 25 to 30 years on select office building investments as additional capital is needed.  We monitor a number of leverage and other financial metrics defined in the loan agreements for our senior unsecured revolving credit facility and working capital unsecured credit facility, which include but are not limited to our total debt to total asset value ratio.  In addition, we monitor interest, fixed charge and modified fixed charge coverage ratios as well the net debt to earnings before interest, taxes, depreciation and amortization ("EBITDA") multiple.  The interest coverage ratio is computed by comparing the cash interest accrued to EBITDA.  The fixed charge coverage ratio is computed by comparing the cash interest accrued, principal payments made on mortgage loans and preferred dividends paid to EBITDA.  The modified fixed charge coverage ratio is computed by comparing cash interest accrued and preferred dividends paid to EBITDA.  The net debt to EBITDA multiple is computed by comparing our share of net debt to EBITDA for the current quarter as annualized and adjusted pro forma for any completed investment activity. We believe all of the leverage and other financial metrics we monitor, including those discussed above, provide useful information on total debt levels as well as our ability to cover interest, principal and/or preferred dividend payments.

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Accounts Payable and Other Liabilities.  For the three months ended March 31, 2013, accounts payable and other liabilities increased $6.5 million or 7.8% primarily due to an increase in below market lease value liabilities associated with the purchase of three office properties during the first quarter of 2013.

Equity. Total equity increased $139.4 million or 14.6% during the three months ended March 31, 2013, as a result of the following (in thousands):

On March 25, 2013, we completed an underwritten public offering of 11.0 million shares of our common stock, plus an additional 1.65 million shares of our common stock issued and sold pursuant to the exercise of the underwriters' option to purchase additional shares in full, at the public offering price of $17.25 per share.  The net proceeds from the offering, after deducting the underwriting discount and offering expenses, were approximately $209.0 million.  We used the net proceeds of the common stock offering to redeem in full all of our outstanding 8.00% Series D Cumulative Redeemable Preferred Stock and will use the remaining net proceeds to fund potential acquisition opportunities, to repay amounts outstanding from time to time under our senior unsecured revolving credit facility and/or for general corporate purposes.

On April 25, 2013, we redeemed all of our outstanding 8.00% Series D Cumulative Redeemable Preferred Stock.  We paid $136.3 million to redeem the preferred shares and expect to incur a charge during the second quarter of approximately $6.6 million, which represents the difference between the costs associated with the issuances, including the price at which such shares were paid, and the redemption price.

Shelf Registration Statement.  We have a universal shelf registration statement on Form S-3 (No. 333-178001) that was declared effective by the Securities and Exchange Commission on December 5, 2011.  We may offer an indeterminate number or amount, as the case may be, of (i) shares of common stock, par value $0.001 per share; (ii) shares of preferred stock, par value $0.001 per share; and (iii) warrants to purchase preferred stock or common stock, all of which may be issued from time to time on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, as amended, at an aggregate public offering price not to exceed $500 million.  As of March 31, 2013, we had $91.3 million of securities available for issuance under the registration statement.

Results of Operations

Comparison of the three months ended March 31, 2013 to the three months ended March 31, 2012.

Net loss attributable to common stockholders for the three months ended March 31, 2013 was $3.9 million as compared to net income attributable to common stockholders of $2.0 million for the three months ended March 31, 2012.  The decrease in net income attributable to common stockholders for the three months ended March 31, 2013 compared to the same period for 2012 in the amount of $5.9 million is primarily attributable to a decrease in gains on the sale of real estate from discontinued operations recognized during the first quarter of 2013 as compared to the same period of 2012, offset by the purchase of five wholly owned office properties during the fourth quarter of 2012 and three wholly owned office properties purchased during the first quarter of 2013.  The change in income from discontinued operations as well as other variances for income and expense items that comprise net loss attributable to common stockholders is discussed in detail below.

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Office Properties. The analysis below includes changes attributable to same-store properties and acquisitions of office properties.  Same-store properties are consolidated properties that we owned for the current and prior year reporting periods, excluding properties classified as discontinued operations.  During the three months ended March 31, 2013, we classified as discontinued operations one property totaling 108,000 square feet, which was sold during the first quarter of 2013.  At March 31, 2013, same-store properties consisted of 33 properties comprising 8.4 million square feet.

The following table represents revenue from office properties for the three months ended March 31, 2013 and 2012 (in thousands):

Revenue from office properties for same-store properties increased $855,000 or 2.0% for the three months ended March 31, 2013 as compared to the same period for 2012.  The primary reason for the increase is due to an increase in average same-store occupancy during the three months ended March 31, 2013, compared to the same period of 2012.

The following table represents property operating expenses for the three months ended March 31, 2013 and 2012 (in thousands):

Property operating expenses for same-store properties increased $564,000 or 3.3% for the three months ended March 31, 2013, compared to the same period of 2012.  The primary reason for the increase is due to an increase in insurance and bad debt expenses.

Depreciation and Amortization.  Depreciation and amortization expense attributable to office properties increased $11.8 million for the three months ended March 31, 2013, compared to the same period for 2012.  The primary reason for the increase is due to the purchase of five office properties during the fourth quarter of 2012 and three office properties during the first quarter of 2013.

Management Company Income and Expenses.  Management company income decreased $1.1 million and management company expenses decreased $144,000 for the three months ended March 31, 2013 compared to the three months ended March 31, 2012.  The primary reason for the decreases in management company income and expenses for the three months ended March 31, 2013 is due to management contracts terminated during 2012.

Acquisition Costs.  During the three months ended March 31, 2013, we incurred $1.1 million in acquisition costs compared to $826,000 for the same period in 2012.   The primary reason for the increase is due to the purchase of three office properties in the first quarter of 2013 as compared to the purchase of two office properties in the first quarter of 2012.  Our proportionate share of acquisition costs for the three months ended March 31, 2013 and 2012 was $1.1 million and $248,000, respectively.

Share-Based Compensation Expense. Compensation expense related to restricted shares and deferred incentive share units of $89,000 and $157,000 was recognized for the three months ended March 31, 2013 and 2012, respectively.  This expense is included in general and administrative expenses on our Consolidated Statements of Operations and Comprehensive Income (Loss).  Total compensation expense related to non-vested awards not yet recognized was $724,000 at March 31, 2013. The weighted average period over which the expense is expected to be recognized is approximately 1.5 years.

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Interest Expense. Interest expense from continuing operations, including amortization of deferred financing costs, increased $1.2 million or 13.3% for the three months ended March 31, 2013, compared to the same period of 2012 and is comprised of the following (in thousands):

Mortgage interest expense increased $1.1 million for the three months ended March 31, 2013 compared to the same period for 2012, and is primarily due to mortgage loans placed or assumed during 2012 and 2013, in connection with acquisitions of office properties during the same period.

Credit facility interest expense increased $343,000 for the three months ended March 31, 2013 compared to the same period of 2012.  The increase is due to an increase in year-to-date average borrowings of $150.5 million offset by a decrease in the weighted average interest rate on average borrowings of 153 basis points. The increase in average borrowings is primarily due to the placement of a $125 million term loan and borrowings under our unsecured revolving credit facility to purchase office properties during 2012 and 2013, offset by repayment of all borrowings under our unsecured revolving credit facility from proceeds of our underwritten public common stock offerings during December 2012 and March 2013.

Discontinued Operations.  Discontinued operations is comprised of the following for the three months ended March 31, 2013 and 2012 (in thousands):

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All current and prior period income from the following office property dispositions is included in discontinued operations for the three months ended March 31, 2013 and 2012 (in thousands):

On March 20, 2013, we sold Atrium at Stoneridge, a 108,000 square foot office property located in Columbia, South Carolina, for a gross sales price of $3.1 million and recorded a gain of $542,000 during the first quarter 2013.  We received $3.0 million in net proceeds from the sale, which was used to reduce amounts outstanding under our senior unsecured revolving credit facility.

Income Taxes.  The analysis below reflects changes to the components of income tax (expense) benefit for the three months ended March 31, 2013 and 2012 (in thousands):