The following discussion and analysis should be read in conjunction with the accompanying consolidated financial statements and the notes thereto.
Executive Overview
We were formed primarily to acquire and operate commercial real estate and real estate-related assets on an opportunistic and value-add basis. In particular, we have focused generally on acquiring commercial properties with significant possibilities for capital appreciation, such as those requiring development, redevelopment or repositioning, those located in markets and submarkets with high growth potential, and those available from sellerswho were distressed or faced time-sensitive deadlines. In addition, our opportunistic and value-add investment strategy has included investments in real estate-related assets that present opportunities for higher current income. Since inception, we have acquired a wide variety of commercial properties, including office, industrial, retail, hospitality, and multifamily. We have purchased existing, income-producing properties and newly constructed properties. We have also invested in mortgage and mezzanine loans. We have made our investments in or in respect of real estate assets located inthe United States and other countries based on our view of existing market conditions. As ofDecember 31, 2021 , our investments included multi-family apartment complexes and a note receivable. All of our current investments are located inthe United States . We currently intend to hold our various real properties until such time as our board of directors determines that a sale or other disposition appears to be advantageous to achieve our investment objectives or until it appears that the objectives will not be met. Current Environment Our operating results are substantially impacted by the overall health of local,U.S. national and global economies and may be influenced by market and other challenges. Additionally, our business and financial performance may be adversely affected by current and future economic and other conditions; including, but not limited to, availability or terms of financings, financial markets volatility, political upheaval or uncertainty, natural and man-made disasters, terrorism and acts of war, unfavorable changes in laws and regulations, outbreaks of contagious diseases, cybercrime, loss of key relationships, and recession.
COVID-19 Pandemic
TheWorld Health Organization declared COVID-19 a global pandemic onMarch 11, 2020 and since that time many of the previously imposed restrictions and other measures which were instituted in response have been subsequently reduced or lifted. However, the continuing COVID-19 pandemic remains highly unpredictable and dynamic and its ultimate duration and extent continue to be dependent on various developments, such as the emergence of variants to the virus that may cause additional strains of COVID-19, the ongoing administration and ultimate effectiveness of vaccines, including booster shots, and the eventual timeline to achieve a sufficient level of herd immunity among the general population. Accordingly, the ongoing COVID-19 pandemic may have negative effects on the health of theU.S. economy for the foreseeable future. As ofDecember 31, 2021 , our consolidated portfolio of properties consisted of eight wholly owned multi-family apartment complexes. Our multi-family properties have not been significantly impacted by the COVID-19 pandemic and their occupancy levels, rental rates and rental collection have remained stable. Additionally, our note receivable is collateralized by a condominium development project located in New Yok City (the "Condominium Project "), which has been subject to similar restrictions and risks. To date, both theCondominium Project and our note receivable have not been significantly impacted by the COVID-19 pandemic. We continue to closely monitor the overall extent as to which our business may be affected by the ongoing COVID-19 pandemic which will largely depend on both current and future developments, all of which are highly uncertain and cannot be reasonably predicted. If our properties and real estate-related investments are negatively impacted in future periods for an extended period because (i) tenants are unable to pay their rent, (ii) leasing demand falls causing declines in occupancy levels and/or rental rates, and (iii) our borrower is unable to pay scheduled debt service on the outstanding note receivable; our business and financial results could be materially and adversely impacted. 15
Liquidity and Capital Resources
We had cash and cash equivalents of$24.4 million , marketable securities, available for sale of$3.6 million and restricted cash of$20.9 million as ofDecember 31, 2021 . Our principal demands for funds going forward are expected to be for the payment of (a) operating expenses, including capital expenditures, and (b) scheduled debt service on our outstanding indebtedness. We also may, at our discretion, use funds for (a) tender offers and/or redemptions of shares of our common stock, (b) distributions, if any, to our shareholders, and (c) selective acquisitions and/or real estate-related investments. Generally, we expect to meet our cash needs with our cash and cash equivalents on hand along with our cash flow from operations, the release of certain funds held in restricted cash, the remaining availability on certain of our mortgage loans and the repayment of our outstanding note receivable. However, to the extent that these sources are not sufficient to cover our cash needs, we may also use proceeds from additional borrowings and/or selective asset sales to fund such needs. We have borrowed money to acquire properties and make other investments. Under our charter, the maximum amount of our indebtedness is limited to 300% of our "net assets" (as defined by our charter) as of the date of any borrowing; however, we may exceed that limit if approved by a majority of our independent directors. In addition to our charter limitation, our board of directors has adopted a policy to generally limit our aggregate borrowings to 75% of the aggregate value of our assets unless substantial justification exists that borrowing a greater amount is in our best interests. Our policy limitation, however, does not apply to individual real estate assets.
Acquisition and Disposition Activities
Year Ended
Disposition of the Lakes of
OnMarch 17, 2021 , we completed the disposition of a 280-unit multifamily property located inMargate, Florida (the "Lakes ofMargate ") for a contractual sales price of$50.8 million to an unrelated third party (the "Lakes ofMargate Buyer"). At closing, the Lakes of Margate Buyer paid$15.1 million and assumed the existing mortgage loan secured by the Lakes ofMargate with an outstanding principal balance of$35.7 million (see "Debt Financings - Lakes ofMargate Loan"). Additionally, onMarch 17, 2021 , we paid approximately$1.1 million for the 7.5% membership interest held in the Lakes ofMargate by a minority owner and as a result, at the time of the completion of the sale of the Lakes ofMargate it was wholly owned by us. In connection with the disposition of the Lakes ofMargate , we recognized a gain on the sale of investment property of$27.8 million during the first quarter of 2021.
Acquisition of the
OnJuly 7, 2021 , we completed the acquisition of a 368-unit multifamily property located inTampa, Florida (the "BayVue Apartments ") from an unrelated third party, for a contractual purchase price of$59.5 million , excluding closing and other related transaction costs. The acquisition was funded with$44.3 million of initial proceeds from a mortgage financing (see "Debt Financings - BayVue Apartments Mortgage") and$15.2 million of cash on hand, including escrowed funds released by a qualified intermediary. In connection with the acquisition, we paid the Advisor an aggregate of$1.0 million in acquisition fees and acquisition expense reimbursements.
Acquisition of the
OnOctober 6, 2021 , we acquired a 293-unit multifamily property located inHouston, Texas (the "Citadel Apartments "), from an unrelated third party, for a contractual purchase price of$66.0 million , excluding closing and other acquisition related costs. The acquisition was funded with$38.0 million of initial proceeds from mortgage financings (see "Debt Financings -Citadel Apartments Mortgages") and$28.0 million of cash on hand. In connection with the acquisition, we paid the Advisor an aggregate of$1.2 million in acquisition fees and acquisition expense reimbursements.
Disposition of the
OnDecember 22, 2021 , we completed the disposition of theRiver Club Apartments and the Townhomes atRiver Club , two student housing complexes with a total of 1,134 beds (collectively, the "River Club Properties ") located inAthens, Georgia , for a contractual sales price of$77.3 million to an unrelated third party. In connection with the transaction, we repaid in full the existing outstanding mortgage indebtedness of$30.4 million secured by theRiver Club Properties . Additionally, onDecember 20, 2021 , we paid approximately$10.2 million for the 15.0% membership interest held in theRiver Club Properties by a minority owner and as a result, at the time of the completion of the sale of theRiver Club Properties it was wholly owned by us. In connection with the disposition of theRiver Club Properties , we recognized a gain on the sale of investment property of$55.0 million during the fourth quarter of 2021.
Acquisition of Noncontrolling Interest in Parkside
On
16
Year Ended
Acquisition of
OnMarch 17, 2020 , we completed the acquisition of a 280-unit multifamily property located inNoblesville, Indiana (the "Autumn Breeze Apartments ") from an unrelated third party for a contractual purchase price of$43.0 million , excluding closing and other related transaction costs. The acquisition was initially funded with cash on hand and we subsequently obtained mortgage financing (see "Debt Financings. - Autumn Breeze Apartments Loan"). In connection with the acquisition, we paid the Advisor$0.8 million in acquisition fees and acquisition expense reimbursements.
Disposition of
OnJanuary 15, 2020 , we and our noncontrolling member completed the disposition of theGardens Medical Pavilion located inPalm Beach Gardens, Florida for a contractual sales price of$24.3 million to an unrelated third-party. In connection with the transaction, we repaid in full the existing mortgage indebtedness of$12.6 million and$1.8 million of the proceeds were distributed to the noncontrolling member. In connection with the disposition of theGardens Medical Pavilion , we recognized a gain on the sale of investment property of$5.5 million during the first quarter of 2020.
Debt Financings
From time to time, we have obtained mortgage, bridge, or mezzanine loans for acquisitions and investments, as well as property development, redevelopment and renovations. In the future, we may obtain new financings for such activities or to refinance our existing real estate assets, depending on multiple factors. Our aggregate notes payable balance was$277.5 million , net of deferred financing fees of$4.8 million , and had a weighted average interest rate of 3.79% as ofDecember 31, 2021 . Excluding the Lakes of Margate Loan (which was included in liabilities held for sale on the consolidated balance sheet as ofDecember 31, 2020 and subsequently assumed by the Lakes of Margate Buyer onMarch 17, 2021 ), our aggregate notes payable balance was$213.0 million , net of deferred financing fees of$3.4 million , and had a weighted average interest rate of 3.71% as ofDecember 31, 2020 .
Year Ended
BayVue Apartments Mortgage
OnJuly 7, 2021 , we entered into a non-recourse mortgage loan facility for up to$52.2 million (the "BayVue Apartments Mortgage") scheduled to initially mature onJuly 9, 2024 , with two, one-year extension options, subject to the satisfaction of certain conditions. At closing$44.3 million was initially funded under the BayVue Apartments Mortgage. The BayVue Apartments Mortgage requires monthly interest-only payments through its maturity date and bears interest at London Interbank Offered Rate ("LIBOR")+3.10% subject to a 3.10% floor. The BayVue Apartments Mortgage is collateralized by theBayVue Apartments . In connection with the BayVue Apartments Mortgage, we paid the Advisor$0.3 million in debt financing fees. As ofDecember 31, 2021 , the outstanding principal balance and remaining availability under the BayVue Apartments Mortgage was$44.4 million and$7.8 million , respectively. The remaining availability may be drawn for certain capital improvements to the property pursuant to the terms of the loan agreement
Flats at Fisher Supplemental Mortgage
OnAugust 16, 2021 , we entered into a non-recourse subordinated mortgage loan for$9.2 million (the "Flats at Fisher Supplemental Mortgage") scheduled to mature onJuly 1, 2026 . The Flats at Fisher Supplemental Mortgage requires monthly payments of interest and principal of$43,083 through its maturity date and bears interest at 3.85%. The Flats at Fisher Supplemental Mortgage is collateralized with a subordinated mortgage interest in the Flats at Fisher. In connection with the Flats at Fisher Supplemental Mortgage, we paid the Advisor$0.1 million in debt financing fees. 17
Arbors Harbor Town Supplemental Mortgage
OnSeptember 30, 2021 , we entered into a non-recourse subordinated mortgage loan for$5.9 million (the "Arbors Harbor Town Supplemental Mortgage") scheduled to mature onJanuary 1, 2026 . The Arbors Harbor Town Supplemental Mortgage requires monthly payments of interest and principal of$26,379 through its maturity date and bears interest at 3.52%. The Arbors Harbor Town Supplemental Mortgage is collateralized with a subordinated mortgage interest in theArbors Harbor Town . In connection with the Arbors Harbor Town Supplemental Mortgage, we paid the Advisor$0.1 million in debt financing fees.
Citadel Apartments Mortgages
OnOctober 6, 2021 , we entered into a non-recourse mortgage loan facility for up to$39.2 million (the "Citadel Apartments Senior Mortgage"). At closing,$30.4 million of proceeds were initially advanced under theCitadel Apartments Senior Mortgage.The Citadel Apartments Senior Mortgage requires monthly interest-only payments through its maturity date and bears interest at LIBOR+1.50% subject to a 1.60% floor. Simultaneously, onOctober 6, 2021 , we also entered into a non-recourse mortgage loan facility for$9.8 million (the "Citadel Apartments Junior Mortgage" and together with theCitadel Apartments Senior Mortgage, the "Citadel Apartments Mortgages"). At closing,$7.6 million of proceeds were initially advanced under the Citadel Apartments Junior Mortgage.The Citadel Apartments Junior Mortgage requires monthly interest-only payments through its maturity date and bears interest at LIBOR+8.75%, subject to a 8.85% floor. The Citadel Apartments Mortgages initially mature onOctober 11, 2024 , with two one-year extension options, subject to the satisfaction of certain conditions, and are collateralized by theCitadel Apartments while theCitadel Apartments Junior Mortgage is subordinate to theCitadel Apartments Senior Mortgage. In connection with the acquisition of theCitadel Apartments , an aggregate$38.0 million was initially funded under the Citadel Apartments Mortgages and we paid the balance of the purchase price of$28.0 million with cash. In connection with the Citadel Apartments Mortgages, we paid the Advisor an aggregate of$0.5 million in debt financing fees. As ofDecember 31, 2021 , the aggregate outstanding principal balance and remaining availability under theCitadel Apartment Mortgages were$38.0 million and$11.0 million , respectively. All of the remaining availability of$11.0 million under theCitadel Apartment Mortgages was subsequently advanced to us inJanuary 2022 .
Year Ended
Autumn Breeze Apartments Loan
OnMarch 31, 2020 , we entered into a 10-year$29.9 million non-recourse mortgage loan (the "Autumn Breeze Apartments Loan") scheduled to mature onApril 1, 2030 . The Autumn Breeze Apartments Loan bears interest at 3.39% and requires monthly interest-only payments throughJune 30, 2023 and monthly principal and interest payments of approximately$0.1 million thereafter, through its stated maturity. The Autumn Breeze Apartments Loan is collateralized by theAutumn Breeze Apartments . In connection with the Autumn Breeze Apartments Loan, we paid the Advisor$0.3 million in debt financing fees.
Lakes of Margate Loan
OnJune 26, 2020 , we and the noncontrolling member entered into a 10-year,$35.7 million non-recourse mortgage loan (the "Lakes of Margate Loan") scheduled to mature onJuly 1, 2030 . The Lakes of Margate Loan bears interest at LIBOR+2.98% and requires monthly interest-only payments through the first four years of the term and thereafter, monthly payments of principal and interest based upon a 30-year amortization. The Lakes of Margate Loan is collateralized by the Lakes ofMargate . In connection with the Lakes of Margate Loan, we paid the Advisor$0.4 million in debt financing fees. Additionally, approximately$1.4 million of the financing proceeds were distributed to the noncontrolling member. OnMarch 15, 2021 , the Lakes of Margate Loan was assumed by the Lakes of Margate Buyer in connection with the disposition of the property.
LIBOR
The Citadel Apartments Mortgages and the BayVue Apartments Mortgage are indexed to LIBOR. In late 2021, it was announced LIBOR interest rates will cease publication altogether byJune 30, 2023 . We have and intend continue to incorporate relatively standardized replacement rate provisions into our LIBOR-indexed debt documents, including a spread adjustment mechanism designed to equate to the current LIBOR "all in" rate. There is significant uncertainty with respect to the implementation of the phase out and what alternative indexes will be adopted which will ultimately be determined by the market as a whole. It therefore remains uncertain how such changes will be implemented and the effects such changes would have on us and the financial markets generally. 18 Contractual Obligations One of our principal short-term and long-term liquidity requirements includes the repayment of maturing debt. The following table provides information with respect to the contractual maturities and scheduled debt service payments of our indebtedness as ofDecember 31, 2021 (dollars in thousands): Contractual Obligations 2022 2023 2024 2025 2026 Thereafter Total Mortgage Payable$ 1,740 $ 2,191 $ 84,844 $ 18,138 $ 147,729 $ 27,733 $ 282,375 Interest Payments(1) 10,499 10,782 9,915 7,617 2,842 3,245 44,900 Total Contractual Obligations$ 12,239 $ 12,973 $ 94,759 $ 25,755 $ 150,571 $ 30,978 $ 327,275
(1) These amounts represent future interest payments related to mortgage payable
obligations based on the fixed and variable interest rates specified in the
associated debt agreement. All variable rate debt agreements are based on the
one-month LIBOR rate. For purposes of calculating future interest amounts on
variable interest rate debt the one-month LIBOR rate as of
was used. Results of Operations
As of
OnJuly 7, 2021 we acquired theBayVue Apartments and onOctober 6, 2021 we acquired theCitadel Apartments (collectively, the "2021 Acquisitions") and onMarch 17, 2020 , we acquired theAutumn Breeze Apartments (the "2020 Acquisition" and together with the 2021 Acquisitions, the "Acquisitions"). OnMarch 17, 2021 we disposed of the Lakes ofMargate and onDecember 22, 2021 we disposed of theRiver Club Properties (collectively, the "2021 Dispositions") and onMarch 15, 2020 we disposed of theGardens Medical Pavilion (the "2020 Disposition" and together with the 2021 Dispositions, the "Dispositions"). The Dispositions did not qualify to be reported as discontinued operations since they did not represent a strategic shift that had a major effect on our operations and financial results. Accordingly, the operating results of the Dispositions are reflected in our results from continuing operations for all periods presented through their dates of disposition.
Year ended
Our results of operations for the year endedDecember 31, 2021 compared to the same period in 2020 reflect our acquisition and disposition activities during such periods. Properties which were owned by us during the entire periods presented are referred to as our "Same Store" properties.
The following table provides summary information about our results of operations
for the years ended
Year Ended Change Change Change December 31, Increase/ Percentage due to due to due to Same 2021 2020 (Decrease) Change Acquisitions(1) Dispositions(2) Store(3) Rental revenues$ 43,134 $ 39,978 $ 3,156 8.0 % $ 5,085 $ (3,820 )$ 1,891 Property operating expenses 14,498 13,049 1,449 11.0 % 1,971 (1,151 ) 629 Real estate taxes 5,865 5,454 411 8.0 % 706 (633 ) 338 General and administrative 6,982 6,493 489 8.0 % 53 (100 ) 536 Depreciation and amortization 14,858 12,227 2,631 22.0 % 3,688 (1,025 ) (32 ) Interest expense, net 10,640 9,644 996 10.0 % 1,558 (509 ) (53 )
(1) Represents the effect on our operating results for the periods indicated
resulting from our 2020 acquisition of the
2021 acquisitions of the
(2) Represents the effect on our results for the periods indicated resulting from
our 2020 disposition of the
dispositions of the Lakes of
(3) Represents the change for the year ended
same period in 2020 for real estate and real estate-related investments owned
by us during the entire periods presented ("Same Store"). Same Store
properties for the periods ended
Apartments. 19 The following table reflects total rental revenues and total property operating expenses for the years endedDecember 31, 2021 and 2020 for our (i) Same Store properties, (ii) acquisitions and (iii) dispositions (dollars in thousands): Year Ended December 31, Description 2021 2020 Change Rental Revenues: Same Store$ 27,700 $ 25,809 $ 1,891 Acquisitions 7,980 2,895 5,085 Disposition 7,454 11,274 (3,820 ) Total rental revenues$ 43,134 $ 39,978 $ 3,156 Property operating expenses: Same Store$ 8,532 $ 7,903 $ 629 Acquisitions 2,949 978 1,971 Disposition 3,017 4,168 (1,151 )
Total property operating expenses
The tables below reflect occupancy and effective monthly rental rates for our Same Store properties: Effective Monthly Occupancy Rent per Unit(1) As of As of December 31, December 31, Property 2021 2020 2021 2020 Arbors Harbor Town 94 % 96 %$ 1,523 $ 1,348 Parkside 98 % 95 %$ 1,282 $ 1,170 Flats at Fishers 96 % 96 %$ 1,377 $ 1,182 Axis at Westmont 93 % 93 %$ 1,310 $ 1,178 Valley Ranch Apartments 90 % 94 %$ 1,603 $ 1,449 Autumn Breeze Apartments 91 % 95 %$ 1,232 $ 1,057 BayVue Apartments (2) 95 % N/A$ 1,155 N/A Citadel Apartments (3) 96 % N/A$ 1,563 N/A
(1) Effective monthly rent is calculated as in-place contracted monthly rental
revenue, including any premiums due for short-term or month-to-month leases,
less any concessions or discounts.
(2)
(3)
Revenues. Rental revenues for the year endedDecember 31, 2021 were$43.1 million , an increase of$3.1 million , compared to$40.0 million for the same period 2020. Excluding the effect of our acquisition and disposition activities, our rental revenues increased by$1.9 million for our Same Store properties primarily as a result of higher average monthly rent per unit. Property Operating Expenses. Property operating expenses for the year endedDecember 31, 2021 were$14.5 million , an increase of$1.5 million , compared to$13.0 million for the same period in 2020. Excluding the effect of our acquisition and disposition activities, our property operating expenses increased by$0.6 million for our Same Store properties primarily as a result of higher utilities and repair and maintenance costs. Real Estate Taxes. Real estate taxes for the year endedDecember 31, 2021 were$5.9 million , an increase of$0.4 million , compared to$5.5 million for the same period in 2020. Excluding the effect of our acquisition and disposition activities, our real estate taxes increased by$0.3 million for our Same Store properties. 20 General and Administrative Expenses. General and administrative expenses for the years endedDecember 31, 2021 and 2020 were$7.0 million and$6.5 million , respectively. The increase is principally attributable to higher asset management fees during the 2021 period resulting from our acquisition and investment activities. General and administrative expenses primarily consist of audit fees, legal fees, board of directors' fees, and other administrative expenses, including certain costs paid to our advisor. Depreciation and Amortization. Depreciation and amortization for the years endedDecember 31, 2021 and 2020 were$14.9 million and$12.2 million , respectively. Excluding the effect of our acquisition and disposition activities, depreciation and amortization for our Same Store properties was flat. Interest Expense, Net. Interest expense, net for the year endedDecember 31, 2021 was$10.6 million , an increase of$1.0 million , compared to$9.6 million for the same period in 2020. Excluding the effect of our acquisition and disposition activities, interest expense decreased slightly by$0.1 million
for our Same Store properties.
Interest Income. Interest income for the year ended
Gain on Sale of Investment Property. Our gain on the sale of investment property for the year endedDecember 31, 2021 of$82.8 million consists of a gain on the sale of Lakes ofMargate of$27.8 million recognized during the first quarter of 2021 and a gain on the sale of theRiver Club Properties of$55.0 million recognized during the fourth quarter of 2021. Our gain on the sale of investment property for the year endedDecember 31, 2020 was attributable to a gain on the sale of theGardens Medical Pavilion of$5.5 million recognized during the
first quarter of 2020.
Gain on Sale of Unconsolidated Joint Venture. During the second quarter of 2021 we recognized a gain of$1.5 million in connection with our receipt of the final settlement of our prior participation in the residual interests ofProspect Park . See Note 8 of the Notes to Consolidated Financial Statements for additional information. Summary of Cash Flows Operating activities
The net cash provided by operating activities of$10.2 million for the year endedDecember 31, 2021 consisted primarily of our net income of$77.5 million , depreciation and amortization and amortization of deferred financing costs aggregating$15.8 million and the net change in assets and liabilities of$2.3 million offset by the aggregate gains on the sale of investment property of$82.8 million , the gain on the disposition of unconsolidated joint venture from the settlement of our participation in the residual interests ofProspect Park of$1.5 million and non-cash interest income of$1.2 million .
Investing activities
The net cash used in investing activities of
? net proceeds from the sale of Lakes of
? proceeds received for the final settlement of our prior participation in the
residual interests of
? net proceeds from the sale of the
? the acquisition of the
? the acquisition of the
? payment of
interest in the Lakes of
21
? payment of
interest in the
? payment of
interest in Parkside; and
? capital expenditures of
Financing activities
The net cash provided by financing activities of
? net proceeds from notes payable of
? debt principal payments of
? distributions paid to noncontrolling interests of
? redemptions and cancellation of shares of common stock of
Funds from Operations and Modified Funds from Operations
The historical accounting convention used for real estate assets requires straight-line depreciation of buildings, improvements, and straight-line amortization of intangibles, which implies that the value of a real estate asset diminishes predictably over time. We believe that, because real estate values historically rise and fall with market conditions, including, but not limited to, inflation, interest rates, the business cycle, unemployment and consumer spending, presentations of operating results for a REIT using the historical accounting convention for depreciation and certain other items may be less informative. Because of these factors, theNational Association of Real Estate Investment Trusts ("NAREIT"), an industry trade group, has published a standardized measure of performance known as funds from operations ("FFO"), which is used in the REIT industry as a supplemental performance measure. We believe FFO, which excludes certain items such as real estate-related depreciation and amortization, is an appropriate supplemental measure of a REIT's operating performance. FFO is not equivalent to our net income or loss as determined under GAAP. We calculate FFO, a non-GAAP measure, consistent with the standards established over time by theBoard of Governors of NAREIT, as restated in a White Paper approved by theBoard of Governors of NAREIT effective inDecember 2018 (the "White Paper"). The White Paper defines FFO as net income or loss computed in accordance with GAAP, excluding depreciation and amortization related to real estate, gains and losses from the sale of certain real estate assets, gains and losses from change in control and impairment write-downs of certain real estate assets and investments in entities when the impairment is directly attributable to decreases in the value of depreciable real estate held by the entity. Our FFO calculation complies with NAREIT's definition.
We believe that the use of FFO provides a more complete understanding of our performance to investors and to management, and reflects the impact on our operations from trends in occupancy rates, rental rates, operating costs, general and administrative expenses, and interest costs, which may not be immediately apparent from net income.
Changes in the accounting and reporting promulgations under GAAP that were put into effect in 2009 subsequent to the establishment of NAREIT's definition of FFO, such as the change to expense as incurred rather than capitalize and depreciate acquisition fees and expenses incurred for business combinations, have prompted an increase in cash-settled expenses, specifically acquisition fees and expenses, as items that are expensed under GAAP across all industries. These changes had a particularly significant impact on publicly registered, non-listed REITs, which typically have a significant amount of acquisition activity in the early part of their existence, particularly during the period when they are raising capital through ongoing initial public offerings. 22 Because of these factors, theInvestment Program Association (the "IPA"), an industry trade group, published a standardized measure of performance known as modified funds from operations ("MFFO"), which the IPA has recommended as a supplemental measure for publicly registered, non-listed REITs. MFFO is designed to be reflective of the ongoing operating performance of publicly registered, non-listed REITs by adjusting for those costs that are more reflective of acquisitions and investment activity, along with other items the IPA believes are not indicative of the ongoing operating performance of a publicly registered, non-listed REIT, such as straight-lining of rents as required by GAAP. We believe it is appropriate to use MFFO as a supplemental measure of operating performance because we believe that both before and after we have deployed all of our offering proceeds and are no longer incurring a significant amount of acquisition fees or other related costs, it reflects the impact on our operations from trends in occupancy rates, rental rates, operating costs, general and administrative expenses, and interest costs, which may not be immediately apparent from net income. MFFO is not equivalent to our net income or loss as determined under GAAP. We define MFFO, a non-GAAP measure, consistent with the IPA's Guideline 2010-01, Supplemental Performance Measure for Publicly Registered, Non-Listed REITs: Modified Funds from Operations (the "Practice Guideline") issued by the IPA inNovember 2010 . The Practice Guideline defines MFFO as FFO further adjusted for acquisition and transaction-related fees and expenses and other items. In calculating MFFO, we follow the Practice Guideline and exclude acquisition and transaction-related fees and expenses (which includes costs incurred in connection with strategic alternatives), amounts relating to deferred rent receivables and amortization of market lease and other intangibles, net (which are adjusted in order to reflect such payments from a GAAP accrual basis to a cash basis of disclosing the rent and lease payments), accretion of discounts and amortization of premiums on debt investments and borrowings, mark-to-market adjustments included in net income (including gains or losses incurred on assets held for sale), gains or losses included in net income from the extinguishment or sale of debt, hedges, foreign exchange, derivatives or securities holdings where trading of such holdings is not a fundamental attribute of the business plan, unrealized gains or losses resulting from consolidation from, or deconsolidation to, equity accounting, and after adjustments for consolidated and unconsolidated partnerships and joint ventures, with such adjustments calculated to reflect MFFO on the same basis. Certain of the above adjustments are also made to reconcile net income (loss) to net cash provided by (used in) operating activities, such as for the amortization of a premium and accretion of a discount on debt and securities investments, amortization of fees, any unrealized gains (losses) on derivatives, securities or other investments, as well as other adjustments. MFFO excludes non-recurring impairment of real estate-related investments. We assess the credit quality of our investments and adequacy of reserves on a quarterly basis, or more frequently as necessary. Significant judgment is required in this analysis. We consider the estimated net recoverable value of a loan as well as other factors, including but not limited to the fair value of any collateral, the amount and the status of any senior debt, the prospects for the borrower and the competitive situation of the region where the borrower does business. We believe that, because MFFO excludes costs that we consider more reflective of acquisition activities and other non-operating items, MFFO can provide, on a going-forward basis, an indication of the sustainability (that is, the capacity to continue to be maintained) of our operating performance after the period in which we are acquiring properties and once our portfolio is stabilized. We also believe that MFFO is a recognized measure of sustainable operating performance by the non-listed REIT industry and allows for an evaluation of our performance against other publicly registered, non-listed REITs. Not all REITs, including publicly registered, non-listed REITs, calculate FFO and MFFO the same way. Accordingly, comparisons with other REITs, including publicly registered, non-listed REITs, may not be meaningful. Furthermore, FFO and MFFO are not indicative of cash flow available to fund cash needs and should not be considered as an alternative to net income (loss) or income (loss) from continuing operations as determined under GAAP as an indication of our performance, as an alternative to cash flows from operations as an indication of our liquidity, or indicative of funds available to fund our cash needs including our ability to make distributions to our stockholders. FFO and MFFO should be reviewed in conjunction with other GAAP measurements as an indication of our performance. FFO and MFFO should not be construed to be more relevant or accurate than the current GAAP methodology in calculating net income or in its applicability in evaluating our operating performance. The methods utilized to evaluate the performance of a publicly registered, non-listed REIT under GAAP should be construed as more relevant measures of operational performance and considered more prominently than the non-GAAP measures, FFO and MFFO, and the adjustments to GAAP in calculating FFO and MFFO. Neither theSEC , NAREIT, the IPA nor any other regulatory body or industry trade group has passed judgment on the acceptability of the adjustments that we use to calculate FFO or MFFO. In the future, NAREIT, the IPA or another industry trade group may publish updates to the White Paper or the Practice Guidelines or theSEC or another regulatory body could standardize the allowable adjustments across the publicly registered, non-listed REIT industry, and we would have to adjust our calculation and characterization of FFO or MFFO accordingly. 23
Our calculations of FFO and MFFO are presented below (dollars and shares in thousands, except per share amounts):
For the Year Ended December 31, Description 2021 2020 Net income$ 77,494 $ 1,183 FFO adjustments:
Depreciation and amortization of real estate assets 14,858
12,227
Gain on disposition of unconsolidated joint venture (1,457 )
-
Gain on sale of investment property (82,819 )
(5,474 ) FFO 8,076 7,936 MFFO adjustments: Other adjustments:
Acquisition and other transaction related costs expensed(1) -
-
Noncash adjustments: Gain on forgiveness of debt(3) (128 )
-
Mark-to-market adjustments(2) (26 )
2
Gain on sale of marketable securities(3) (14 ) (63 ) MFFO before straight-line rent 7,908
7,875
Straight-line rent(4) - (32 ) MFFO - IPA recommended format$ 7,908
Net income$ 77,494 $ 1,183 Less: income attributable to noncontrolling interests (199 ) (1,298 ) Net income/(loss) applicable to Company's common shares$ 77,295 $ (115 ) Net income/(loss) per common share, basic and diluted$ 3.83
FFO$ 8,076 $ 7,936 Less: FFO attributable to noncontrolling interests (509 ) (526 ) FFO attributable to Company's common shares$ 7,567 $ 7,410 FFO per common share, basic and diluted$ 0.38
MFFO - IPA recommended format$ 7,908 $ 7,843 Less: MFFO attributable to noncontrolling interests (509 ) (520 ) MFFO attributable to Company's common shares$ 7,399
Weighted average number of common shares outstanding, basic and diluted 20,169 20,741 24
(1) The purchase of properties, and the corresponding expenses associated with
that process, is a key operational feature of our business plan to generate
operational income and cash flows in order to make distributions to
investors. In evaluating investments in real estate, management
differentiates the costs to acquire the investment from the operations
derived from the investment. Such information would be comparable only for
non-listed REITs that have completed their acquisition activity and have
other similar operating characteristics. By excluding expensed acquisition
costs, management believes MFFO provides useful supplemental information that
is comparable for each type of real estate investment and is consistent with
management's analysis of the investing and operating performance of our
properties. Acquisition fees and expenses include payments to our Advisor or
third parties. Acquisition fees and expenses under GAAP are considered
operating expenses and as expenses included in the determination of net
income and income from continuing operations, both of which are performance
measures under GAAP. Such fees and expenses are paid in cash, and therefore
such funds will not be available to distribute to investors. Such fees and expenses negatively impact our operating performance during the period in
which properties are being acquired. Therefore, MFFO may not be an accurate
indicator of our operating performance, especially during periods in which
properties are being acquired. All paid and accrued acquisition fees and
expenses will have negative effects on returns to investors, the potential
for future distributions, and cash flows generated by us, unless earnings
from operations or net sales proceeds from the disposition of properties are
generated to cover the purchase price of the property, these fees and
expenses and other costs related to the property. Acquisition fees and
expenses will not be paid or reimbursed, as applicable, to our Advisor even
if there are no further proceeds from the sale of shares in our offering, and
therefore such fees and expenses would need to be paid from either additional
debt, operational earnings or cash flows, net proceeds from the sale of properties or from ancillary cash flows.
(2) Management believes that adjusting for mark-to-market adjustments is
appropriate because they are nonrecurring items that may not be reflective of
ongoing operations and reflects unrealized impacts on value based only on
then current market conditions, although they may be based upon current
operational issues related to an individual property or industry or general
market conditions. Mark-to-market adjustments are made for items such as
ineffective derivative instruments, certain marketable equity securities and
any other items that GAAP requires we make a mark-to-market adjustment for.
The need to reflect mark-to-market adjustments is a continuous process and is
analyzed on a quarterly and/or annual basis in accordance with GAAP.
(3) Management believes that adjusting for gains or losses related to
extinguishment/sale of debt, derivatives or securities holdings is
appropriate because they are items that may not be reflective of ongoing
operations. By excluding these items, management believes that MFFO provides
supplemental information related to sustainable operations that will be more
comparable between other reporting periods.
(4) Under GAAP, rental receipts are allocated to periods using various
methodologies. This may result in income recognition that is significantly
different than underlying contract terms. By adjusting for these items (to
reflect such payments from a GAAP accrual basis to a cash basis of disclosing
the rent and lease payments), MFFO provides useful supplemental information
on the realized economic impact of lease terms and debt investments,
providing insight on the contractual cash flows of such lease terms and debt
investments, and aligns results with management's analysis of operating
performance. Distributions We made an election to qualify as a REIT for federal income tax purposes commencing with our taxable year endedDecember 31, 2008 .U.S. federal tax law requires a REIT to distribute at least 90% of its annual REIT taxable income (which does not equal net income, as calculated in accordance with generally accepted accounting principles, or GAAP) determined without regard to the deduction for dividends paid and excluding any net capital gain. In order to continue to qualify for REIT status, we may be required to make distributions in excess of cash available. Distributions, if any, are authorized at the discretion of our board of directors based on their analysis of our performance over the previous periods and expectations of performance for future periods. Such analyses may include actual and anticipated operating cash flow, capital expenditure needs, general financial and market conditions, proceeds from asset sales and other factors that our board of directors deems relevant. Our board of directors' decisions will be substantially influenced by their obligation to ensure that we maintain our federal tax status as a REIT. We cannot provide assurance that we will pay distributions at any particular level, or at all.
Prior to 2012, our board of directors declared distributions on a regular quarterly basis based on daily record dates, portions of which were paid on a monthly basis. During the first quarter of 2012, our board of directors determined to cease regular distributions.
During 2014 and 2015, our board of directors declared a total of$77.1 million , or$3.00 per share of common stock, in special cash distributions, all of which were paid to stockholders during 2014, 2015, and 2016. These special cash distributions were paid with a portion of proceeds from asset sales. No further distributions have been declared or paid since 2016. 25
Off-Balance Sheet Arrangements
We have no off-balance sheet arrangements that are reasonably likely to have a current or future material effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures, or capital resources.
Critical Accounting Policies and Estimates
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. These estimates include such items as purchase price allocation for real estate acquisitions, impairment of long-lived assets, depreciation and amortization, and allowance for doubtful accounts. Actual results could differ from those estimates.
Below is a discussion of the accounting policies that we consider to be critical in that they may require complex judgment in their application or require estimates about matters that are inherently uncertain.
26
Principles of Consolidation and Basis of Presentation
Our consolidated financial statements include our accounts and the accounts of other subsidiaries over which we have control. All inter-company transactions, balances, and profits have been eliminated in consolidation. In addition, interests in entities acquired are evaluated based on applicable GAAP, and deemed to be variable interest entities ("VIE") in which we are the primary beneficiary are also consolidated. If the interest in the entity is determined not to be a VIE, then the entity is evaluated for consolidation based on legal form, economic substance, and the extent to which we have control, substantive participating rights or both under the respective ownership agreement. For entities in which we have less than a controlling interest or entities which we are not deemed to be the primary beneficiary, we account for the investment using the equity method of accounting. There are judgments and estimates involved in determining if an entity in which we have made an investment is a VIE and, if so, whether we are the primary beneficiary. The entity is evaluated to determine if it is a VIE by, among other things, calculating the percentage of equity being risked compared to the total equity of the entity. Determining expected future losses involves assumptions of various possibilities of the results of future operations of the entity, assigning a probability to each possibility and using a discount rate to determine the net present value of those future losses. A change in the judgments, assumptions, and estimates outlined above could result in consolidating an entity that should not be consolidated or accounting for an investment using the equity method that should in fact be consolidated, the effects of which could be material to our financial statements.
Accounting for Acquisitions of Investment Property
The cost of the real estate assets acquired in an asset acquisition is allocated to the acquired tangible assets, consisting of land, building and tenant improvements, and identified intangible assets and liabilities, consisting of the value of above-market and below-market leases for acquired in-place leases and the value of tenant relationships, based in each case on their relative fair values. Fees incurred related to asset acquisitions are capitalized as part of the cost of the investment. Upon the acquisition of real estate properties that qualify as a business, we recognize the assets acquired, the liabilities assumed, and any noncontrolling interest as of the acquisition date, measured at their fair values. The acquisition date is the date on which we obtain control of the real estate property. The assets acquired and liabilities assumed may consist of land, inclusive of associated rights, buildings, assumed debt, identified intangible assets and liabilities, and asset retirement obligations. Identified intangible assets generally consist of above-market leases, in-place leases, in-place tenant improvements, in-place leasing commissions, and tenant relationships. Identified intangible liabilities generally consist of below-market leases.Goodwill is recognized as of the acquisition date and measured as the aggregate fair value of consideration transferred and any noncontrolling interests in the acquiree over the fair value of the identifiable net assets acquired. Likewise, a bargain purchase gain is recognized in current earnings when the aggregate fair value of consideration transferred and any noncontrolling interests in the acquiree is less than the fair value of the identifiable net assets acquired. Acquisition-related costs are expensed in the period incurred. Initial valuations are subject to change until our information is finalized, which is no later than twelve months from the acquisition date. The fair value of the tangible assets acquired, consisting of land and buildings, is determined by valuing the property as if it were vacant, and the "as-if-vacant" value is then allocated to land and buildings. Land values are derived from appraisals, and building values are calculated as replacement cost less depreciation or management's estimates of the fair value of these assets using discounted cash flow analyses or similar methods believed to be used by market participants. The value of hotels and all other buildings is depreciated over the estimated useful lives of 39 years and 25 years, respectively, using the straight-line method. We determine the fair value of assumed debt by calculating the net present value of the scheduled mortgage payments using interest rates for debt with similar terms and remaining maturities that management believes we could obtain at the date of the debt assumption. Any difference between the fair value and stated value of the assumed debt is recorded as a discount or premium and amortized over the remaining life of the loan using the effective interest method. We record assets and groups of assets and liabilities which comprise disposal groups as "held for sale" when all of the following criteria are met: a decision has been made to sell, the assets are available for sale immediately, the assets are being actively marketed at a reasonable price in relation to the current fair value, a sale has been or is expected to be concluded within twelve months of the balance sheet date, and significant changes to the plan to sell are not expected. The assets and disposal groups held for sale are valued at the lower of book value or fair value less disposal costs. For sales of real estate or assets classified as held for sale, we evaluate whether a disposal transaction meets the criteria of a strategic shift and will have a major effect on our operations and financial results to determine if the results of operations and gains on sale of real estate will be presented as part of our continuing operations or as discontinued operations in our consolidated statements of operations. If the disposal represents a strategic shift, it will be classified as discontinued operations for all periods presented; if not, it will be presented in continuing operations. 27 Investment Impairment
For all of our real estate and real estate-related investments, we monitor events and changes in circumstances indicating that the carrying amounts of the real estate assets may not be recoverable. Examples of the types of events and circumstances that would cause management to assess our assets for potential impairment include, but are not limited to: a significant decrease in the market price of an asset; a significant adverse change in the manner in which the asset is being used; an accumulation of costs in excess of the acquisition basis plus construction of the property; major vacancies and the resulting loss of revenues; natural disasters; a change in the projected holding period; legitimate purchase offers; and changes in the global and local markets or economic conditions. To the extent that our portfolio is concentrated in limited geographic locations, downturns specifically related to such regions may result in tenants defaulting on their lease obligations at those properties within a short time period, which may result in asset impairments. When such events or changes in circumstances are present, we assess potential impairment by comparing estimated future undiscounted operating cash flows expected to be generated over the life of the asset and from its eventual disposition to the carrying amount of the asset. These projected cash flows are prepared internally by the Advisor and reflect in-place and projected leasing activity, market revenue and expense growth rates, market capitalization rates, discount rates, and changes in economic and other relevant conditions. Our management reviews these projected cash flows to assure that the valuation is prepared using reasonable inputs and assumptions that are consistent with market data or with assumptions that would be used by a third-party market participant and assume the highest and best use of the investment. We consider trends, strategic decisions regarding future development plans, and other factors in our assessment of whether impairment conditions exist. In the event that the carrying amount exceeds the estimated future undiscounted operating cash flows, we recognize an impairment loss to adjust the carrying amount of the asset to estimated fair value. While we believe our estimates of future cash flows are reasonable, different assumptions regarding factors such as market rents, economic conditions, and occupancy rates could significantly affect these estimates. In evaluating our investments for impairment, management may use appraisals and make estimates and assumptions, including, but not limited to, the projected date of disposition of the properties, the estimated future cash flows of the properties during our ownership, and the projected sales price of each of the properties. A future change in these estimates and assumptions could result in understating or overstating the carrying value of our investments, which could be material to our financial statements. In addition, we may incur impairment charges on assets classified as held for sale in the future if the carrying amount of the asset upon classification as held for sale exceeds the estimated fair value, less costs to sell.
New Accounting Pronouncements
See Note 3 of the Notes to Consolidated Financial Statements for further information.
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