Notes to Consolidated Financial Statements
December 31, 2017
Note 1 – Organization and Background
BRT Apartments Corp. (the "Company"), a Maryland corporation, owns, operates and develops multi‑family properties. The Company conducts its operations to qualify as a real estate investment trust, or REIT, for federal income tax purposes.
Generally, the multi‑family properties are acquired with joint venture partners in transactions in which the Company contributes a significant portion of the equity. At
December 31, 2017
, the Company owns: (a)
34
multi-family properties with
9,684
units (including
445
units at
two
properties engaged in lease-up activities and
402
units at a property under development), located in
11
states with a carrying value of
$921,522,000
; and (b) interests in
three
unconsolidated multi-family joint ventures with a carrying value of
$21,000,000
.
Note 2 – Basis of Preparation
The accompanying interim unaudited consolidated financial statements as of
December 31, 2017
, and for the
three
months ended
December 31, 2017
and
2016
, reflect all normal recurring adjustments which, in the opinion of management, are necessary for a fair presentation of the results for such interim periods. The results of operations for the
three
months ended
December 31, 2017
and
2016
, are not necessarily indicative of the results for the full year. The consolidated balance sheet as of
September 30, 2017
, has been derived from the audited financial statements at that date but does not include all the information and footnotes required by accounting principles generally accepted in the United States ("GAAP") for complete financial statements.
The consolidated financial statements include the accounts and operations of the Company, its wholly owned subsidiaries, and its majority owned or controlled real estate entities and its interests in variable interest entities ("VIEs") in which the Company is determined to be the primary beneficiary. Material intercompany balances and transactions have been eliminated.
The Company’s consolidated joint ventures that own multi‑family properties were determined to be VIEs because the voting rights of some equity investors in the applicable joint venture entity are not proportional to their obligations to absorb the expected losses of the entity and their right to receive the expected residual returns. It was determined that the Company is the primary beneficiary of these joint ventures because it has a controlling interest in that it has the power to direct the activities of the VIE that most significantly impact the entity's economic performance and it has the obligation to absorb losses of the entity and the right to receive benefits that could potentially be significant to the VIE.
The joint ventures that own properties in Dallas, TX and St. Louis, MO were determined not to be a VIEs but are consolidated because the Company has controlling rights in such entities.
With respect to its unconsolidated joint ventures, as (i) the Company is primarily the managing member but does not exercise substantial operating control over these entities or the Company is not the managing member and (ii) such entities are not VIEs, the Company has determined that such joint ventures should be accounted for under the equity method of accounting for financial statement purposes.
The distributions to each joint venture partner are determined pursuant to the applicable operating agreement and may not be pro-rata to the percentage equity interest each partner has in the applicable venture.
The preparation of the financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements. Actual results could differ from those estimates. Substantially all of the Company's assets are comprised of multi- family real estate assets generally leased to tenants on a one year basis. Therefore, the Company aggregates real estate assets for reporting purposes and operates in one reportable segment.
Note 3 ‑ Equity
Equity Distribution Agreements
On January 11, 2018, the Company entered into equity distribution agreements with three sales agents to sell up to an aggregate of
$20,000,000
of its common stock from time-to-time in an at-the-market offering. Through February 8, 2018, the
Company sold
113,566
shares of common stock for proceeds of
$1,463,000
, net of commissions of
$50,000
, and estimated offering costs of
$50,000
for professional and related fees.
Common Stock Dividend Distribution
The Company declared a quarterly cash distribution of
$0.18
per share, payable on January 5, 2018 to stockholders of record on December 22, 2017.
Stock Based Compensation
The Company's Amended and Restated 2016 Incentive Plan (the "Plan") permits the Company to grant: (i) stock options, restricted stock, restricted stock units, performance share awards and any one or more of the foregoing, up to a maximum of
600,000
shares; and (ii) cash settled dividend equivalent rights in tandem with the grant of restricted stock units and certain performance based awards.
Restricted Stock Units
Pursuant to the Plan, in June 2016, the Company issued restricted stock units (the "Units") to acquire up to
450,000
shares of common stock. The Units entitle the recipients, subject to continued service through the March 31, 2021 vesting date to receive (i) the underlying shares if and to the extent certain performance and/or market conditions are satisfied at the vesting date, and (ii) an amount equal to the cash dividends paid from the grant date through the vesting date with respect to the shares of common stock underlying the Units if, when, and to the extent, the related Units vest. Because the Units are not participating securities, for financial statement purposes, the shares underlying the Units are excluded in the outstanding shares reflected on the consolidated balance sheet and from the calculation of basic earnings per share. The shares underlying the Units are contingently issuable shares and 200,000 of these shares have been included in the diluted earnings per share as the market conditions with respect to such units, had been met at December 31, 2017.
Expense is recognized over the
five
year vesting period on the Units which the Company expects to vest. The Company recorded
$72,000
and
$110,000
of compensation expense related to the amortization of unearned compensation with respect to the Units in the
three
months ended
December 31, 2017
and 2016, respectively. At
December 31, 2017
and September 30, 2017,
$942,000
and
$1,015,000
, respectively, has been deferred and will be charged to expense over the remaining vesting period.
Restricted Stock
As of
December 31, 2017
, an aggregate of
689,375
shares of unvested restricted stock are outstanding pursuant to the 2016 Incentive Plan and the 2012 Incentive Plan (the "Prior Plan").
No
additional awards may be granted under the Prior Plan. All shares of restricted stock vest
five
years from the date of grant and under specified circumstances, including a change in control, may vest earlier. For financial statement purposes, the restricted stock is not included in the outstanding shares shown on the consolidated balance sheets until they vest, but are included in the earnings per share computation.
For the three months ended
December 31, 2017
and
2016
, the Company recorded $
243,000
and
$214,000
, respectively, of compensation expense related to the amortization of unearned compensation with respect to the restricted stock awards. At
December 31, 2017
and September 30, 2017, $
2,113,000
and
$2,356,000
has been deferred as unearned compensation and will be charged to expense over the remaining vesting periods of these restricted stock awards. The weighted average vesting period of these shares of restricted stock is
2.1
years.
Stock Buyback
On September 5, 2017, the Board of Directors approved a repurchase plan authorizing the Company, effective as of October 1, 2017, to repurchase up to
$5,000,000
of shares of common stock through September 30, 2019. During the
three
months ended
December 31, 2017
,
no
shares were repurchased pursuant to this plan.
Per Share Data
Basic earnings per share is determined by dividing net income applicable to common stockholders for the applicable period by the weighted average number of common shares outstanding during such period. The Units are excluded from the basic earnings per share calculation, as they are not participating securities. Diluted earnings per share reflects the potential dilution that could occur if securities or other contracts to issue common shares were exercised or converted into shares of common stock or resulted in the issuance of shares of common stock that share in the earnings of the Company. Diluted earnings per share is determined by dividing net income applicable to common stockholders for the applicable period by the weighted average number of shares of common stock outstanding during such period. For the
three months ended December 31, 2017
, the Company included
200,000
shares of common stock underlying the Units in the calculation of diluted earning per share as a market criteria, with respect to such units, has been met at December 31, 2017.
The following table sets forth the computation of basic and diluted earnings per share (dollars in thousands, except per share amounts):
|
|
|
|
|
|
|
|
|
|
Three Months Ended December 31,
|
|
2017
|
|
2016
|
Numerator for basic and diluted earnings per share attributable to common stockholders:
|
|
|
|
|
Net income attributable to common stockholders
|
$
|
6,351
|
|
|
$
|
15,770
|
|
|
|
|
|
Denominator:
|
|
|
|
Denominator for basic earnings per share—weighted average number of shares
|
14,022,438
|
|
|
13,898,626
|
|
Effect of diluted securities
|
200,000
|
|
|
—
|
|
Denominator for diluted earnings per share—adjusted weighted average number of shares and assumed conversions
|
14,222,438
|
|
|
13,898,626
|
|
|
|
|
|
Basic earnings per share
|
$
|
0.45
|
|
|
$
|
1.13
|
|
Diluted earnings per share
|
$
|
0.45
|
|
|
$
|
1.13
|
|
Note 4 ‑ Real Estate Properties
Real estate properties (including properties held for sale) consist of the following (dollars in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2017
|
|
September 30, 2017
|
Land
|
|
$
|
140,452
|
|
|
$
|
138,094
|
|
Building
|
|
833,088
|
|
|
808,366
|
|
Building improvements
|
|
31,394
|
|
|
31,411
|
|
Real estate properties
|
|
1,004,934
|
|
|
977,871
|
|
Accumulated depreciation
|
|
(72,938
|
)
|
|
(66,621
|
)
|
Total real estate properties, net
|
|
$
|
931,996
|
|
|
$
|
911,250
|
|
A summary of real estate properties owned (including properties held for sale) follows (dollars in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2017
Balance
|
|
Additions
|
|
Capitalized Costs and Improvements
|
|
Depreciation
|
|
Sales
|
|
December 31, 2017
Balance
|
Multi-family
|
|
$
|
890,300
|
|
|
$
|
31,008
|
|
|
$
|
1,610
|
|
|
$
|
(8,620
|
)
|
|
$
|
(9,126
|
)
|
|
$
|
905,172
|
|
Multi-family development - West Nashville, TN
|
|
10,448
|
|
|
5,902
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
16,350
|
|
Land - Daytona, FL
|
|
8,021
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
8,021
|
|
Shopping centers/Retail - Yonkers, NY
|
|
2,481
|
|
|
—
|
|
|
—
|
|
|
(28
|
)
|
|
—
|
|
|
2,453
|
|
Total real estate properties
|
|
$
|
911,250
|
|
|
$
|
36,910
|
|
|
$
|
1,610
|
|
|
$
|
(8,648
|
)
|
|
$
|
(9,126
|
)
|
|
$
|
931,996
|
|
The following table summarizes the allocation of the purchase price of
two
properties purchased during the three months ended
December 31,
2017 (dollars in thousands):
|
|
|
|
|
|
|
|
Purchase Price Allocation
|
Land
|
|
$
|
3,289
|
|
Building and improvements
|
|
27,136
|
|
Acquisition-related intangible assets
|
|
486
|
|
Total consideration
|
|
$
|
30,911
|
|
Note 5 ‑ Acquisitions and Dispositions
Property Acquisitions
The table below provides information for the
three
months ended
December 31,
2017
regarding the Company's purchases of multi-family properties (dollars in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Location
|
|
Purchase Date
|
|
No. of Units
|
|
Purchase Price
|
|
Acquisition Mortgage Debt
|
|
Initial BRT Equity
|
|
Ownership Percentage
|
|
Capitalized Acquisition Costs
|
Madison, AL
|
|
12/7/2017
|
|
204
|
|
|
$
|
18,420
|
|
|
$
|
15,000
|
|
|
$
|
4,456
|
|
|
80
|
%
|
|
$
|
247
|
|
Boerne, TX (a)
|
|
12/14/2017
|
|
120
|
|
|
12,000
|
|
|
9,200
|
|
|
3,780
|
|
|
80
|
%
|
|
244
|
|
|
|
|
|
324
|
|
|
$
|
30,420
|
|
|
$
|
24,200
|
|
|
$
|
8,236
|
|
|
|
|
$
|
491
|
|
_________________________________
(a) Includes $500,000 for the acquisition of a land parcel adjacent to the property.
On February 7, 2018, the Company acquired, through a joint venture in which it has a
50%
equity interest, a
522
- unit multi-family property located in Ocoee, FL, for
$71,347,000
, including
$53,100,000
of mortgage debt obtained in connection with the acquisition. The mortgage debt matures in January 2028, bears interest at a fixed rate of
3.90%
, is interest only for
seven
years, and thereafter amortizes based on a
30
year schedule. The Company contributed
$12,370,000
for its
50%
ownership interest.
The table below provides information for the three months ended
December 31, 2016
regarding the Company's purchase of a multi-family property (dollars in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Location
|
|
Purchase Date
|
|
No. of Units
|
|
Purchase Price
|
|
Acquisition Mortgage Debt
|
|
Initial BRT Equity
|
|
Ownership Percentage
|
|
Capitalized Acquisition Costs
|
Fredricksburg, VA
|
|
11/4/2016
|
|
220
|
|
|
$
|
38,490
|
|
|
29,940
|
|
|
$
|
8,720
|
|
|
80
|
%
|
|
643
|
|
Property Dispositions
The following table is a summary of a real estate property disposed of by the Company in the
three
months ended
December 31,
2017 (dollars in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Location
|
Sale
Date
|
|
No. of
Units
|
|
Sales Price
|
|
Gain on Sale
|
|
Non-controlling partner portion of gain
|
Melbourne, FL
|
10/25/2017
|
|
208
|
|
|
$
|
22,250
|
|
|
$
|
12,519
|
|
|
$
|
2,504
|
|
On February 5, 2018, the Company sold The Fountains Apartments, West Palm Beach, Florida for
$97,200,000
. The Company anticipates recognizing, in the quarter ending March 31, 2018, an aggregate gain on the sale of the property of approximately
$41,800,000
, of which approximately
$20,500,000
will be allocated to the non-controlling interest. In connection with the sale, the Company also incurred approximately
$594,000
of mortgage prepayment costs, of which approximately
$290,000
will be allocated to the non-controlling interest. This property was not classified as held for sale at December 31, 2017, as it did not meet the criteria established for such classification.
The following table is a summary of the real estate properties disposed of by the Company in the
three
months ended
December 31,
2016 (dollars in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Location
|
Sale
Date
|
|
No. of
Units
|
|
Sales Price
|
|
Gain on Sale
|
|
Non-controlling partner portion of gain
|
Greenville, SC
|
10/19/2016
|
|
350
|
|
|
$
|
68,000
|
|
|
$
|
18,483
|
|
|
9,329
|
|
Panama City, FL
|
10/26/2016
|
|
160
|
|
|
14,720
|
|
|
7,393
|
|
|
$
|
3,478
|
|
Atlanta, GA
|
11/21/2016
|
|
350
|
|
|
36,750
|
|
|
8,905
|
|
|
4,166
|
|
Hixson,TN
|
11/30/2016
|
|
156
|
|
|
10,775
|
|
|
608
|
|
|
152
|
|
New York, NY
|
12/21/2016
|
|
1
|
|
|
465
|
|
|
449
|
|
|
—
|
|
|
|
|
1,017
|
|
|
$
|
130,710
|
|
|
$
|
35,838
|
|
|
$
|
17,125
|
|
Impairment Charges
The Company reviews each real estate asset owned, including those held through investments in unconsolidated joint ventures, for impairment when there is an event or a change in circumstances indicating that the carrying amount may not be recoverable. The Company measures and records impairment losses, and reduces the carrying value of properties, when indicators of impairment are present and the expected undiscounted cash flows related to those properties are less than their carrying amounts. In cases where the Company does not expect to recover its carrying costs on properties held for use, the Company reduces its carrying costs to fair value, and for properties held for sale, the Company reduces its carrying value to the fair value less costs to sell. During the quarters ended December 31, 2017 and 2016,
no
impairment charges were recorded.
NOTE 6 - Variable Interest Entities
The Company conducts a large portion of its business with joint venture partners. Many of the Company's consolidated joint ventures that own properties were determined to be variable interest entities ("VIEs") because the voting rights of some equity partners are not proportional to their obligations to absorb the expected loses of the entity and their rights to receive expected residual returns. It was determined that the Company is the primary beneficiary of these joint venture because it has a controlling financial interest in that it has the power to direct the activities of the VIE that most significantly impacts the entity's economic performance and it has the obligation to absorb losses of the entity and the right to receive benefits from the entity that could potentially be significant to the VIE.
The following is a summary of the carrying amounts with respect to the consolidated VIEs and their classification on the Company's consolidated balance sheets (amounts in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2017
(Unaudited)
|
|
September 30, 2017
|
ASSETS
|
|
|
|
|
Real estate properties, net of depreciation of $59,573 and $52,873
|
|
$
|
738,940
|
|
|
$
|
707,546
|
|
Cash and cash equivalents
|
|
8,282
|
|
|
8,626
|
|
Deposits and escrows
|
|
14,013
|
|
|
13,873
|
|
Other assets
|
|
8,139
|
|
|
8,148
|
|
Real estate properties held for sale
|
|
—
|
|
|
8,969
|
|
Total Assets
|
|
$
|
769,374
|
|
|
$
|
747,162
|
|
|
|
|
|
|
LIABILITIES
|
|
|
|
|
Mortgages payable, net of deferred costs of $5,088 and $5,170
|
|
$
|
573,078
|
|
|
$
|
558,568
|
|
Accounts payable and accrued liabilities
|
|
12,852
|
|
|
14,419
|
|
Total Liabilities
|
|
$
|
585,930
|
|
|
$
|
572,987
|
|
Note 7 - Real Estate Property Held For Sale
At September 30, 2017, Waverly Place Apartments, Melbourne, FL, with a book value of
$8,969,000
, was held for sale. This property was sold on October 25, 2017. The Company recognized a gain on the sale of the property of approximately
$12,519,000
, of which approximately
$2,504,000
was allocated to the non-controlling interest. The Company did not have any properties that met the criteria for held-for-sale classification at December 31, 2017.
Note 8 - Restricted Cash
Restricted cash represents funds held for specific purposes and are therefore not generally available for general corporate purposes. The restricted cash reflected on the consolidated balance sheets represents funds that are held by or on behalf of the Company specifically for capital improvements at certain multi-family properties.
Note 9 – Investment in Unconsolidated Ventures
The Company has interests in unconsolidated joint ventures that own multi-family properties. The table below provides information regarding these joint ventures at December 31, 2017 (dollars in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Location
|
|
Number of Units
|
|
Carrying Value
|
|
Mortgage Debt
|
|
Percent Ownership
|
Columbia, SC
|
|
374
|
|
|
$
|
4,901
|
|
|
$
|
41,000
|
|
|
32
|
%
|
Columbia, SC
(a)
|
|
339
|
|
|
8,665
|
|
|
—
|
|
|
46
|
%
|
Forney, TX
(b)
|
|
313
|
|
|
7,440
|
|
|
25,350
|
|
|
50
|
%
|
Other investments
|
|
N/A
|
|
|
109
|
|
|
N/A
|
|
|
N/A
|
|
|
|
1,026
|
|
|
$
|
21,115
|
|
|
$
|
66,350
|
|
|
|
__________________________
|
|
(a)
|
Reflects land purchased for a development project at which construction of
339
units is planned. Construction financing for this project of up to
$47,426,000
has been secured. Such financing bears interest at
4.08%
and matures in June 2020. At December 31, 2017, no amounts have been drawn on this financing.
|
|
|
(b)
|
This interest is held through a tenancy-in-common.
|
The net loss from these ventures was
$25,000
and
$0
in the three months ended December 31, 2017 and 2016, respectively.
Note 10 – Debt Obligations
Debt obligations consist of the following (dollars in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2017
|
|
September 30, 2017
|
Mortgages payable
|
|
$
|
718,281
|
|
|
$
|
704,171
|
|
Junior subordinated notes
|
|
37,400
|
|
|
37,400
|
|
Deferred mortgage costs
|
|
(6,597
|
)
|
|
(6,727
|
)
|
Total debt obligations, net of deferred costs
|
|
$
|
749,084
|
|
|
$
|
734,844
|
|
Mortgages Payable
During the
three
months ended
December 31, 2017
, the Company obtained the following mortgage debt in connection with the related property acquisitions (dollars in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Location
|
|
Closing Date
|
|
Acquisition Mortgage Debt
|
|
Interest Rate
|
|
Interest only period
|
|
Maturity Date
|
Madison, AL
|
|
12/7/17
|
|
$
|
15,000
|
|
|
4.08
|
%
|
|
60 months
|
|
January 2028
|
Boerne, TX (a)
|
|
12/14/17
|
|
9,200
|
|
|
LIBOR+ 2.39%
|
|
|
36 months
|
|
January 2028
|
|
|
|
|
$
|
24,200
|
|
|
|
|
|
|
|
|
_____________________________
(a) The Company entered into an agreement related to this loan to cap LIBOR at 3.86%. See Note 13.
The Company has
two
construction loans that are being used to finance
two
separate construction projects. Information regarding these loans at
December 31, 2017
is set forth below (dollars in thousand):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Location
|
|
Closing Date
|
|
Maximum Loan Amount
|
|
Amount outstanding
|
|
Interest Rate
|
|
Maturity Date
|
|
Extension Option
|
N Charleston, SC (a)
|
|
10/13/2015
|
|
$
|
30,265
|
|
|
$
|
29,863
|
|
|
LIBOR + 1.70%
|
|
10/13/2019
|
|
1 year
|
Nashville,TN
|
|
6/2/2017
|
|
47,426
|
|
|
—
|
|
|
LIBOR + 2.85%
|
|
6/2/2020
|
|
N/A
|
|
|
|
|
$
|
77,691
|
|
|
$
|
29,863
|
|
|
|
|
|
|
|
_____________________
(a) Currently in lease up.
Junior Subordinated Notes
At
December 31, 2017
and
September 30, 2017
, the Company's junior subordinated notes had an outstanding principal balance of
$37,400,000
, before deferred financing costs of
$377,000
and $
382,000
, respectively. At
December 31, 2017
, the interest rate on the outstanding balance is
three
month LIBOR +
2.00%
, or
3.17%
.
The junior subordinated notes require interest only payments through the maturity date of April 30, 2036, at which time repayment of the outstanding principal and unpaid interest become due. Interest expense for the three months ended
December 31, 2017
and
2016
, which includes amortization of deferred costs, was
$330,000
and
$274,000
, respectively.
Note 11 – Related Party Transactions
The Company has retained certain of its executive officers and Fredric H. Gould, a director, to provide services previously provided pursuant to an advisory agreement which was terminated on December 31, 2015. The aggregate fees paid for these services in the three months ended December 31, 2017 and 2016 were
$302,000
and
$288,000
, respectively.
Management of certain properties owned by the Company and certain joint venture properties is provided by Majestic Property Management Corp. ("Majestic Property"), a company wholly owned by Fredric H. Gould, under renewable year-to-year agreements. Certain of the Company's officers and directors are also officers and directors of Majestic Property. Majestic Property may also provide real estate brokerage and construction supervision services to these properties. These fees amounted to
$9,000
and
$8,000
for the
three months ended December 31, 2017
and
2016
, respectively.
The Company shares facilities, personnel and other resources with One Liberty Properties, Inc., Majestic Property, and Gould Investors, L.P. Certain of our executive officers and/or directors also serve in management positions, and have ownership interests, in One Liberty and/or Georgetown Partners Inc., the managing partner of Gould Investors L.P. The allocation of expenses for the facilities, personnel and other resources shared by the Company, One Liberty and Gould Investors is computed in accordance with a shared services agreement by and among the Company and these entities and is included in general and administrative expense on the consolidated statements of operations. For the three months ended December 31, 2017 and 2016, net allocated general and administrative expenses reimbursed by the Company to Gould Investors L.P. pursuant to the shared services agreement aggregated
$81,000
and
$79,000
, respectively.
Management of many of the Company's multi-family properties (including
two
unconsolidated multi-family properties) is performed by the Company's joint venture partners or their affiliates. None of these joint venture partners is Gould Investors L.P., Majestic Property or their affiliates. Management fees to these related parties for the three months ended
December 31, 2017
and 2016 were
$818,000
and
$624,000
, respectively. In addition, the Company may pay an acquisition fee to a joint venture partner in connection with a property purchased by such joint venture. Capitalized acquisition fees to these related parties for the
three months ended December 31, 2017
and
2016
, were
$230,000
and
$300,000
, respectively.
Note 12 – Fair Value of Financial Instruments
Financial Instruments Not Carried at Fair Value
The following methods and assumptions were used to estimate the fair value of each class of financial instruments that are not recorded at fair value on the consolidated balance sheets:
Cash and cash equivalents, restricted cash, accounts receivable (included in other assets), accounts payable and accrued liabilities: The carrying amounts reported in the balance sheets for these instruments approximate their fair value due to the short term nature of these accounts.
Junior subordinated notes: At
December 31, 2017
and
September 30, 2017
, the estimated fair value of the notes is lower than their carrying value by approximately
$15,243,000
and
$15,705,000
based on a market interest rate of
7.11%
and
6.37%
, respectively.
Mortgages payable: At
December 31, 2017
, the estimated fair value of the Company’s mortgages payable is lower than their carrying value by approximately
$13,750,000
assuming market interest rates between
3.85%
and
5.3%
and at
September 30, 2017
, the estimated fair value of the Company's mortgages payable was greater than their carrying value by approximately
$11,400,000
assuming market interest rates between
3.78%
and
5.02%
. Market interest rates were determined using rates which the Company believes reflects institutional lender yield requirements at the balance sheet dates.
Considerable judgment is necessary to interpret market data and develop estimated fair value. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value assumptions.
Financial Instruments Carried at Fair Value
The Company’s fair value measurements are based on the assumptions that market participants would use in pricing the asset or liability. As a basis for considering market participant assumptions in fair value measurements, there is a fair value hierarchy that distinguishes between market participant assumptions based on market data obtained from sources independent of the reporting entity and the reporting entity’s own assumptions about market participant assumptions. Level 1 assets/liabilities are valued based on quoted prices for identical instruments in active markets, Level 2 assets/liabilities are valued based on quoted prices in active markets for similar instruments, on quoted prices in less active or inactive markets, or on other “observable” market inputs, and Level 3 assets/liabilities are valued based significantly on “unobservable” market inputs. The Company does not currently own any financial instruments that are classified as Level 3. Set forth below is information regarding the Company’s financial assets and liabilities measured at fair value as of
December 31, 2017
(dollars in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
Carrying and Fair Value
|
|
Fair Value Measurements
Using Fair Value Hierarchy
|
|
|
Level 1
|
|
Level 2
|
Financial Assets:
|
|
|
|
|
|
Interest rate swaps
|
$
|
1,948
|
|
|
—
|
|
|
$
|
1,948
|
|
Interest rate cap
|
3
|
|
|
—
|
|
|
3
|
|
Total Financial Assets
|
$
|
1,951
|
|
|
—
|
|
|
$
|
1,951
|
|
|
|
|
|
|
|
Financial Liabilities:
|
|
|
|
|
|
Interest rate swap
|
$
|
1
|
|
|
—
|
|
|
$
|
1
|
|
Derivative financial instruments:
Fair values are approximated using widely accepted valuation techniques including discounted cash flow analysis on the expected cash flows of the derivatives. This analysis reflects the contractual terms of the
derivatives, including the period to maturity, and uses observable market-based inputs, including interest rate curves, foreign exchange rates, and implied volatilities. At
December 31, 2017
, these derivatives are included in other assets and other accounts payable and accrued liabilities on the consolidated balance sheet.
Although the Company has determined that the majority of the inputs used to value its derivatives fall within Level 2 of the fair value hierarchy, the credit valuation adjustments associated with them utilize Level 3 inputs, such as estimates of current credit spreads to evaluate the likelihood of default by itself and its counterparties. As of
December 31, 2017
, the Company assessed the significance of the impact of the credit valuation adjustments on the overall valuation of its derivative position and determined that the credit valuation adjustments are not significant to the overall valuation of its derivatives. As a result, the Company determined that its derivatives valuation is classified in Level 2 of the fair value hierarchy.
Note 13 – Derivative Financial Instruments
Cash Flow Hedges of Interest Rate Risk
The Company's objective in using interest rate derivatives is to manage its exposure to interest rate movements. To accomplish this objective, the Company primarily uses interest rate swaps as part of its interest rate risk management strategy. Interest rate swaps designated as cash flow hedges involve the receipt of variable 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.
The effective portion of changes in the fair value of derivatives, designated and that qualify as cash flow hedges, is recorded in Accumulated Other Comprehensive Income on our consolidated balance sheets and is subsequently reclassified into earnings in the period that the hedged transaction affects earnings. The ineffective portion of the change in fair value of the derivatives is recognized directly in earnings.
As of
December 31, 2017
, the Company had the following outstanding interest rate derivatives that were designated as cash flow hedges of interest rate risk (dollars in thousands):
|
|
|
|
|
|
|
|
|
|
|
Interest Rate Derivative
|
|
Notional Amount
|
|
Fixed Rate
|
|
Maturity
|
Interest rate cap on LIBOR
|
|
$
|
9,200
|
|
|
3.86
|
%
|
|
January 1, 2021
|
Interest rate swap
|
|
1,418
|
|
|
5.25
|
%
|
|
April 1, 2022
|
Interest rate swap
|
|
26,400
|
|
|
3.61
|
%
|
|
May 6, 2023
|
Interest rate swap
|
|
27,000
|
|
|
4.05
|
%
|
|
September 19, 2026
|
The table below presents the fair value of the Company’s derivative financial instruments as well as its classification on the consolidated balance sheets as of the dates indicated (amounts in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
Derivatives as of:
|
December 31, 2017
|
|
September 30, 2017
|
Balance Sheet Location
|
|
Fair Value
|
|
Balance Sheet Location
|
|
Fair Value
|
Other Assets
|
|
$
|
1,951
|
|
|
Other Assets
|
|
$
|
1,460
|
|
Accounts payable and accrued liabilities
|
|
$
|
1
|
|
|
Accounts payable and accrued liabilities
|
|
$
|
14
|
|
As of
December 31, 2017
, the Company did not have any derivative instruments that were considered to be ineffective and does not use derivative instruments for trading or speculative purposes.
The following table presents the effect of the Company’s interest rate swaps on the consolidated statements of comprehensive (loss) income for the dates indicated (dollars in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
December 31,
|
|
|
2017
|
|
2016
|
Amount of gain recognized on derivative in Other Comprehensive Income
|
|
$
|
459
|
|
|
$
|
3,123
|
|
Amount of loss reclassified from Accumulated
Other Comprehensive Income into Interest expense
|
|
$
|
43
|
|
|
$
|
145
|
|
No
gain or loss was recognized related to hedge ineffectiveness or to amounts excluded from effectiveness testing on the Company's cash flow hedges during the
three
months ended
December 31, 2017
and
December 31, 2016
. The Company estimates an additional
$93,000
will be reclassified from other comprehensive income (loss) as an increase to interest expense over the next twelve months.
Credit-risk-related Contingent Features
The agreement between the Company and its derivative counterparties provides that if the Company defaults on any of its indebtedness, including default where repayment of the indebtedness has not been accelerated by the lender, the Company could be declared in default on its derivative obligations.
As of
December 31, 2017
, the fair value of the derivative in a net liability position, which includes accrued interest, but excludes any adjustment for nonperformance risk related to these agreement, was
$2,200
. As of
December 31, 2017
, the Company has not posted any collateral related to these agreements. If the Company had been in breach of these agreements at
December 31, 2017
, it could have been required to settle its obligations thereunder at its termination value of
$2,200
.
Note 14 – New Accounting Pronouncements
In May 2014, the FASB issued Accounting Standards Update No. 2014-09, Revenue from Contracts with Customers (ASU 2014-09), prescribes a single, common revenue standards which supersedes nearly all existing revenue recognition guidance under U.S. GAAP, including most industry-specific requirements. The core principle of ASU 2014-09 is to recognize revenues when promised goods or services are transferred to customers in an amount that reflects the consideration to which an entity expects to be entitled for those goods or services. ASU 2014-09 outlines a five step model to achieve this core principle and, in doing so, more judgment and estimates may be required within the revenue recognition process than are required under existing U.S. GAAP. The standard is effective for annual periods beginning after December 15, 2017, and interim periods therein, using either of the following transition methods: (i) a full retrospective approach reflecting the application of the standard in each prior reporting period with the option to elect certain practical expedients, or (ii) a modified retrospective approach with the cumulative effect of initially adopting ASU 2014-09 recognized at the date of adoption (which includes additional footnote disclosures). We are currently evaluating the impact of our pending adoption of ASU 2014-09 on our consolidated financial statements and have not yet determined the method by which we will adopt the standard during the year ending September 30, 2019.
In February 2016, the FASB issued ASU No. 2016-02
, Leases.
ASU 2016-02 supersedes the current accounting for leases and while retaining two distinct types of leases, finance and operating, (i) requires lessees to record a right of use asset and a related liability for the rights and obligations associated with a lease, regardless of lease classification, and recognize lease expense in a manner similar to current accounting (ii) eliminates most real estate specific lease provisions, and (iii) aligns many of the underlying lessor model principles with those in the new revenue standard. ASU 2016-02 is effective for fiscal years beginning after December 15, 2018 and early adoption is permitted. We are required to adopt ASU 2016-02 using the modified retrospective approach which requires us to record leases existing as of or are entered into after the beginning of the earliest comparative period presented in the financial statements under the new lease standard. We are currently evaluating the impact of our pending adoption of ASU No. 2016-02 on our consolidated financial statements. We believe our adoption of the new leasing standard will result in an immaterial increase in the assets and liabilities on our consolidated balance sheets, with no material impact to our consolidated statements of income and comprehensive income.
In August 2016, the FASB issued ASU No. 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments (a consensus of the Emerging Issues Task Force), which provides specific guidance on eight cash flow classification issues and how to reduce diversity in how certain cash receipts and cash payments are presented and classified in the statement of cash flows. The effective date of the standard will be fiscal years, and interim periods within those
fiscal years, beginning after December 15, 2017, and early adoption is permitted. The Company is currently evaluating the new guidance to determine the impact, if any, on the consolidated financial statements.
Note 15 – Subsequent Events
Subsequent events have been evaluated and any significant events, relative to our consolidated financial statements as of
December 31, 2017
that warrant additional disclosure, have been included in the notes to the consolidated financial statements.