UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

 

 

FORM 10-Q

 

 

  

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended March 31, 2020

or

 

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from ________ to________

 

Commission File Number 001-09240

 

 

 

TRANSCONTINENTAL REALTY INVESTORS, INC.

(Exact Name of Registrant as Specified in Its Charter)

 

 

 

 Nevada  94-6565852

(State or Other Jurisdiction of

Incorporation or Organization)

(I.R.S. Employer

Identification No.)

 

1603 Lyndon B. Johnson Freeway, Suite 800, Dallas, Texas 75234

(Address of principal executive offices) (Zip Code)

 

(469) 522-4200

(Registrant’s telephone number, including area code)

 

Securities registered pursuant to Section 12(b) of the Exchange Act:

 

Title of each class Trading Symbol(s) Name of each exchange on which registered
Common Stock TCI NYSE

 

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 ☐ No

 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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 such files). ☒ Yes ☐ No

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act:

       
Large accelerated filer ☐ Accelerated filer  
       
Non-accelerated filer ☐ Smaller reporting company  
       
  Emerging growth company  

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). ☐ Yes ☒ No.

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

   
Common Stock, $.01 par value 8,717,767
(Class) (Outstanding at May 15, 2020)

 

 

 

 

 

TRANSCONTINENTAL REALTY INVESTORS, INC.

FORM 10-Q

 

TABLE OF CONTENTS

 

      PAGE
     
PART I. FINANCIAL INFORMATION  
       
Item 1. Financial Statements   3
       
  Consolidated Balance Sheets at March 31, 2020 (unaudited) and December 31, 2019   3
       
  Consolidated Statements of Operations for the three months ended March 31, 2020 and 2019 (unaudited)   4
       
  Consolidated Statement of Shareholders’ Equity for the three months ended March 31, 2020 and 2019 (unaudited)   5
       
  Consolidated Statements of Comprehensive Income for the three months ended March 31, 2020 and 2019 (unaudited)   6
       
  Consolidated Statements of Cash Flows for the three months ended March 31, 2020 and 2019 (unaudited)   7
       
  Notes to Consolidated Financial Statements   8
       
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations   24
       
Item 3. Quantitative and Qualitative Disclosures About Market Risks   33
       
Item 4. Controls and Procedures   33
       

PART II. OTHER INFORMATION

   
       
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds   34
       
Item 6. Exhibits   37

 

2

 

 

PART I. FINANCIAL INFORMATION

 

ITEM 1. FINANCIAL STATEMENTS

 

TRANSCONTINENTAL REALTY INVESTORS, INC.

CONSOLIDATED BALANCE SHEETS

 

 

 

March 31, 2020

 

 

December 31, 2019

 

 

 

(Unaudited)

 

 

(Audited)

 

 

 

(dollars in thousands, except share
and par value amounts)

 

Assets

 

 

 

 

 

 

 

 

Real estate, at cost

 

$

482,834

 

 

$

469,997

 

Real estate subject to sales contracts at cost

 

 

6,887

 

 

 

7,966

 

Less accumulated depreciation

 

 

(93,144

)

 

 

(90,173

)

Total real estate

 

 

396,577

 

 

 

387,790

 

 

 

 

 

 

 

 

 

 

Notes and interest receivable (including $62,130 in 2020 and $57,260 in 2019 from related parties)

 

 

126,870

 

 

 

120,986

 

Cash and cash equivalents

 

 

39,922

 

 

 

51,179

 

Restricted cash

 

 

28,158

 

 

 

32,082

 

Investment in VAA

 

 

53,508

 

 

 

59,148

 

Investment in other unconsolidated investees

 

 

22,631

 

 

 

22,632

 

Receivable from related parties

 

 

130,909

 

 

 

141,541

 

Other assets

 

 

52,214

 

 

 

50,560

 

Total assets

 

$

850,789

 

 

$

865,918

 

 

 

 

 

 

 

 

 

 

Liabilities and Shareholders’ Equity

 

 

 

 

 

 

 

 

Liabilities:

 

 

 

 

 

 

 

 

Notes and interest payable

 

$

252,697

 

 

$

246,546

 

Bonds and bond interest payable

 

 

207,832

 

 

 

229,722

 

Deferred revenue (including $9,468 in 2020 and 2019 to related parties)

 

 

9,468

 

 

 

9,468

 

Accounts payable and other liabilities (including $961 in 2020 and $935 in 2019 to related parties)

 

 

21,954

 

 

 

26,115

 

Total liabilities

 

 

491,951

 

 

 

511,851

 

 

 

 

 

 

 

 

 

 

Shareholders’ equity:

 

 

 

 

 

 

 

 

Common stock, $0.01 par value, authorized 10,000,000 shares; issued 8,717,967 shares in 2020 and 2019; outstanding 8,717,767 shares in 2020 and 2019

 

 

87

 

 

 

87

 

Treasury stock at cost, 200 shares in 2020 and 2019

 

 

(2

)

 

 

(2

)

Paid-in capital

 

 

257,853

 

 

 

257,853

 

Retained earnings

 

 

79,278

 

 

 

74,665

 

Total Transcontinental Realty Investors, Inc. shareholders’ equity

 

 

337,216

 

 

 

332,603

 

Non-controlling interest

 

 

21,622

 

 

 

21,464

 

Total shareholders’ equity

 

 

358,838

 

 

 

354,067

 

Total liabilities and shareholders’ equity

 

$

850,789

 

 

$

865,918

 

 

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

 

3

 

 

 TRANSCONTINENTAL REALTY INVESTORS, INC. 

CONSOLIDATED STATEMENTS OF OPERATIONS 

(Unaudited)

 

 

 

For the Three Months Ended  March 31,

 

 

 

2020

 

 

2019

 

 

 

(dollars in thousands, except
per share amounts)

 

Revenues:

 

 

 

 

 

 

Rental and other property revenues (including $221 and $113 for the three months ended 2020 and 2019, respectively, from related parties)

 

 $

11,918

 

 

 $

11,929

 

 

 

 

 

 

 

 

 

 

Expenses:

 

 

 

 

 

 

 

 

Property operating expenses (including $242 and $257 for the three months ended 2020 and 2019, respectively, from related parties)

 

 

6,309

 

 

 

5,997

 

Depreciation and amortization

 

 

3,394

 

 

 

3,109

 

General and administrative (including $1,055 and $1,500 for the three months ended 2020 and 2019, respectively, from related parties)

 

 

2,521

 

 

 

2,203

 

Franchise taxes and other expenses

 

 

1,494

 

 

 

125

 

Net income fee to related party

 

 

86

 

 

 

100

 

Advisory fee to related party

 

 

2,095

 

 

 

1,648

 

Total operating expenses

 

 

15,899

 

 

 

13,182

 

 Net operating (loss)

 

 

(3,981

)

 

 

(1,253

)

 

 

 

 

 

 

 

 

 

Other income (expenses):

 

 

 

 

 

 

 

 

Interest income (including $3,839 and $4,285 for the three months ended 2020 and 2019, respectively, from related parties)

 

 

4,527

 

 

 

4,558

 

Other income

 

 

835

 

 

 

3,892

 

Mortgage and loan interest (including $444 and $490 for the three months ended 2020 and 2019, respectively, from related parties)

 

 

(7,967

)

 

 

(7,959

)

Foreign currency transaction gain (loss)

 

 

7,843

 

 

 

(5,818

)

Equity loss from VAA

 

 

(376

)

 

 

(1,055

)

Losses from other unconsolidated investees

 

 

(1

)

 

 

(7

)

Total other income (expenses)

 

 

4,861

 

 

 

(6,389

)

Income (loss) before gain on land sales, non-controlling interest, and taxes

 

 

880

 

 

 

(7,642

)

Gain on land sales

 

 

4,138

 

 

 

2,216

 

Net income (loss) from continuing operations before taxes

 

 

5,018

 

 

 

(5,426

)

State income tax expense

 

 

(247

)

 

 

 

Net income (loss) from continuing operations

 

 

4,771

 

 

 

(5,426

)

Net income (loss)

 

 

4,771

 

 

 

(5,426

)

Net (income) attributable to non-controlling interest

 

 

(158

)

 

 

(183

)

Net income (loss) attributable to Transcontinental Realty Investors, Inc.

 

 

4,613

 

 

 

(5,609

)

Net income (loss) applicable to common shares

 

$

4,613

 

 

$

(5,609

)

 

 

 

 

 

 

 

 

 

(Loss) earnings per share - basic

 

 

 

 

 

 

 

 

Net income (loss) from continuing operations

 

$

0.55

 

 

$

(0.62

)

Net income (loss) applicable to common shares

 

$

0.53

 

 

$

(0.64

)

 

 

 

 

 

 

 

 

 

(Loss) earnings per share - diluted

 

 

 

 

 

 

 

 

Net income (loss) from continuing operations

 

$

0.55

 

 

$

(0.62

)

Net income (loss) applicable to common shares

 

$

0.53

 

 

$

(0.64

)

 

 

 

 

 

 

 

 

 

Weighted average common shares used in computing earnings per share

 

 

8,717,767

 

 

 

8,717,767

 

Weighted average common shares used in computing diluted earnings per share

 

 

8,717,767

 

 

 

8,717,767

 

                 

Amounts attributable to Transcontinental Realty Investors, Inc.

 

 

 

 

 

 

 

 

Net income (loss) from continuing operations

 

$

4,771

 

 

$

(5,426

)

Net income (loss) applicable to Transcontinental Realty, Investors, Inc.

 

$

4,613

 

 

$

(5,609

)

 

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

 

4

 

 

TRANSCONTINENTAL REALTY INVESTORS, INC.

CONSOLIDATED STATEMENT OF SHAREHOLDERS’ EQUITY

For the Three Months Ended March 31, 2020 and 2019

(Unaudited, dollars in thousands, except share amounts)

                                                 
                                                 
    Total     Comprehensive     Common Stock     Treasury     Paid-in     Retained     Non-controlling  
    Equity     Income (Loss)     Shares     Amount     Stock     Capital     Earnings     Interest  
Balance, December 31, 2019   $ 354,067     $ 74,362       8,717,967     $ 87     $ (2 )   $ 257,853     $ 74,665     $ 21,464  
Net income     4,771       4,613                               4,613       158  
Balance, March 31, 2020   $ 358,838     $ 78,975       8,717,967     $ 87     $ (2 )   $ 257,853     $ 79,278     $ 21,622  
                                                                 
                                                                 
   

Total

   

Comprehensive

   

Common Stock

   

Treasury

   

Paid-in

   

Retained

   

Non-controlling

 
   

Equity

   

Income (Loss)

   

Shares

   

Amount

   

Stock

   

Capital

   

Earnings

   

Interest

 
Balance, December 31, 2018   $ 380,401     $ 101,282       8,717,967     $ 87     $ (2 )   $ 258,050     $ 101,585     $ 20,681  
Distribution to equity partner     (67 )                             (67 )            
Net loss     (5,426 )     (15,316 )                             (5,609 )     183  
Balance, March 31, 2019   $ 374,908     $ 85,966       8,717,967     $ 87     $ (2 )   $ 257,983     $ 95,976     $ 20,864  

 

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

 

5

 

 

TRANSCONTINENTAL REALTY INVESTORS, INC. 

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited)

 

 

 

 

 

 

 

 

 

For the Three Months Ended March 31,

 

 

 

2020

 

 

2019

 

 

 

(dollars in thousands)

 

 

 

 

 

 

 

 

 

 

Net income (loss)

 

$

4,771

 

 

$

(5,426

)

Total comprehensive income (loss)

 

 

4,771

 

 

 

(5,426

)

Comprehensive (income) attributable to non-controlling interest

 

 

(158

)

 

 

(183

)

Comprehensive income (loss) attributable to Transcontinental Realty Investors, Inc.

 

$

4,613

 

 

$

(5,609

)

  

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

 

6

 

 

TRANSCONTINENTAL REALTY INVESTORS, INC. 

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

 

 

 

For the Three Months Ended March 31,

 

 

 

2020

 

 

2019

 

 

 

(dollars in thousands)

 

Cash Flow From Operating Activities:

 

 

 

 

 

 

 

 

Net income (loss)

 

$

4,771

 

 

$

(5,426

)

Adjustments to reconcile net income (loss) to net cash (used in) operating activities:

 

 

 

 

 

 

 

 

Foreign currency transaction (gain) loss

 

 

(7,843

)

 

 

5,818

 

Gain on sale of land

 

 

(4,138

)

 

 

(2,216

)

Depreciation and amortization

 

 

3,394

 

 

 

3,109

 

Amortization of deferred borrowing costs

 

 

153

 

 

 

336

 

Amortization of bond issuance costs

 

 

778

 

 

 

592

 

Loss from joint venture

 

 

376

 

 

 

1,055

 

Loses from other unconsolidated investees

 

 

1

 

 

 

7

 

(Increase) decrease in assets:

 

 

 

 

 

 

 

 

Accrued interest receivable

 

 

1,026

 

 

 

1,201

 

Other assets

 

 

(1,632

)

 

 

4,823

 

Prepaid expense

 

 

(791

)

 

 

(5,339

)

Rent receivables

 

 

180

 

 

 

(3,501

)

Related party receivables

 

 

3,264

 

 

 

(9,795

)

Increase (decrease) in liabilities:

 

 

 

 

 

 

 

 

Accrued interest payable

 

 

(3,138

)

 

 

(5,522

)

Other liabilities

 

 

(4,162

)

 

 

(2,778

)

Net cash (used in) operating activities

 

 

(7,761

)

 

 

(17,636

)

 

 

 

 

 

 

 

 

 

Cash Flow From Investing Activities:

 

 

 

 

 

 

 

 

Proceeds from notes receivable

 

 

1,227

 

 

 

255

 

Originations or advances on notes receivable

 

 

(768

)

 

 

(385

)

Acquisition of land held for development

 

 

(2,000

)

 

 

(2,479

)

Distribution from equity investee

 

 

5,264

 

 

 

 

Proceeds from sale of land

 

 

5,638

 

 

 

8,715

 

Improvement of income-producing properties

 

 

(2,289

)

 

 

(3,699

)

Construction and development of new properties

 

 

(5,453

)

 

 

(7,838

)

Net cash provided by (used in) investing activities

 

 

1,619

 

 

 

(5,431

)

 

 

 

 

 

 

 

 

 

Cash Flow From Financing Activities:

 

 

 

 

 

 

 

 

Proceeds from notes payable

 

 

5,114

 

 

 

8,018

 

Recurring payment of principal on notes payable

 

 

(2,592

)

 

 

(932

)

Bond payments

 

 

(11,561

)

 

 

(10,378

)

Distributions to equity partner

 

 

 

 

 

(67

)

Net cash (used in) financing activities

 

 

(9,039

)

 

 

(3,359

)

 

 

 

 

 

 

 

 

 

Net (decrease) increase in cash, cash equivalents and restricted cash

 

 

(15,181

)

 

 

(26,426

)

Cash, cash equivalents and restricted cash, beginning of period

 

 

83,261

 

 

 

106,565

 

Cash, cash equivalents and restricted cash, end of period

 

$

68,080

 

 

$

80,139

 

 

 

 

 

 

 

 

 

 

Supplemental disclosures of cash flow information:

 

 

 

 

 

 

 

 

Cash paid for interest

 

$

11,400

 

 

$

8,936

 

 

 

 

 

 

 

 

 

 

Schedule of noncash investing and financing activities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Notes payable issued on acquisition of land for development

 

$

3,350

 

 

$

 

 

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

 

7

 

 

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

NOTE 1.               ORGANIZATION AND BASIS OF PRESENTATION

 

Organization

 

As used herein, the terms “TCI”, “the Company”, “We”, “Our”, or “Us” refer to Transcontinental Realty Investors, Inc. a Nevada corporation which was formed in 1984. The Company is headquartered in Dallas, Texas and its common stock is listed and trades on the New York Stock Exchange (“NYSE”) under the symbol “TCI”. 

 

TCI is a “C” corporation for U.S. federal income tax purposes and files an annual consolidated income tax return with American Realty Investors, Inc. (“ARL”), whose common stock is traded on the NYSE under the symbol “ARL”. Subsidiaries and affiliates of ARL own in excess of 80% of the Company’s common stock. ARL and one of its subsidiaries own 78.38% and the parent of ARL owns 7.12% of the Company. Accordingly, TCI’s financial results are consolidated with those of ARL’s on Form 10-K and related Consolidated Financial Statements. ARL’s common stock is listed and trades on the New York Stock Exchange under the symbol “ARL”. 

 

On July 17, 2009, the Company acquired an additional 2,518,934 shares of common stock of Income Opportunity Realty Investors, Inc. (“IOR”), and in doing so, increased its ownership from approximately 25% to over 80% of the shares of common stock of IOR outstanding. Upon acquisition of the additional shares in 2009, IOR’s results of operations began to be consolidated with those of the Company for tax and financial reporting purposes. As of March 31, 2020, TCI owned 81.15% of the outstanding IOR common shares. Shares of IOR common stock are listed and traded on the NYSE American under the symbol “IOR”. 

 

TCI’s Board of Directors are responsible for directing the overall affairs of TCI and for setting the strategic policies that guide the Company. As of April 30, 2011, the Board of Directors delegated the day-to-day management of the Company to Pillar Income Asset Management, Inc. (“Pillar”), a Nevada corporation, under a written Advisory Agreement that is reviewed annually by TCI’s Board of Directors. The directors of TCI are also directors of ARL and four are also directors of IOR. The Chairman of the Board of Directors of TCI also serves as the Chairman of the Board of Directors of ARL and IOR. The officers of TCI also serve as officers of ARL, IOR and Pillar. 

 

Since April 30, 2011, Pillar, the sole shareholder of which is Realty Advisors, LLC, a Nevada limited liability company, the sole member of which is Realty Advisors, Inc. (“RAI”), a Nevada corporation, the sole shareholder of which is May Realty Holdings, Inc. (“MRHI”, formerly known as Realty Advisors Management, Inc.), effective August 7, 2014), a Nevada corporation, the sole shareholder of which is a trust known as the May Trust, became the Company’s external contractual Advisor and Cash Manager. Pillar’s duties include, but are not limited to, locating, evaluating and recommending real estate and real estate-related investment opportunities. Pillar also arranges, for the Company’s benefit, debt and equity financing with third party lenders and investors. Pillar also serves as the contractual Advisor and Cash Manager to ARL and IOR. As the contractual advisor, Pillar is compensated by TCI under an Advisory Agreement that is more fully described in Part III, Item 10. “Directors, Executive Officers and Corporate Governance – The Advisor”. TCI has no employees. Employees of Pillar render services to TCI in accordance with the terms of the Advisory Agreement. 

 

Regis Realty Prime, LLC, dba Regis Property Management, LLC (“Regis”), manages our commercial properties and provides brokerage services. Regis receives property management fees, construction management fees and leasing commissions in accordance with the terms of its property-level management agreement. Regis is also entitled to receive real estate brokerage commissions in accordance with the terms of a non-exclusive brokerage agreement. Refer to Part III, Item 10. “Directors, Executive Officers and Corporate Governance – Property Management and Real Estate Brokerage”. TCI engages third-party companies to lease and manage its apartment properties.

 

Southern Properties Capital Ltd. (“Southern” or “SPC”) is a wholly owned subsidiary of TCI that was incorporated on August 16, 2016 for the purpose of raising funds by issuing debentures (that cannot be converted into any other security) which are listed and traded on the Tel-Aviv Stock Exchange (“TASE”). Southern operates in the United States and is primarily involved in investing in, developing, constructing and operating income-producing properties of multi-family residential real estate assets. Southern is included in the consolidated financial statements of TCI.

 

8

 

 

On January 1, 2012, the Company entered into a development agreement with Unified Housing Foundation, Inc. (“UHF”) a non-profit corporation that provides management services for the development of residential apartment projects in the future. This development agreement was terminated December 31, 2013. The Company has also invested in surplus cash notes receivables from UHF and has sold several residential apartment properties to UHF in prior years. Due to this ongoing relationship and the significant investment in the performance of the collateral secured under the notes receivable, UHF has been determined to be a related party.

 

On November 19, 2018, we executed an agreement between the Macquarie Group (“Macquarie”) and Southern and TCI to create a joint venture, Victory Abode Apartments, LLC (“VAA”) to address existing and future demand for quality multifamily residential housing through acquisition and development of sustainable Class A multifamily housing in focused secondary and tertiary markets. In connection with the formation of the joint venture, Southern and TCI contributed a portfolio of 49 income producing apartment complexes, and 3 development projects in various stages of construction and received cash consideration of $236.8 million. At the time of the transfer of the properties, the joint venture assumed all liabilities of those properties, including mortgage debt to the Department of Housing and Urban Development (“HUD”).

 

VAA is equally owned and controlled by Abode JVP, LLC, a wholly-owned subsidiary of Southern and Summerset Intermediate Holdings 2, LLC (“Summerset”), a wholly-owned indirect subsidiary of Macquarie. Pursuant to the Agreement, Abode JVP, LLC and Summerset each own voting and profit participation rights of 50% and 49%, respectively (“Class A Members”). The remaining 2% of the profits interest is held by Daniel J. Moos, who serves as the President and Chief Executive Officer of the Company (“Class B Member”) and Manager of the joint venture.

 

Our primary business is the acquisition, development and ownership of income-producing residential and commercial real estate properties. In addition, we opportunistically acquire land for future development in in-fill or high-growth suburban markets. From time to time and when we believe it appropriate to do so, we will also sell land and income-producing properties. We generate revenues by leasing apartment units to residents, and leasing office, industrial and retail space to various for-profit businesses as well as certain local, state and federal agencies. We also generate revenues from gains on sales of income-producing properties and land.

 

At March 31, 2020, our portfolio of income-producing properties consisted of:

 

Seven commercial properties consisting of five office buildings and two retail properties comprising in aggregate of approximately 1.7 million square feet;

Ten residential apartment communities owned directly by us comprising in 1,657 units, excluding apartments being developed;

Approximately 1,982 acres of developed and undeveloped land; and

Fifty-one residential apartment communities totaling 10,137 units owned by our 50% owned investee VAA.

 

We join with various third-party development companies to construct residential apartment communities. We are in the predevelopment process on several residential apartment communities that have not yet begun construction. The third-party developer typically holds a general partner as well as a majority limited partner interest in a limited partnership formed for the purpose of building a single property, while we generally take a minority limited partner interest in the limited partnership. We may contribute land to the partnership as part of our equity contribution or we may contribute the necessary funds to the partnership to acquire the land. We are required to fund all necessary equity contributions while the third-party developer is responsible for obtaining construction financing, hiring a general contractor and for the overall management, successful completion and delivery of the project. We generally bear all the economic risks and rewards of ownership in these partnerships and therefore include these partnerships in our Consolidated Financial Statements. The third-party developer is paid a developer fee typically equal to a percentage of the construction costs. When the project reaches stabilized occupancy, we acquire the third-party developer’s partnership interests in exchange for any remaining unpaid developer fees.

 

9

 

 

Basis of Presentation

 

The accompanying unaudited Consolidated Financial Statements have been prepared in accordance with the instructions to Form 10-Q and Article 10 of Regulation S-X. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) have been condensed or omitted in accordance with such rules and regulations, although management believes the disclosures are adequate to prevent the information presented from being misleading. In the opinion of management, all adjustments (consisting of normal recurring matters) considered necessary for a fair presentation have been included. The results of operations for the three months ended March 31, 2020, are not necessarily indicative of the results that may be expected for other interim periods or for the full fiscal year.

 

The year-end Consolidated Balance Sheet at December 31, 2019 was derived from the audited Consolidated Financial Statements at that date, but does not include all of the information and disclosures required by U.S. GAAP for complete financial statements. For further information, refer to the Consolidated Financial Statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019. Certain 2019 Consolidated Financial Statement amounts have been reclassified to conform to the 2020 presentation.

 

Principles of Consolidation

 

The accompanying Consolidated Financial Statements include the accounts of the Company, its subsidiaries, generally all of which are wholly-owned, and all entities in which we have a controlling interest. Arrangements that are not controlled through voting or similar rights are accounted for as a Variable Interest Entity (“VIE”), in accordance with the provisions and guidance of ASC Topic 810, “Consolidation”, whereby we have determined that we are a primary beneficiary of the VIE and meet certain criteria of a sole general partner or managing member as identified in accordance with Emerging Issues Task Force (“EITF”) Issue 04-5, Investor’s Accounting for an Investment in a Limited Partnership when the Investor is the Sole General Partner and the Limited Partners have Certain Rights (“EITF 04-5”). VIEs are generally entities that lack sufficient equity to finance their activities without additional financial support from other parties or whose equity holders as a group lack adequate decision making ability, the obligation to absorb expected losses or residual returns of the entity, or have voting rights that are not proportional to their economic interests. The primary beneficiary is generally the entity that provides financial support and bears a majority of the financial risks, authorizes certain capital transactions, or makes operating decisions that materially affect the entity’s financial results. All significant intercompany balances and transactions have been eliminated in consolidation.

 

In determining whether we are the primary beneficiary of a VIE, we consider qualitative and quantitative factors, including, but not limited to: the amount and characteristics of our investment; the obligation or likelihood for us or other investors to provide financial support; our and the other investors’ ability to control or significantly influence key decisions for the VIE; and the similarity with and significance to the business activities of us and the other investors. Significant judgments related to these determinations include estimates about the current future fair values and performance of real estate held by these VIEs and general market conditions.

 

For entities in which we have less than a controlling financial interest or entities where we are not deemed to be the primary beneficiary, the entities are accounted for using the equity method of accounting. Accordingly, our share of the net earnings or losses of these entities is included in consolidated net income. Our investment in ARL and VAA is accounted for under the equity method.

 

Real Estate, Depreciation and Impairment

 

Real estate assets are stated at the lower of depreciated cost or fair value, if deemed impaired. Major replacements and betterments are capitalized and depreciated over their estimated useful lives. Depreciation is computed on a straight-line basis over the useful lives of the properties (buildings and improvements: 10-40 years; furniture, fixtures and equipment: 5-10 years). The Company continually evaluates the recoverability of the carrying value of its real estate assets using the methodology prescribed in ASC Topic 360 (“ASC 360”), “Property, Plant and Equipment”. Factors considered by management in evaluating impairment of its existing real estate assets held for investment include significant declines in property operating profits, annually recurring property operating losses and other significant adverse changes in general market conditions that are considered permanent in nature. Under ASC 360, a real estate asset held for investment is not considered impaired if the undiscounted, estimated future cash flows of an asset (both the annual estimated cash flow from future operations and the estimated cash flow from the theoretical sale of the asset) over its estimated holding period are in excess of the asset’s net book value at the balance sheet date. If any real estate asset held for investment is considered impaired, a loss is provided to reduce the carrying value of the asset to its estimated fair value.

 

10

 

 

Real Estate Held For Sale

 

We periodically classify real estate assets as “held for sale.” An asset is classified as held for sale after the approval of our Board of Directors, after an active program to sell the asset has commenced and if the sale is probable. One of the deciding factors in determining whether a sale is probable is whether the firm purchase commitment is obtained and whether the sale is probable within the year. Upon the classification of a real estate asset as held for sale, the carrying value of the asset is reduced to the lower of its net book value or its estimated fair value, less costs to sell the asset. Subsequent to the classification of assets as held for sale, no further depreciation expense is recorded. Real estate assets held for sale are stated separately on the accompanying Consolidated Balance Sheets. Upon a decision that the sale is no longer probable, the asset is classified as an operating asset and depreciation expense is reinstated.

 

Cost Capitalization

 

Costs related to planning, developing, leasing and constructing a property are capitalized and classified as Real Estate in the Consolidated Balance Sheets. We capitalize interest to qualifying assets under development based on average accumulated expenditures outstanding during the period. In capitalizing interest to qualifying assets, we first use the interest incurred on specific project debt, if any, and next use the weighted average interest rate of non-project specific debt. We capitalize interest, real estate taxes and certain operating expenses until building construction is substantially complete and the building is ready for its intended use, but no later than one year from the cessation of major construction activity.

 

We capitalize leasing costs which include commissions paid to outside brokers, legal costs incurred to negotiate and document a lease agreement and any internal costs that may be applicable. We allocate these costs to individual tenant leases and amortize them over the related lease term.

 

Fair Value Measurement

 

We apply the guidance in ASC Topic 820, “Fair Value Measurements and Disclosures”, to the valuation of real estate assets. These provisions define fair value as the price that would be received to sell an asset or paid to transfer a liability in a transaction between market participants at the measurement date, establish a hierarchy that prioritizes the information used in developing fair value estimates and require disclosure of fair value measurements by level within the fair value hierarchy. The hierarchy gives the highest priority to quoted prices in active markets (Level 1 measurements) and the lowest priority to unobservable data (Level 3 measurements), such as the reporting entity’s own data.

 

The valuation hierarchy is based upon the transparency of inputs to the valuation of an asset or liability as of the measurement date and includes three levels defined as follows:

 

Level 1 – 

Unadjusted quoted prices for identical and unrestricted assets or liabilities in active markets.

 

 

Level 2 – 

Quoted prices for similar assets and liabilities in active markets, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument.

 

 

Level 3 – 

Unobservable inputs that are significant to the fair value measurement.

 

A financial instrument’s categorization within the valuation hierarchy is based upon the lowest level of input that is significant to the fair value measurement.

 

11

 

 

Deferred Costs

 

Costs relating to the financing of properties are deferred and amortized over the life of the related financing agreement. Amortization is reflected as interest expense in the Consolidated Statements of Operations, with remaining terms ranging from 6 months to 40 years. Unamortized financing costs are written off when the financing agreement is extinguished before the maturity date.

 

Related Parties

 

We apply ASC Topic 805, “Business Combinations”, to evaluate business relationships. Related parties are persons or entities who have one or more of the following characteristics, which include entities for which investments in their equity securities would be required; trust for the benefit of persons including principal owners of the entities and members of their immediate families, management personnel of the entity and members of their immediate families and other parties with which the entity may deal if one party controls or can significantly influence the decision making of the other to an extent that one of the transacting parties might be prevented from fully pursuing its own separate interests, or affiliates of the entity.

 

Newly Issued Accounting Standards

 

In December 2019, the FASB issued ASU 2019-12, Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes. The amendments in this Update simplify the accounting for income taxes by removing certain exceptions from ASC 740. Also, the amendments in this Update simplify the accounting for income taxes by requiring that an entity recognize a franchise tax (or similar tax) that is partially based on income as an income-based tax, requiring that an entity evaluate when a step up in the tax basis of goodwill should be considered part of the business combination, and other targeted changes. The effective date of the amendments is for fiscal years, and interim periods within those years, beginning after December 15, 2020. The Company is currently evaluating the impact that the adoption of ASU 2019-12 may have on its consolidated financial statements.

 

In October 2018, the FASB issued ASU 2018-17, Consolidation (Topic 810): Targeted Improvements to Related Party Guidance for Variable Interest Entities. This standard is intended to improve the accounting when considering indirect interests held through related parties under common control for determining whether fees paid to decision makers and service providers are variable interests. The effective date of the amendments is for fiscal years, and interim periods within those years, beginning after December 15, 2019. The new standard must be adopted retrospectively with early adoption permitted. The adoption of ASU 2018-17 did not have a material impact on the Company’s financial position and results of operations.

 

In August 2018, the FASB issued ASU 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework—Changes to the Disclosure Requirements for Fair Value Measurement that eliminates, adds and modifies certain disclosure requirements for fair value measurements. The effective date of the standard is for fiscal periods, and interim periods within those years, beginning after December 15, 2019. The amendments on changes in unrealized gains and losses, the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements, and the narrative description of measurement uncertainty should be applied prospectively. All other amendments should be applied retrospectively. Early adoption is permitted. The adoption of ASU 2018-13 did not have a material impact on the Company’s financial position and results of operations.

 

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842). The standard amended the existing lease accounting guidance and required lessees to recognize a lease liability and a right-of-use asset for all leases on their balance sheets. Lessees of operating leases continued to recognize lease expense in a manner similar to previous accounting. For lessors, accounting for leases under the new guidance was substantially the same as in prior periods, but it eliminated current real estate-specific provisions and changed the treatment of initial direct costs. The Company early adopted the standard on January 1, 2019.

The Company elected the following package of practical expedients provided by the standard: (i) an entity need not reassess whether any expired or existing contract is a lease or contains a lease, (ii) an entity need not reassess the lease classification of any expired or existing leases, and (iii) an entity need not reassess initial direct costs for any existing leases. The Company also elected the short-term lease exception provided for in the standard and therefore only recognizes right-of-use assets and lease liabilities for leases with a term greater than one year. The Company adopted the standard on January 1, 2019, but since no material lease arrangements were identified where the Company was the lessee, there were no right-of-use assets or lease liabilities recorded.

In July 2018, the FASB issued ASU 2018-11, Leases – Targeted Improvements, which provided entities with relief from the costs of implementing certain aspects of ASU 2016-02, Leases. The ASU provided a practical expedient which allowed lessors to not separate lease and non-lease components in a contract and allocate the consideration in the contract to the separate components if both: (i) the timing and pattern of revenue recognition for the non-lease component and the related lease component are the same and (ii) the combined single lease component would be classified as an operating lease. The Company elected the practical expedient. The ASU also provided a transition option that permitted entities to not recast the comparative periods presented when transitioning to the standard, which the Company also elected.

In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606). The standard provides companies with a single model for use in accounting for revenue arising from contracts with customers. The scope of this standard specifically excludes lease contracts. The Company adopted the standard on January 1, 2019, but it did not have an impact to the financial statements as the majority of the Company’s revenue is from rental revenue generated from lease contracts.

 

12

 

 

NOTE 2.               INVESTMENT IN VAA

 

The Company accounts for its investment in VAA under the equity method of accounting. Under the equity method of accounting, our net equity in the investment is reflected within the Consolidated Balance Sheets in the caption ‘Investment in VAA’, and our share of the net income or loss from the joint venture is included within the Consolidated Statements of Operations in the caption ‘Equity earnings from VAA’. The joint venture agreements may designate different percentage allocations among investors for profits and losses; however, our recognition of joint venture income or loss generally follows the joint venture’s distribution priorities, which may change upon the achievement of certain investment return thresholds and other agreed upon adjustments.

 

The following is a summary of the financial position and results of operations of VAA (dollars in thousands):

 

 

 

For the period ended March 31,

 

 

 

2020

 

 

2019

 

Balance Sheet

 

 

 

 

 

 

 

 

 

Net real estate assets

 

$

1,239,252

 

 

$

1,257,557

 

Other assets

 

 

48,968

 

 

 

67,020

 

Debt, net

 

 

(834,826

)

 

 

(796,065

)

Other liabilities

 

 

(261,620

)

 

 

(275,448

)

Total equity

 

 

(191,774

)

 

 

(253,064

)

 

 

 

For the Three Months Ended March 31,

 

 

 

2020

 

 

2019

 

Results of Operations

 

 

 

 

 

 

 

 

 

Total revenue

 

$

29,660

 

 

$

27,401

 

Total property, operating, and maintenance expenses

 

 

(13,842

)

 

 

(14,169

)

Interest expense

 

 

(15,074

)

 

 

(15,070

)

Depreciation and Amortization

 

 

(7,657

)

 

 

(15,233

)

Total other expense

 

 

(982

)

 

 

(675

)

Net loss

 

$

(7,895

)

 

$

(17,746

)

 

Below is a reconciliation of our allocation of income or loss from VAA.

 

 

 

For the Three Months Ended March 31,

 

 

 

2020

 

 

2019

 

VAA net loss

 

$

(7,895

)

 

$

(17,746

)

Adjustments to reconcile to income (loss) from VAA

 

 

 

 

 

 

 

 

Interest expense on mezzanine loan

 

 

5,873

 

 

 

6,089

 

In-place lease intangibles - amortization expense

 

 

 

 

 

8,336

 

Depreciation basis differences

 

 

1,270

 

 

 

1,211

 

Net loss

 

$

(752

)

 

$

(2,110

)

Percentage ownership in VAA

 

 

50

%

 

 

50

%

Loss from VAA

 

$

(376

)

 

$

(1,055

)

 

13

 

 

NOTE 3.        REAL ESTATE ACTIVITY

 

Below is a summary of the real estate owned as of March 31, 2020 and December 31, 2019 (dollars in thousands):

 

 

 

March 31,

 

 

December 31,

 

 

 

2020

 

 

2019

 

Apartments

 

$

157,753

 

 

$

156,173

 

Apartments under construction

 

 

33,166

 

 

 

22,363

 

Commercial properties

 

 

230,133

 

 

 

229,424

 

Land held for development

 

 

61,782

 

 

 

62,037

 

Real estate subject to sales contract

 

 

6,887

 

 

 

7,966

 

Total real estate, at cost, less impairment

 

$

489,721

 

 

$

477,963

 

Less accumulated deprecation

 

 

(93,144

)

 

 

(90,173

)

Total real estate, net of depreciation

 

$

396,577

 

 

$

387,790

 

 

The following is a description of our significant real estate and financing transactions for the three months ended March 31, 2020:

 

Sold a combined 18.7 acres of land to third parties in Farmers Branch, Texas and Forney, Texas for an aggregate sales price of $5.7 million and recognized a gain on the sale of approximately $4.1 million.

 

Acquired 100% of the membership interest in EQK Portage, LLC, which owns approximately 49.2 acres of land in Kent, OH. The Company purchased the land for development at a purchase price of $5.4 million, consisting of $2.0 million in cash and a 3.4 million note payable. The note has an interest rate of 10% and a maturity date of November 13, 2024.

 

Purchased notes receivables from related parties for an aggregate purchase price of $7.4 million. No gain or loss was recognized from the purchase of the notes receivables (refer to Note 5).

 

Paid $11.6 million in Series A bond principal and $7.3 million interests payments in Series A, B and C bonds.

 

Converted $16.0 million to approximately 59.8 million (NIS) for the upcoming July 31, 2020 payment to the bond holders for principal and interest on Series A, B, and C Bonds.

 

The Company continues to invest in the development of apartment projects. During the three months ended March 31, 2020, we have invested $5.4 million related to the construction or predevelopment of various apartment complexes out of which $0.3 million represents capitalized interest costs.

 

14

 

 

NOTE 4.               SUPPLEMENTAL CASH FLOW INFORMATION

 

For the three months ended March 31, 2020 and 2019, the Company paid interest expense of $11.4 million and $8.9 million, respectively.

 

Cash and cash equivalents, and restricted cash for the three months ended March 31, 2020 and 2019 was $68.1 million and $80.1 million, respectively. The following is a reconciliation of the Company’s cash and cash equivalents, and restricted cash to the total presented in the consolidated statement of cash flows:

 

 

 

For the Period Ended March 31,

 

 

 

2020

 

 

2019

 

Cash and cash equivalents

 

$

39,922

 

 

$

28,156

 

Restricted cash (cash held in escrow)

 

 

14, 030

 

 

 

33,709

 

Restricted cash (certificate of deposits)

 

 

2,854

 

 

 

11,876

 

Restricted cash (held with Trustee)

 

 

11,274

 

 

 

6,398

 

Total cash, cash equivalents and restricted cash

 

$

68,080

 

 

$

80,139

 

 

Amounts included in restricted cash represent funds required to be set aside to meet contractual obligations with certain financial institutions for the payment of reserve replacement, tax and insurance escrow. In addition, restricted cash includes funds held with the Trustee for payment of bonds interest and other bond related expenses.

 

15

 

 

NOTE 5.               NOTES AND INTEREST RECEIVABLE

 

A portion of our assets are invested in mortgage notes receivable, principally secured by real estate. We may originate mortgage loans in conjunction with providing purchase money financing of property sales. Notes receivable are generally collateralized by real estate or interests in real estate and guarantees, unless noted otherwise, are so secured. Management intends to service and hold for investment the mortgage notes in our portfolio. A majority of the notes receivable provide for principal to be paid at maturity.

 

Below is a summary of our notes receivable as of March 31, 2020 (dollars in thousands):

 

 

 

 

 

 

Maturity

 

 

Interest

 

 

 

 

 

 

Borrower

 

 

 

 

Date

 

 

Rate

 

 

Amount

 

Security

 

Performing loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Prospectus Endeavors 4, LLC

 

 

 

 

01/23

 

 

12.00

%

 

 

5,907

 

 

Secured

 

Prospectus Endeavors 6, LLC

 

 

 

 

10/22

 

 

12.00

%

 

 

496

 

 

Secured

 

Oulan-Chikh Family Trust

 

 

 

 

03/21

 

 

8.00

%

 

 

174

 

 

Secured

 

H198, LLC (McKinney Ranch Land)

 

 

 

 

09/20

 

 

6.00

%

 

 

4,554

 

 

Secured

 

Forest Pines Phase I

 

 

 

 

11/20

 

 

5.00

%

 

 

2,869

 

 

Secured

 

Spyglass Apartments of Ennis, LP

 

 

 

 

11/20

 

 

5.00

%

 

 

5,335

 

 

Secured

 

Bellwether Ridge

 

 

 

 

05/20

 

 

5.00

%

 

 

3,853

 

 

Secured

 

Parc at Windmill Farms

 

 

 

 

05/20

 

 

5.00

%

 

 

7,697

 

 

Secured

 

Autumn Breeze

 

 

 

 

10/21

 

 

5.00

%

 

 

1,414

 

 

Secured

 

Plum Tree

 

 

 

 

10/21

 

 

5.00

%

 

 

492

 

 

Secured

 

Parc at Ingleside

 

 

 

 

12/21

 

 

5.00

%

 

 

1,827

 

 

Secured

 

RNC Revolving Line of Credit

 

 

 

 

09/24

 

 

5.00

%

 

 

8,851

 

 

Secured

 

Steeple Crest

 

 

 

 

10/20

 

 

5.00

%

 

 

6,665

 

 

Secured

 

RAI PFBL 2018 Purch Fee Note Weatherford

 

 

 

 

12/21

 

 

12.00

%

 

 

525

 

 

Secured

 

Unified Housing Foundation, Inc. (Echo Station) (1)

 

 

 

 

12/32

 

 

12.00

%

 

 

1,481

 

 

Secured

 

Unified Housing Foundation, Inc. (Lakeshore Villas) (1)

 

 

 

 

12/32

 

 

12.00

%

 

 

2,000

 

 

Secured

 

Unified Housing Foundation, Inc. (Lakeshore Villas) (1)

 

 

 

 

12/32

 

 

12.00

%

 

 

6,369

 

 

Secured

 

Unified Housing Foundation, Inc. (Limestone Ranch) (1)

 

 

 

 

12/32

 

 

12.00

%

 

 

1,953

 

 

Secured

 

Unified Housing Foundation, Inc. (Limestone Ranch) (1)

 

 

 

 

12/32

 

 

12.00

%

 

 

2,000

 

 

Secured

 

Unified Housing Foundation, Inc. (Limestone Ranch) (1)

 

 

 

 

12/32

 

 

12.00

%

 

 

4,000

 

 

Secured

 

Unified Housing Foundation, Inc. (Timbers of Terrell) (1)

 

 

 

 

12/32

 

 

12.00

%

 

 

1,323

 

 

Secured

 

Unified Housing Foundation, Inc. (1)

 

 

 

 

12/21

 

 

12.00

%

 

 

10,401

 

 

Unsecured

 

Unified Housing Foundation, Inc. (1)

 

 

 

 

06/20

 

 

12.00

%

 

 

5,314

 

 

Unsecured

 

Unified Housing Foundation, Inc. (1)

 

 

 

 

03/22

 

 

12.00

%

 

 

4,782

 

 

Unsecured

 

Unified Housing Foundation, Inc. (Lakeshore Villas) (1)

 

 

 

 

07/21

 

 

12.00

%

 

 

838

 

 

Secured

 

Unified Housing Foundation, Inc. (Limestone Ranch) (1)

 

 

 

 

07/21

 

 

12.00

%

 

 

773

 

 

Secured

 

Unified Housing Foundation, Inc. (Marquis at Vista Ridge) (1)

 

 

 

 

07/21

 

 

12.00

%

 

 

839

 

 

Secured

 

Unified Housing Foundation, Inc. (Timbers at the Park) (1)

 

 

 

 

07/21

 

 

12.00

%

 

 

432

 

 

Secured

 

Unified Housing Foundation, Inc. (Bella Vista) (1)

 

 

 

 

08/21

 

 

12.00

%

 

 

212

 

 

Secured

 

Unified Housing Foundation, Inc. (1)

 

 

 

 

03/23

 

 

12.00

%

 

 

61

 

 

Unsecured

 

Unified Housing Foundation, Inc. (1)

 

 

 

 

03/23

 

 

12.00

%

 

 

1,482

 

 

Unsecured

 

Unified Housing Foundation, Inc. (1)

 

 

 

 

03/23

 

 

12.00

%

 

 

4,792

 

 

Unsecured

 

Unified Housing Foundation, Inc. (1)

 

 

 

 

03/23

 

 

12.00

%

 

 

716

 

 

Unsecured

 

Unified Housing Foundation, Inc. (1)

 

 

 

 

03/23

 

 

12.00

%

 

 

317

 

 

Unsecured

 

Unified Housing Foundation, Inc. (1)

 

 

 

 

10/21

 

 

12.00

%

 

 

6,831

 

 

Unsecured

 

Other related party notes

 

 

 

 

Various

 

 

Various

 

 

 

1,825

 

 

Various secured interests

 

Other non-related party notes

 

 

 

 

Various

 

 

Various

 

 

 

11,691

 

 

Various secured interests

 

Accrued interest

 

 

 

 

 

 

 

 

 

 

 

7,604

 

 

 

 

Total Performing

 

 

 

 

 

 

 

 

 

 

$

128,695

 

 

 

 

                                 

Allowance for estimated losses

 

 

 

 

 

 

 

 

 

 

 

(1,825

)

 

 

 

Total

 

 

 

 

 

 

 

 

 

 

$

126,870

 

 

 

 

 

(1) Related party notes

 

We invest in mortgage loans, secured by mortgages that are subordinate to one or more prior liens either on the fee or a leasehold interest in real estate. Recourse on such loans ordinarily includes the real estate on which the loan is made, other collateral and guarantees.

 

At March 31, 2020, we had mortgage loans and accrued interest receivable from related parties, net of allowances, totaling $60.5 million and recognized interest income of $4.1 million related to these notes receivables. During the quarter just ended, the Company collected $1.2 million and purchased from a related party $7.4 million of notes receivables with an interest rate of 12% and maturity date of March 2023.

 

16

 

 

The Company has various notes receivable from Unified Housing foundation, Inc. (“UHF”). UHF is determined to be a related party due to our significant investment in the performance of the collateral secured under the notes receivable. Payments are due from surplus cash flow from operations, sale or refinancing of the underlying properties. These notes are cross collateralized to the extent that any surplus cash available from any of the properties underlying these notes will be used to repay outstanding interest and principal for the remaining notes. Furthermore, any surplus cash available from any of the properties UHF owns, besides the properties underlying these notes, can be used to repay outstanding interest and principal for these notes. The allowance on the notes was a purchase allowance that was netted against the notes when acquired.

 

NOTE 6.               INVESTMENT IN UNCONSOLIDATED JOINT VENTURES AND INVESTEES

 

Investments in unconsolidated subsidiaries, jointly owned companies and other investees in which we have a 20% to 50% ownership interest or otherwise exercise significant influence are carried at cost, adjusted for the Company’s proportionate share of their undistributed earnings or losses, via the equity method of accounting. ARL is our parent company and is an unconsolidated joint venture.

 

Investments accounted for via the equity method consists of the following, except for VAA which is discussed in Note 2.

 

Our interest in the common stock of ARL in the amount of 0.90% is accounted for under the equity method because we exercise significant influence over the operations and financial activities. Accordingly, the investments are carried at cost, adjusted for the Company’s proportionate share of earnings or losses.

 

The following is a summary of the financial position and results of operations from our unconsolidated parent (dollars in thousands):

 

    For the Period Ended March 31,  
    2020     2019  
ARL        
Real estate, net of accumulated depreciation   $     $ 549  
Notes receivable     31,491       41,992  
Other assets     70,945       65,823  
Notes payable     (8,272 )     (9,444 )
Other liabilities     (27,169 )     (30,902 )
Shareholders’ equity/partners capital     (66,995 )     (68,018 )

 

    For the Three Months Ended March 31,  
    2020     2019  
Rents, interest and other income   $ 1,945     $ 1,654  
Operating expenses     (469 )     (482 )
Interest expense     (1,635 )     (2,009 )
Loss from continuing operations   $ (159 )   $ (837 )
Net loss   $ (159 )   $ (837 )
                 
Company’s proportionate share of loss   $ (1 )   $ (8 )

 

17

 

 

NOTE 7.               NOTES AND INTEREST PAYABLE

 

Below is a summary of our notes and interest payable as of March 31, 2020 and December 31, 2019 (dollars in thousands):

 

    March 31,     December 31,  
    2020     2019  
Apartments   $ 120,370     $ 120,024  
Apartments under Construction     16,710       9,017  
Commercial     92,319       92,838  
Land     13,322       14,806  
Corporate and other notes     16,266       16,430  
Total notes payable   $ 258,987     $ 253,115  
Less: unamortized deferred borrowing costs     (7,189 )     (7,342 )
Total outstanding notes payable, net   $ 251,798     $ 245,773  
Accrued Interest     899       773  
Total notes payable, net and accrued interest   $ 252,697     $ 246,546  

 

During the three months ended March 31, 2020, the Company drew down $4.3 million in construction loans to fund the development of various apartment projects. In addition, TCI through one of its subsidiaries issued a note payable of $3.4 million to purchase land for development in Kent, Ohio. The note has an interest rate of 10% and a maturity date of November 13, 2024.

 

NOTE 8.               BONDS PAYABLE

 

Following is the outstanding balance of SPC’s bonds and interest payable as of March 31, 2020 and December 31, 2019 (dollars in thousands):

 

 

 

March 31,

 

 

December 31,

 

 

 

2020

 

 

2019

 

Bonds (Series A)

 

$

78,541

 

 

$

92,653

 

Bonds (Series B)

 

 

38,626

 

 

 

39,844

 

Bonds (Series B expansion)

 

 

20,281

 

 

 

20,920

 

Bonds (Series C)

 

 

77,139

 

 

 

79,572

 

Total outstanding bonds

 

$

214,587

 

 

$

232,989

 

Less: deferred bond issuance costs

 

 

(8,946

)

 

 

(9,724

)

Total outstanding bonds, net

 

 

205,641

 

 

 

223,265

 

Accrued Interest

 

 

2,191

 

 

 

6,457

 

Total oustanding bonds, net and accrued interest

 

$

207,832

 

 

$

229,722

 

 

The aggregate maturity of the bonds are as follows:

 

 

March 31,

 

 

December 31,

 

Year

 

 

2020

 

 

2019

 

2020

 

$

11,220

 

 

$

23,148

 

2021

 

 

34,222

 

 

 

35,301

 

2022

 

 

34,222

 

 

 

35,301

 

2023

 

 

111,361

 

 

 

114,873

 

2024

 

 

11,781

 

 

 

12,153

 

Thereafter

 

 

11,781

 

 

 

12,213

 

 

 

$

214,587

 

 

$

232,989

 

 

On January 31, 2020, the Company paid $11.6 million in Series A bond principal and $7.3 million in interests payments in Series A, B and C bonds, respectively.

 

18

 

 

NOTE 9.               RELATED PARTY TRANSACTIONS

 

During the ordinary course of business, we have related party transactions that include, but are not limited to, rental income, interest income, interest expense, general and administrative costs, commissions, management fees, and property expenses. In addition, we have assets and liabilities that include related party amounts. The related party amounts included in assets and liabilities, and the related party revenues and expenses received and paid are shown on the face of the Consolidated Financial Statements.

 

The following table provides the reconciliation of the beginning and ending balances of accounts receivable from and (accounts payable) to related parties as of March 31, 2020 (dollars in thousands):

 

 

 

March 31, 2020

 

 

 

 

Pillar

 

 

 

ARL

 

 

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Related party receivable, beginning balance, December 31, 2019

 

$

 

 

$

141,541

 

 

$

141,541

 

Cash transfers

 

 

(1,504

)

 

 

 

 

 

(1,504

)

Advisory fees

 

 

(2,095

)

 

 

 

 

 

(2,095

)

Net income fee

 

 

(86

)

 

 

 

 

 

(86

)

Cost reimbursements

 

 

(1,040

)

 

 

 

 

 

(1,040

)

Interest income

 

 

 

 

 

1,817

 

 

 

1,817

 

Notes receivable purchased

 

 

(7,368

)

 

 

 

 

 

(7,368

)

Expenses (paid)/received by advisor

 

 

(37

)

 

 

 

 

 

(37

)

Financing (mortgage payments)

 

 

(166

)

 

 

 

 

 

(166

)

Intercompany property transfers

 

 

(153

)

 

 

 

 

 

(153

)

Related party receivable, ending balance, March 31, 2020

 

$

(12,449

)

 

$

143,358

 

 

$

130,909

 

 

NOTE 10.             DEFERRED INCOME

 

In previous years, the Company has sold properties to related parties where we have had continuing involvement in the form of management or financial assistance associated with the sale of the properties. Because of the continuing involvement associated with the sale, the sales criteria for the full accrual method is not met, and as such the Company has deferred some or all of the gain recognition and accounted for the sale by applying the finance, deposit, installment or cost recovery methods, as appropriate, until the sales criteria is met. The gain on these transactions have been deferred until the properties are sold to a non-related third party. As of March 31, 2020, we had deferred gain of $9.5 million.

 

NOTE 11.             OPERATING SEGMENTS

 

Our segments are based on our method of internal reporting, which classifies our operations by property type. Our property types are grouped into commercial, apartments, land and other operating segments. Significant differences among the accounting policies of the operating segments as compared to the Consolidated Financial Statements principally involve the calculation and allocation of administrative and other expenses. Management evaluates the performance of each of the operating segments and allocates resources to them based on their net operating income and cash flow.

 

Items of income that are not reflected in the segments are interest, other income, gain on debt extinguishment, gain on condemnation award, equity in partnerships, and gains on sale of real estate. Expenses that are not reflected in the segments are provision for losses, advisory fees, net income and incentive fees, general and administrative, non-controlling interests and net loss from discontinued operations before gains on sale of real estate.

 

The segment labeled as “Other” consists of revenue and operating expenses related to notes receivable and corporate debt.

 

19

 

Presented below is our reportable segments’ operating income for the three months ended March 31, 2020 and 2019, including segment assets and expenditures (dollars in thousands):

 

 

 

Commercial

 

 

 

 

 

 

 

 

 

 

 

 

For the Three Months Ended March 31, 2020

 

Properties

 

 

Apartments

 

 

Land

 

 

Other

 

 

Total

 

Rental and other property revenues

 

$

7,884

 

 

$

4,032

 

 

$

 

 

$

2

 

 

$

11,918

 

Property operating expenses

 

 

(4,108

)

 

 

(1,930

)

 

 

(99

)

 

 

(172

)

 

 

(6,309

)

Depreciation

 

 

(2,522

)

 

 

(872

)

 

 

 

 

 

 

 

 

(3,394

)

Mortgage and loan interest

 

 

(1,371

)

 

 

(1,172

)

 

 

(206

)

 

 

(5,218

)

 

 

(7,967

)

Interest income

 

 

 

 

 

 

 

 

 

 

 

4,527

 

 

 

4,527

 

Gain on land sales

 

 

 

 

 

 

 

 

4,138

 

 

 

 

 

 

4,138

 

Segment operating (loss) income

 

$

(117

)

 

$

58

 

 

$

3,833

 

 

$

(861

)

 

$

2,913

 

Capital expenditures

 

$

709

 

 

$

7,033

 

 

$

2,000

 

 

$

 

 

$

9,742

 

Assets

 

$

148,424

 

 

$

179,484

 

 

$

68,669

 

 

$

 

 

$

396,577

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Property Sales

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Sales price

 

$

 

 

$

 

 

$

5,712

 

 

$

 

 

$

5,712

 

Cost of sale

 

 

 

 

 

 

 

 

(1,574

)

 

 

 

 

 

(1,574

)

Gain on land sales

 

$

 

 

$

 

 

$

4,138

 

 

$

 

 

$

4,138

 

 

 

 

Commercial

 

 

 

 

 

 

 

 

 

 

 

 

 

For the Three Months Ended March 31, 2019

 

Properties

 

 

Apartments

 

 

Land

 

 

Other

 

 

Total

 

Rental and other property revenues

 

$

8,227

 

 

$

3,700

 

 

$

 

 

$

2

 

 

$

11,929

 

Property operating expenses

 

 

(3,936

)

 

 

(2,058

)

 

 

43

 

 

 

(46

)

 

 

(5,997

)

Depreciation

 

 

(2,375

)

 

 

(734

)

 

 

 

 

 

 

 

 

(3,109

)

Mortgage and loan interest

 

 

(1,967

)

 

 

(934

)

 

 

(253

)

 

 

(4,805

)

 

 

(7,959

)

Interest income

 

 

 

 

 

 

 

 

 

 

 

4,558

 

 

 

4,558

 

Gain on land sales

 

 

 

 

 

 

 

 

2,216

 

 

 

 

 

 

2,216

 

Segment operating (loss) income

 

$

(51

)

 

$

(26

)

 

$

2,006

 

 

$

(291

)

 

$

1,638

 

Capital expenditures

 

$

55,612

 

 

$

589

 

 

$

4,081

 

 

$

 

 

$

60,282

 

Assets

 

$

154,780

 

 

$

153,085

 

 

$

82,074

 

 

$

 

 

$

389,939

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Property Sales

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Sales price

 

$

 

 

$

 

 

$

8,715

 

 

$

 

 

$

8,715

 

Cost of sale

 

 

 

 

 

 

 

 

(6,499

)

 

 

 

 

 

(6,499

)

Gain on sale

 

$

 

 

$

 

 

$

2,216

 

 

$

 

 

$

2,216

 

 

The table below provides the reconciliation of segment information to the corresponding amounts in the Consolidated Statements of Operations for the three months ended March 31, 2020 and 2019 (dollars in thousands):

 

 

 

For the Three Months Ended March 31,

 

 

 

2020

 

 

2019

 

Segment operating income

 

$

2,913

 

 

$

1,638

 

Other non-segment items of income (expense)

 

 

 

 

 

 

 

 

General and administrative

 

 

(2,521

)

 

 

(2,203

)

Franchise taxes and other expenses

 

 

(1,494

)

 

 

(125

)

Net income fee to related party

 

 

(86

)

 

 

(100

)

Advisory fee to related party

 

 

(2,095

)

 

 

(1,648

)

Other income

 

 

835

 

 

 

3,892

 

Foreign currency translation gain (loss)

 

 

7,843

 

 

 

(5,818

)

Loss from joint venture

 

 

(376

)

 

 

(1,055

)

Losses from other unconsolidated investees

 

 

(1

)

 

 

(7

)

Net income (loss) from continuing operations

 

$

5,018

 

 

$

(5,426

)

 

The tables below reconcile the segment information to the corresponding amounts in the Consolidated Balance Sheets:

 

 

 

For the Three Months Ended March 31,

 

 

 

2020

 

 

2019

 

Segment assets

 

$

396,577

 

 

$

389,939

 

Investments in unconsolidated subsidiaries and investees

 

 

76,139

 

 

 

90,138

 

Notes and interest receivable

 

 

126,870

 

 

 

82,469

 

Other assets and receivables

 

 

251,203

 

 

 

290,068

 

Total assets

 

$

850,789

 

 

$

852,614

 

 

20

 

 

NOTE 12. COMMITMENTS AND CONTINGENCIES AND LIQUIDITY

 

Liquidity. Management believes that TCI will generate excess cash from property operations in 2020; such excess, however, might not be sufficient to discharge all of TCI’s obligations as they become due. Management intends to sell income-producing assets, refinance real estate and obtain additional borrowings primarily secured by real estate to meet its liquidity requirements.

 

Partnership Buyouts. TCI is the limited partner in various partnerships related the construction of residential properties. As permitted in the respective partnership agreements, TCI intends to purchase the interests of the general and any other limited partners in these partnerships subsequent to the completion of these projects. The amounts paid to buy out the nonaffiliated partners are limited to development fees earned by the non-affiliated partners, and are set forth in the respective partnership agreements.

 

Litigation. The ownership of property and provision of services to the public as tenants entails an inherent risk of liability. Although the Company and its subsidiaries are involved in various items of litigation incidental to and in the ordinary course of its business, in the opinion of management, the outcome of such litigation will not have a material adverse impact upon the Company’s financial condition, results of operation or liquidity.

 

Guarantees. The Company is the primary guarantor, on a $24.3 million mezzanine loan between UHF and a lender. In addition, ARL, and an officer of the Company are limited recourse guarantors of the loan. As of March 31, 2020 UHF was in compliance with the covenants to the loan agreement.

 

ART and ART Midwest, Inc.

 

While the Company and all entities in which the Company has a direct or indirect equity interest are not parties to or obligated in any way for the outcome, a formerly owned entity (American Realty Trust, Inc.) and its former subsidiary (ART Midwest, Inc.) have been engaged since 1999 in litigation with Mr. David Clapper and entities related to Mr. Clapper (collectively, the “Clapper Parties”). The matter originally involved a transaction in 1998 in which ART Midwest, Inc. was to acquire eight residential apartment complexes from the Clapper Parties. Through the years, a number of rulings, both for and against American Realty Trust, Inc. “ART” and ART Midwest, Inc., were issued. In October 2011, a ruling was issued under which the Clapper Parties received a judgment for approximately $74 million, including $26 million in actual damages and $48 million interest. The ruling was against ART and ART Midwest, Inc., but no other entity. During February 2014, the Court of Appeals affirmed a portion of the judgment in favor of the Clapper Parties, but also ruled that a double counting of a significant portion of the damages had occurred and remanded the case back to the trial court to recalculate the damage award, as well as pre- and post-judgment interest thereon. Subsequently, the trial court recalculated the damage award, reducing it to approximately $59 million, inclusive of actual damages and then current interest. ART was also a significant owner of a partnership interest in the partnership that was awarded the initial damages in this matter.

 

The Clapper Parties subsequently filed a new lawsuit against ARI, its subsidiary EQK Holdings, Inc. “EQK”, and ART. The Clapper Parties seek damages from ARL for payment by ART to ARL of ART’s stock in EQK in exchange for a release of the Antecedent Debt owed by ART to ARI. In February 2018 the court determined that this legal matter should not have been filed in federal court and therefore granted motions to dismiss on jurisdictional grounds. In June 2018, the court overruled its own grant of motions to dismiss and reinstated the case. We continue to vigorously defend the case and management believes it has defenses to the claims. The case has not been set for trial.

 

In 2005, ART filed suit against a major national law firm over the initial transaction. That action was initially abated while the principal case with the Clapper Parties was pending, but the abatement was lifted. The trial court subsequently dismissed the case on procedural grounds, but ART filed a notice of appeal. The appeal was heard in February 2018 and the case was subsequently appealed to the the Texas Supreme Court. The Application for Review was denied by the Texas Supreme Court and the denial was appealed by a Motion for Rehearing. The Court denied the Motion for Rehearing in May 2020.

In January 2012, the Company sold all of the issued and outstanding stock of ART to an unrelated party for a promissory note in the amount of $10 million. At December 31, 2012, the Company fully reserved and valued the note at zero.

 

21

 

 

Dynex Capital, Inc.

 

On July 20, 2015, the 68th Judicial District Court in Dallas County, Texas issued its Final Judgment in Cause No. DC-03-00675, styled Basic Capital Management, Inc., American Realty Trust, Inc., Transcontinental Realty Investors, Inc., Continental Poydras Corp., Continental Common, Inc. and Continental Baronne, Inc. v. Dynex Commercial, Inc. The case, which was litigated for more than a decade, had its origin with Dynex Commercial making loans to Continental Poydras Corp., Continental Common, Inc. and Continental Baronne, Inc. (subsidiaries of Continental Mortgage & Equity Trust (“CMET”), an entity which merged into TCI in 1999 after the original suit was filed). Under the original loan commitment, $160 million in loans were to be made to the entities. The loans were conditioned on the execution of a commitment between Dynex Commercial and Basic Capital Management, Inc. (“Basic”).

 

An original trial in 2004, which also included Dynex Capital, Inc. as a defendant, resulted in a jury awarding damages in favor of Basic for “lost opportunity,” as well as damages in favor of ART and in favor of TCI and its subsidiaries for “increased costs” and “lost opportunity.” The original Trial Court judge ignored the jury’s findings, however, and entered a “Judgment Notwithstanding the Verdict” (“JNOV”) in favor of the Dynex entities (the judge held the Plaintiffs were not entitled to any damages from the Dynex entities). After numerous appeals by all parties, Dynex Capital, Inc. was ultimately dismissed from the case and the remaining claims against Dynex Commercial were remanded to the Trial Court for a new judgment consistent with the jury’s findings. The Court entered the new Final Judgment against Dynex Commercial, Inc. on July 20, 2015.

 

The Final Judgment entered against Dynex Commercial, Inc. on July 20, 2015 awarded Basic was $0.256 million in damages, plus pre-judgment interest of $0.192 million for a total amount of $0.448 million. The Judgment awarded ART was $14.2 million in damages, plus pre-judgment interest of $10.6 million for a total amount of $24.8 million. The Judgment awarded TCI was $11.1 million, plus pre-judgment interest of $8.4 million for a total amount of $19.5 million. The Judgment also awarded Basic, ART, and TCI post-judgment interest at the rate of 5% per annum from April 25, 2014 until the date their respective damages were paid. Lastly, the Judgement awarded Basic, ART, and TCI was $1.6 million collectively in attorneys’ fees from Dynex Commercial, Inc.

 

TCI is working with counsel to identify assets and collect on the Final Judgment against Dynex Commercial, Inc., as well as pursue additional claims, if any, against Dynex Capital, Inc. Post judgment interest continues to accrue.

 

Berger Litigation

 

On February 4, 2019, an individual claiming to be a stockholder holding 7,900 shares of Common Stock of Income Opportunity Realty Investors, Inc. (“IOR”) filed a Complaint in the United States District Court for the Northern District of Texas, Dallas Division, individually and allegedly derivatively on behalf of IOR, against Transcontinental Realty Investors, Inc. (“TCI”), American Realty Investors, Inc. (“ARL”), (TCI is a shareholder of IOR, ARL is a shareholder of TCI) Pillar Income Asset Management, Inc. (“Pillar”), ( collectively the “Companies”), certain officers and directors of the Companies (“Additional Parties”) and two other individuals. The Complaint filed alleges that the sale and/or exchange of certain tangible and intangible property between the Companies and IOR during the last ten years of business operations constitutes a breach of fiduciary duty by the one or more of Companies, the Additional Defendants and/or the directors of IOR. The case alleges other related claims. The Plaintiff seeks certification as a representative of IOR and all of its shareholders, unspecified damages, a return to IOR of various funds and an award of costs, expenses, disbursements (including Plaintiff’s attorneys’ fees) and prejudgment and post-judgment interest. The named Defendants intend to vigorously defend the action, deny all of the allegations of the Complaint, and believe the allegations to be wholly without any merit. The Defendants have filed motions to dismiss the case in its entirety in June 2019 which are currently still pending. The named Defendants intend to vigorously defend the action, deny all of the allegations of the Complaint, and believe the allegations to be wholly without any merit. On February 26, 2020, the Court denied IOR’s demand futility motion. The remaining Defendants filed motions to dismiss the case in its entirety in June 2019. The motions were granted in part and denied in part in the first quarter of 2020. Discovery is expected to begin in May of 2020.

 

22

 

 

NOTE 13. EARNINGS PER SHARE

 

Earnings per share (“EPS”) have been computed pursuant to the provisions of ASC 260 “Earnings per Share.” Basic EPS is calculated by dividing income available to common shareholders by the weighted-average number of common shares outstanding during the period. Shares issued during the period shall be weighted for the portion of the period that they were outstanding.

 

Prior to July 9, 2014, TCI had 30,000 shares of Series C cumulative convertible preferred stock issued and outstanding. These 30,000 shares were owned by RAI, a related party, and had accrued dividends unpaid of $0.9 million. The stock had a liquidation preference of $100.00 per share and could be converted into common stock at 90% of the daily average closing price of the common stock for the prior five trading days. On July 9, 2014, RAI converted all 30,000 shares into the requisite number of shares of common stock. The conversion resulted in the issuance of 304,298 new shares of common stock. The effects of the Series C Cumulative Convertible Preferred Stock are no longer included in the dilutive earnings per share calculation for the current period, but are considered in the calculation for the prior periods if applying the if-converted method is dilutive.

 

As of March 31, 2020, there are no preferred stock or stock options that are required to be included in the calculation of EPS.

 

NOTE 14. SUBSEQUENT EVENTS

 

During 2020, a strain of coronavirus (“COVID – 19”) was reported worldwide, resulting in decreased economic activity and concerns about the pandemic, which would adversely affect the broader global economy. The Company is taking all necessary steps to keep our business premises, tenants, vendors and employees in a safe environment and are constantly monitoring the impact of COVID – 19.

 

As a result of the impact of COVID-19 on global financial markets, we have experienced volatility in foreign currency exchange rates. Extreme market volatility and disruption caused by COVID-19 may impact Company’s ability to raise additional capital through debt financing activities, our ability to repay or refinance maturing liabilities, or impact the terms of any new obligations, which in turn may have an adverse impact on our credit ratings. As we have no near term debt maturities we believe there is currently no adverse impact on the Company financing activities and credit ratings. The extent to which COVID-19 will impact our business and financial results will depend on future developments, which are highly uncertain and cannot be predicted at this time due to the rapid evolution of this uncertain situation.

 

The date to which events occurring after March 31, 2020, the date of the most recent balance sheet, have been evaluated for possible adjustment to the Consolidated Financial Statements or disclosure is May 15, 2020, which is the date on which the Consolidated Financial Statements were available to be issued.

 

23

 

 

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

The following discussion and analysis by management should be read in conjunction with the unaudited Condensed Consolidated Financial Statements and Notes included in this Quarterly Report on Form 10-Q (the “Quarterly Report”) and in the Company’s Form 10-K for the year ended December 31, 2019 (the “Annual Report”).

 

This Report on Form 10-Q contains forward-looking statements within the meaning of the federal securities laws, principally, but not only, under the captions “Business”, “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations”. We caution investors that any forward-looking statements in this report, or which management may make orally or in writing from time to time, are based on management’s beliefs and on assumptions made by, and information currently available to, management. When used, the words “anticipate”, “believe”, “expect”, “intend”, “may”, “might”, “plan”, “estimate”, “project”, “should”, “will”, “result” and similar expressions which do not relate solely to historical matters are intended to identify forward-looking statements. These statements are subject to risks, uncertainties, and assumptions and are not guarantees of future performance, which may be affected by known and unknown risks, trends, uncertainties and factors that are beyond our control. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results may vary materially from those anticipated, estimated or projected. We caution you that, while forward-looking statements reflect our good faith beliefs when we make them, they are not guarantees of future performance and are impacted by actual events when they occur after we make such statements. We expressly disclaim any responsibility to update our forward-looking statements, whether as a result of new information, future events or otherwise. Accordingly, investors should use caution in relying on past forward-looking statements, which are based on results and trends at the time they are made, to anticipate future results or trends.

 

Some of the risks and uncertainties that may cause our actual results, performance or achievements to differ materially from those expressed or implied by forward-looking statements include, among others, the following:

 

 

general risks affecting the real estate industry (including, without limitation, the inability to enter into or renew leases, dependence on tenants’ financial condition, and competition from other developers, owners and operators of real estate);

 

 

risks associated with the availability and terms of construction and mortgage financing and the use of debt to fund acquisitions and developments;

 

 

demand for apartments and commercial properties in the Company’s markets and the effect on occupancy and rental rates;

 

 

the Company’s ability to obtain financing, enter into joint venture arrangements in relation to or self-fund the development or acquisition of properties;

 

 

risks associated with the timing and amount of property sales and the resulting gains/losses associated with such sales;

 

 

failure to manage effectively our growth and expansion into new markets or to integrate acquisitions successfully;

 

 

risks and uncertainties affecting property development and construction (including, without limitation, construction delays, cost overruns, inability to obtain necessary permits and public opposition to such activities);

 

 

risks associated with downturns in the national and local economies, increases in interest rates, and volatility in the securities markets;

 

 

costs of compliance with the Americans with Disabilities Act and other similar laws and regulations;

 

 

potential liability for uninsured losses and environmental contamination;

 

 

risks associated with our dependence on key personnel whose continued service is not guaranteed; and

 

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the other risk factors identified in this Form 10-Q, including those described under the caption “Risk Factors.”

 

The risks included here are not exhaustive. Some of the risks and uncertainties that may cause our actual results, performance, or achievements to differ materially from those expressed or implied by forward-looking statements, include among others, the factors listed and described at Part I, Item 1A. “Risk Factors” in the Company’s Annual Report on Form 10-K, which investors should review.

 

As further set forth under the caption “Risk Factors” in Par I, Item 1A of the Form 10-K, the recent coronavirus (“COVID-19”) pandemic as well as the response to mitigate its spread and effect, may adversely impact our Company and our tenants. We have taken a variety of actions to ensure the continued operations of our properties, while ensuring the safety and security of our employee, tenants and vendors. These measures include providing support for our tenants remotely, restricted commercial building use to essential personnel only, requiring work-from-home arrangements and other modifications to our business practices. We will continue to actively monitor the situation and make further actions as may be required by governmental authorities or that we determine are in the best interest of our employees, tenants and business partners.

 

As a result of the impact of COVID-19 on global financial markets, we have experienced volatility in foreign currency exchange rates. Extreme market volatility and disruption caused by COVID-19 may impact Company’s ability to raise additional capital through debt financing activities, our ability to repay or refinance maturing liabilities, or impact the terms of any new obligations, which in turn may have an adverse impact on our credit ratings.  As we have no near term debt maturities we believe there is currently no adverse impact on the Company financing activities and credit ratings.

 

Additionally, the impact of COVID-19 on our operational results in subsequent periods will largely depend on future developments, which are highly uncertain and cannot be accurately predicted at this time. These developments may include, but are not limited to, new information concerning the severity of COVID-19, the degree of success of actions taken to contain or treat COVID-19 and the reactions by consumers, companies, governmental entities and financial institutions to such actions.

 

Other sections of this report may also include suggested factors that could adversely affect our business and financial performance. Moreover, we operate in a very competitive and rapidly changing environment. New risks emerge from time-to-time and it is not possible for management to predict all such matters; nor can we assess the impact of all such matters on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements. Given these risks and uncertainties, investors should not place undue reliance on forward-looking statements as prediction of actual results. Investors should also refer to our quarterly reports on Form 10-Q for future periods and to other materials we may furnish to the public from time to time through Forms 8-K or otherwise as we file them with the SEC.

 

Overview

 

We are an externally advised and managed real estate investment company that owns a diverse portfolio of income-producing properties and land held for development. Our portfolio of income-producing properties includes residential apartment communities, office buildings and other commercial properties. Our investment strategy includes acquiring existing income-producing properties, as well as developing new properties on land already owned or acquired for a specific development project.

 

We acquire land primarily in urban in-fill locations or high-growth suburban markets. We are an active buyer and seller of real estate.

 

During the three months ended March 31, 2020, we sold 18.7 acres of land to third parties in Farmers Branch, Texas and Forney, Texas for an aggregate sales price of $5.7 million and recognized a gain on the sale of $4.1 million. Also, acquired 100% of the membership interest in EQK Portage, LLC, which owns approximately 49.2 acres of land in Kent, OH. We purchased the land for development at a total purchase price of $5.4 million, consisting of $2.0 million in cash and a 3.4 million note payable. The note has an interest rate of 10% and a maturity date of November 13, 2024.

 

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In addition, we purchased notes receivables from related parties for an aggregate purchase price of $7.4 million. No gain or loss was recognized from the purchase of the notes receivables (refer to Note 5).

 

As of March 31, 2020, we owned 1,657 units in ten residential apartment communities, and seven commercial properties comprising of approximately 1.7 million rentable square feet.  In addition, we own approximately 1,982 acres of land held for development. The Company currently owns income-producing properties and land in eight states.

 

We finance our acquisitions primarily through operating cash flow, proceeds from the sale of land and income-producing properties and debt financing primarily in the form of property-specific first-lien mortgage loans from commercial banks and institutional lenders. We finance our development projects principally with variable interest rate construction loans that are converted to long-term, fixed rate amortizing mortgages when the development project is completed and occupancy has been stabilized. We will, from time to time, also enter into partnerships with various investors to acquire income-producing properties or land and to sell interests in certain of our wholly-owned properties. When we sell assets, we may carry a portion of the sales price generally in the form of a short-term, interest bearing seller-financed note receivable. We generate operating revenues primarily by leasing apartment units to residents and leasing office, retail and industrial space to commercial tenants. We have no employees.

 

We have historically engaged in and may continue to engage in certain business transactions with related parties, including, but not limited to, asset acquisition and dispositions. Transactions involving related parties cannot be presumed to be carried out on an arm’s length basis due to the absence of free market forces that naturally exist in business dealings between two or more unrelated entities. Related party transactions may not always be favorable to our business and may include terms, conditions and agreements that are not necessarily beneficial to or in our best interest.

 

Pillar Income Asset Management, Inc. (“Pillar”) is the Company’s external Advisor and Cash Manager. Although the Board of Directors is directly responsible for managing the affairs of TCI, and for setting the policies which guide it, the day-to-day operations of TCI are performed by Pillar, as the contractual Advisor, under the supervision of the Board. Pillar’s duties include, but are not limited to, locating, evaluating and recommending real estate and real estate-related investment opportunities and arranging debt and equity financing for the Company with third party lenders and investors. Additionally, Pillar serves as a consultant to the Board with regard to their decisions in connection with TCI’s business plan and investment policy. Pillar also serves as an Advisor and Cash Manager to ARL and IOR.

 

Regis Realty Prime, LLC (“Regis”) manages our commercial properties and provides brokerage services for our real estate portfolio. TCI engages third-party companies to lease and manage its apartment properties.

 

Critical Accounting Policies

 

We present our Consolidated Financial Statements in accordance with generally accepted accounting principles in the United States of America (“U.S. GAAP”). The FASB Accounting Standards Codification (“ASC”) is the single source of authoritative accounting principles recognized by the FASB to be applied by nongovernmental entities in the preparation of financial statements in conformity with U.S. GAAP.

 

The accompanying Consolidated Financial Statements include our accounts, our subsidiaries, generally all of which are wholly-owned, and all entities in which we have a controlling interest. Arrangements that are not controlled through voting or similar rights are accounted for as a Variable Interest Entity (“VIE”), in accordance with the provisions and guidance of ASC Topic 810 “Consolidation”, whereby we have determined that we are a primary beneficiary of the VIE and meet certain criteria of a sole general partner or managing member as identified in accordance with Emerging Issues Task Force (“EITF”) Issue 04-5, Investor’s Accounting for an Investment in a Limited Partnership when the Investor is the Sole General Partner and the Limited Partners have Certain Rights (“EITF 04-5”). VIEs are generally entities that lack sufficient equity to finance their activities without additional financial support from other parties or whose equity holders as a group lack adequate decision making ability, the obligation to absorb expected losses or residual returns of the entity, or have voting rights that are not proportional to their economic interests. The primary beneficiary generally is the entity that provides financial support and bears a majority of the financial risks, authorizes certain capital transactions, or makes operating decisions that materially affect the entity’s financial results. All significant intercompany balances and transactions have been eliminated in consolidation.

 

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In determining whether we are the primary beneficiary of a VIE, we consider qualitative and quantitative factors, including, but not limited to: the amount and characteristics of our investment; the obligation or likelihood for us or other investors to provide financial support; our and the other investors’ ability to control or significantly influence key decisions for the VIE; and the similarity with and significance to the business activities of us and the other investors. Significant judgments related to these determinations include estimates about the current future fair values and performance of real estate held by these VIEs and general market conditions.

 

For entities in which we have less than a controlling financial interest or entities where we are not deemed to be the primary beneficiary, the entities are accounted for using the equity method of accounting. Accordingly, our share of the net earnings or losses of these entities are included in consolidated net income. Our investment in ARL and VAA is accounted for under the equity method.

 

Real Estate

 

Upon acquisitions of real estate, we assess the fair value of acquired tangible and intangible assets, including land, buildings, tenant improvements, “above-market” and “below-market” leases, origination costs, acquired in-place leases, other identified intangible assets and assumed liabilities in accordance with ASC Topic 805 “Business Combinations”, and allocate the purchase price to the acquired assets and assumed liabilities, including land at appraised value and buildings at replacement cost.

 

We assess and consider fair value based on estimated cash flow projections that utilize appropriate discount and/or capitalization rates, as well as available market information. Estimates of future cash flows are based on a number of factors, including the historical operating results, known and anticipated trends, and market and economic conditions. The fair value of the tangible assets of an acquired property considers the value of the property as if it were vacant. We also consider an allocation of purchase price of other acquired intangibles, including acquired in-place leases that may have a customer relationship intangible value, including (but not limited to) the nature and extent of the existing relationship with the tenants, the tenants’ credit quality and expectations of lease renewals. Based on our acquisitions to date, our allocation to customer relationship intangible assets has been immaterial.

 

A variety of costs are incurred in the acquisition, development and leasing of properties. After determination is made to capitalize a cost, it is allocated to the specific component of a project that is benefited. Determination of when a development project is substantially complete and capitalization must cease involves a degree of judgment. Our capitalization policy on development properties is guided by ASC Topic 835-20 “Interest – Capitalization of Interest” and ASC Topic 970 “Real Estate - General”. The costs of land and buildings under development include specifically identifiable costs. The capitalized costs include pre-construction costs essential to the development of the property, development costs, construction costs, interest costs, real estate taxes, salaries and related costs and other costs incurred during the period of development. We cease capitalization when a building is considered substantially complete and ready for its intended use, but no later than one year from the cessation of major construction activity.

 

Depreciation and Impairment

 

Real estate is stated at depreciated cost. The cost of buildings and improvements includes the purchase price of property, legal fees and other acquisition costs. Costs directly related to the development of properties are capitalized. Capitalized development costs include interest, property taxes, insurance, and other project costs incurred during the period of development.

 

Management reviews its long-lived assets used in operations for impairment when there is an event or change in circumstances that indicates impairment in value. An impairment loss is recognized if the carrying amount of its assets is not recoverable and exceeds its fair value. If such impairment is present, an impairment loss is recognized based on the excess of the carrying amount of the asset over its fair value. The evaluation of anticipated cash flows is highly subjective and is based in part on assumptions regarding future occupancy, rental rates and capital requirements that could differ materially from actual results in future periods.

 

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Investments in Unconsolidated Real Estate Ventures

 

Except for ownership interests in variable interest entities, we account for our investments in unconsolidated real estate ventures under the equity method of accounting because we exercise significant influence over, but do not control, these entities. These investments are recorded initially at cost, as investments in unconsolidated real estate ventures, and subsequently adjusted for equity in earnings and cash contributions and distributions. Any difference between the carrying amount of these investments on our balance sheet and the underlying equity in net assets is amortized as an adjustment to equity in earnings of unconsolidated real estate ventures over the life of the related asset. Under the equity method of accounting, our net equity is reflected within the Consolidated Balance Sheets, and our share of net income or loss from the joint ventures is included within the Consolidated Statements of Operations. The joint venture agreements may designate different percentage allocations among investors for profits and losses; however, our recognition of joint venture income or loss generally follows the joint venture’s distribution priorities, which may change upon the achievement of certain investment return thresholds. For ownership interests in variable interest entities, we consolidate those in which we are the primary beneficiary.

 

Recognition of Rental Income

 

Rental income for commercial property leases is recognized on a straight-line basis over the respective lease terms. On our Consolidated Balance Sheets, we include as a receivable the excess of rental income recognized over rental payments actually received pursuant to the terms of the individual commercial lease agreements.

 

Reimbursements of operating costs, as allowed under most of our commercial tenant leases, consist of amounts due from tenants for common area maintenance, real estate taxes and other recoverable costs, and are recognized as revenue in the period in which the recoverable expenses are incurred. We record these reimbursements on a “gross” basis, since we generally are the primary obligor with respect to purchasing goods and services from third-party suppliers, have discretion in selecting the supplier and have the credit risk with respect to paying the supplier.

 

Rental income for residential property leases is recorded when due from residents and is recognized monthly as earned, which is not materially different than on a straight-line basis as lease terms are generally for periods of one year or less. An allowance for doubtful accounts is recorded for all past due rents and operating expense reimbursements considered to be uncollectible.

 

The Company owns and operates multifamily apartment communities that generate rental and other property related income through the leasing of apartments to tenants. As of March 31, 2020, our apartment leases generally have initial terms of 12 months or less and the rental revenue is recognized on an accrual basis when due from tenants in accordance with ASC 842, Leases. These leases are generally renewable at the end of the lease term subject to potential increases in rental rates. Collection of the rental payments is determined to be probable at lease commencement, so the payments are generally due and collected on a monthly basis and recognized monthly as earned, which is not materially different than on a straight-line basis, as lease terms are normally for periods of one year or less. In addition, in circumstances where a lease incentive is provided to tenants, the incentive is recognized as a reduction of lease revenue on a monthly basis consistent with rental payment revenue recognition. Lease revenue also includes all pass-through revenue from leases and common area maintenance reimbursements. These services represent non-lease components in a contract as the Company transfers a service to the lessee other than the right to use the underlying asset. The Company has elected the practical expedient under the leasing standard to not separate lease and non-lease components as the timing and pattern of revenue recognition for the non-lease component and related lease component are the same and the combined single lease component would be classified as an operating lease.

 

 

Revenue Recognition on the Sale of Real Estate

 

Sales and the associated gains or losses of real estate are recognized in accordance with the provisions of ASC Topic 360-20, “Property, Plant and Equipment – Real Estate Sale”. The specific timing of a sale is measured against various criteria in ASC 360-20 related to the terms of the transaction and any continuing involvement in the form of management or financial assistance associated with the properties. If the sales criteria for the full accrual method are not met, we defer some or all of the gain recognition and account for the continued operations of the property by applying the finance, leasing, deposit, installment or cost recovery methods, as appropriate, until the sales criteria are met.

 

Non-Performing Notes Receivable

 

We consider a note receivable to be non-performing when the maturity date has passed without principal repayment and the borrower is not making interest payments in accordance with the terms of the agreement.

 

Interest Recognition on Notes Receivable

 

We record interest income as earned in accordance with the terms of the related loan agreements.

 

Allowance for Estimated Losses

 

We assess the collectability of notes receivable on a periodic basis, of which the assessment consists primarily of an evaluation of cash flow projections of the borrower to determine whether estimated cash flows are sufficient to repay principal and interest in accordance with the contractual terms of the note. We recognize impairments on notes receivable when it is probable that principal and interest will not be received in accordance with the contractual terms of the loan. The amount of the impairment to be recognized generally is based on the fair value of the partnership’s real estate that represents the primary source of loan repayment. See Note 4 “Notes and Interest Receivable” for details on our notes receivable.

 

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Fair Value of Financial Instruments

 

We apply the guidance in ASC Topic 820, “Fair Value Measurements and Disclosures”, to the valuation of real estate assets. These provisions define fair value as the price that would be received to sell an asset or paid to transfer a liability in a transaction between market participants at the measurement date, establish a hierarchy that prioritizes the information used in developing fair value estimates and require disclosure of fair value measurements by level within the fair value hierarchy. The hierarchy gives the highest priority to quoted prices in active markets (Level 1 measurements) and the lowest priority to unobservable data (Level 3 measurements), such as the reporting entity’s own data.

 

The valuation hierarchy is based upon the transparency of inputs to the valuation of an asset or liability as of the measurement date and includes three levels defined as follows:

 

Level 1 –

Unadjusted quoted prices for identical and unrestricted assets or liabilities in active markets.

 

 

Level 2 –

Quoted prices for similar assets and liabilities in active markets, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument.

 

 

Level 3 –

Unobservable inputs that are significant to the fair value measurement.

 

A financial instrument’s categorization within the valuation hierarchy is based upon the lowest level of input that is significant to the fair value measurement.

 

Related Parties

 

We apply ASC Topic 805, “Business Combinations”, to evaluate business relationships. Related parties are persons or entities who have one or more of the following characteristics, which include entities for which investments in their equity securities would be required, trust for the benefit of persons including principal owners of the entities and members of their immediate families, management personnel of the entity and members of their immediate families and other parties with which the entity may deal if one party controls or can significantly influence the decision making of the other to an extent that one of the transacting parties might be prevented from fully pursuing its own separate interests, or affiliates of the entity.

 

Results of Operations

 

The following discussion and analysis is based on our Consolidated Statements of Operations for the three months ended March 31, 2020 and 2019, as included in Part I, Item 1. “Financial Statements” of this report. At March 31, 2020 and 2019, we owned or had interests in a portfolio of ten and nine income-producing properties, respectively.

 

Comparison of the three months ended March 31, 2020 to the same period ended 2019:

 

For the three months ended March 31, 2020, we reported a net income applicable to common shares of $4.6 million or $0.53 per diluted share, compared to a net loss applicable to common shares of $5.6 million or $0.64 per diluted share for the same period in 2019.

 

Revenues

 

Rental and other property revenues were $11.9 million for the three months ended March 31, 2020, and 2019. For the quarter ended March 31, 2020, the Company generated revenues of $7.9 million and $4.0 million from its commercial and residential segments, respectively.

 

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Expenses

 

Property operating expenses increased by $0.3 million to $6.3 million for the three months ended March 31, 2020 as compared to $6.0 million for the same period in 2019. The increase in property operating expenses is due to an increase in real estate taxes of approximately $0.5 million offset by an overall decrease in general property operating and maintenance expenses of $0.2 million.

 

Depreciation and amortization increased by $0.30 million to $3.4 million during the three months ended March 31, 2020 as compared to $3.1 million for the three months ended March 31, 2019. The increase in depreciation is due to an increase in our ownership of residential apartments to ten from nine for the same period a year ago which resulted in an increase in depreciation of $0.9 million from $0.7 million a year ago.

 

General and administrative expense was $2.5 million for the three months ended March 31, 2020, compared to $2.2 million for the same period in 2019. The increase of $0.3 million in general and administrative expenses was primarily due to increases professional fees of $0.1 million and legal fees of $0.2 million.

 

Franchise taxes and other expenses was $1.5 million for the three months ended March 31, 2020, compared to $0.125 million for the same period in 2019. The increase of $1.4 million in franchise taxes and other expenses was primarily due to increases in franchise taxes of $1.0 million.

 

Other income (expense)

 

Interest income was $4.5 million for the three months ended March 31, 2020, compared to $4.6 million for the same period in 2019. The decrease of $0.1 million was due to decrease in interest of $0.1 on notes receivable from other related parties.

 

Other income decreased by $3.1 million to $0.84 million for the three months ended March 31, 2020, compared to $3.9 million for the same period in 2019. For the quarter just ended March 31, 2020, the Company received property tax refunds of approximately $0.2 million, and recorded miscellaneous income of $0.6 million. For the same period a year ago, the Company recognized $3.6 million gain associated with the sale of land held by IOR to third parties.

 

Mortgage and loan interest expense was $7.9 million for the three months ended March 31, 2020, and 2019.

 

Foreign currency transaction was a gain of $7.8 million for the three months ended March 31,