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 our Form 10-K for the year ended
December 31, 2021(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 could cause our actual results, performance or achievements to differ materially from those expressed or implied by the 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 finance acquisitions and developments;
•the demand for apartments and commercial premises in our markets and the effect on occupancy and rental rates;
• our ability to obtain financing, enter into joint venture agreements in connection with or self-finance the development or acquisition of properties;
•the risks associated with the timing and amount of sales of properties and the resulting gains/losses associated with such sales;
• inability to effectively manage our growth and expansion into new markets or successfully integrate acquisitions
•risks and uncertainties affecting real estate development and construction (including, but not limited to, construction delays, cost overruns, failure to obtain necessary permits and public opposition to such activities );
•risks associated with national and local economic downturns, rising interest rates and volatility in 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;
•the risks related to our dependence on key personnel whose continuity of service is not guaranteed; and
•other risk factors identified in this Form 10-Q, including those described under “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" Annual Report on Form 10-K, which investors should review. 18
We continue to closely monitor the impact of the COVID-19 pandemic on all aspects of our business and our real estate portfolio. Although we have not experienced any significant disruptions in the three months ended
We are unable to predict the impact that the COVID-19 pandemic will have on our financial condition, results of operations and cash flows due to numerous uncertainties. These uncertainties include the scope, severity and duration of the pandemic, the actions taken to contain the pandemic or mitigate its impact and the direct and indirect economic effects of the pandemic and containment measures, among others. The pandemic continues to have an impact on the
U.S.economy and on the local markets in which our properties are located. Nearly every industry has been impacted directly or indirectly, and the commercial real estate market has come under pressure due to numerous factors, including preventative measures taken by local, state and federal authorities to alleviate the public health crisis such as mandatory business closures, quarantines, and restrictions on travel and "shelter-in-place" or "stay-at-home" orders.
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 throughout the
Southern United States. Our portfolio of income-producing properties includes residential apartment communities ("multifamily properties"), office buildings and retail properties ("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. Our operations are managed by Pillar Income Asset Management, Inc.("Pillar") in accordance with an Advisory Agreement. Pillar's duties include, but are not limited to, locating, evaluating and recommending real estate and real estate-related investment opportunities. Pillar also arranges our debt and equity financing with third party lenders and investors. We have no employees. Employees of Pillar render services to us in accordance with the terms of the Advisory Agreement. Pillar is considered to be a related party due to its common ownership with American Realty Investors, Inc. ("ARL"), who is our controlling shareholder.
Here is a summary of our recent acquisition, divestiture, financing and development activities:
Acquisitions and disposals
March 30, 2021, we sold a 50% ownership interest in Overlook at Allensville Phase II, a 144 unit multifamily property in Sevierville, Tennesseeto Macquarie for $2.6 millionresulting in gain on sale of $1.4 million. Concurrent with the sale, we each contributed our 50% ownership interests in Overlook at Allensville Phase II into VAA. •On August 26, 2021, we sold 600 Las Colinas, a 512,173 square foot office building in Irving, Texasfor $74.8 million, resulting in gain on sale of $27.3 million. We used the proceeds to pay off the mortgage note payable on the property (See "Financing Activities") and for general corporate purposes. •During the year ended December 31, 2021, we sold a total of 134.7 acres of land from our holdings in Windmill Farmsfor $20.2 million, in aggregate, resulting in gains on sale of $10.3 million. In addition, we sold 14.1 acres of land from our holdings in Mercer Crossingfor $9.0 million, resulting in a gain on sale of $6.4 million.
• During the three months ended
Development Activities During 2021, we spent
$14.0 millionon our ongoing development of Windmill Farms. Our expenditure includes $1.1 millionon the development of land lots for sale to single family home developers and $13.0 millionon reimbursable infrastructure investments. During the three months ended March 31, 2022, we spent $1.9 millionon our ongoing development of Windmill Farms. Our expenditure includes $1.1 millionon the development of land lots for sale to single family home developers and $0.8 millionon reimbursable infrastructure investments. We have investment in nine notes receivable that were issued to fund the development of multifamily properties . As of March 31, 2022, one of the projects was in construction, two were in lease-up and six were stabilized. In 2022, we advanced $8.6 millionon these development notes. Each of these notes are convertible, at our option, into a 100% ownership interest in the underlying property. Other Developments:
In 2022, we recorded a loss of
November 17, 2021, we entered into a Major Decision with Macquarie to engage a broker and initiate a sale of all the properties held by VAA, which are listed in Item 2. Properties as Joint Venture properties. In connection with the sale, VAA will distribute seven of its existing properties to us (referred to herein as the " Holdback Properties") and we in turn, will contribute one of our properties ("Contributed Property") into the portfolio offered for sale to third-parties. The sales price for the Holdback Propertiesand Contributed Property will be the estimated value of these properties as stated in the agreement, multiplied by the ratio of the actual sales price of the portion of the VAA Portfolio sold to a third party to the estimated value of the those properties that were provided in the agreement. Each of the properties in the VAA Portfolio is appraised on an annual basis as part of our filing requirement with the TASE. As of March 31, 2022, the fair value of the VAA Portfolio, based on these appraisals was approximately $1.4 billion. The appraised value reflects an aggregate of individual property appraised value and does not reflect a premium that is sometimes offered in a portfolio sale. These values reflect a compression of cap rates for multifamily properties during the last year. However, there can be no assurances that these values will be realized. The Major Decision agreement will expire on August 1, 2022, if the VAA Portfolio has not been sold. Our ownership interest in VAA is held by SPC, and is therefore subject to the bond covenants of the three series of bonds that have been issued by SPC. These provisions include restrictions on the distribution of cash from SPC (See Note 12 - Bonds Payable in our consolidated financial statements). 20
Critical accounting policies
The preparation of our consolidated financial statements in conformity with
United Statesgenerally accepted accounting principles ("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. Actual results could differ from those estimates. Some of these estimates and assumptions include judgments on revenue recognition, estimates for common area maintenance and real estate tax accruals, provisions for uncollectible accounts, impairment of long-lived assets, the allocation of purchase price between tangible and intangible assets, capitalization of costs and fair value measurements. Our significant accounting policies are described in more detail in Note 2-Summary of Significant Accounting Policies in our notes to the consolidated financial statements in the Annual Report. However, the following policies are deemed to be critical.
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 on the transparency of the inputs of the valuation of an asset or a liability at the valuation date and comprises three levels defined as follows:
Level 1 – Unadjusted quoted prices for identical, 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 in measuring fair value.
The categorization of a financial instrument in the valuation hierarchy is based on the lowest level of entry that is significant for the measurement of fair value.
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 our own separate interests, or affiliates of the entity.
Many of the variations in the results of operations, discussed below, occurred because of the transactions affecting our properties described above, including those related to the
Lease-Up Propertiesand the Disposition Properties(each as defined below). For purposes of the discussion below, we define " Same Properties" as those properties that are substantially leased-up and in operation for the entirety of both periods of the comparison. Non-Same Propertiesfor comparison purposes include those properties that have been recently constructed or leased-up (" Lease-up Properties") and properties that have been disposed of (" Disposition Properties"). A developed property is considered leased-up, when it achieves occupancy of 80% or more.We move a property in and out of Same Propertiesbased on whether the property is substantially leased-up and in operation for the entirety of both periods of the comparison. Accordingly, the Same Propertiesconsist of all properties, excluding the Lease-up Propertiesand the Disposition Propertiesfor the periods of comparison. 21
For the comparison of the three months ended
March 31, 2022to the three months ended March 31, 2021, the Lease-up Propertiesare Forest Grove, Parc at Denham Springs Phase II and Sugar Mill Phase III; and the Disposition Propertiesare Overlook at Allensville Phase II, 600 Las Colinasand Toulon.
The following table summarizes our operating results for the three months ended
Three Months Ended March 31, 2022 2021 Variance
$ 3,229 $ 3,836 $ (607)Operating expenses (1,721) (2,123) 402 1,508 1,713 (205) Commercial Segment Revenue 4,252 6,525 (2,273) Operating expenses (2,307) (3,709) 1,402 1,945 2,816 (871) Segment operating income 3,453 4,529 (1,076)
Other non-segment income (expense) items
Depreciation and amortization (2,349) (3,327) 978 General, administrative and advisory (5,536) (4,895) (641) Interest, net 787 (1,903) 2,690 Loss on extinguishment of debt (1,639) - (1,639) Gain on foreign currency transactions 3,772 7,617 (3,845) Gain sale or write down of assets 11,148 16,103 (4,955) Income from joint ventures 4,706 3,336 1,370 Other income 278 1,427 (1,149) Net income
$ 14,620 $ 22,887 $ (8,267)
Comparison of the three months ended
$2.7 millionincrease in interest, net is primarily due a $1.1 millionincrease in interest income, a $1.0 milliondecrease in interest from mortgage notes payable and a $0.5 milliondecrease in interest on bonds payable. The decrease in interest on the mortgage notes payable is due to the Disposition Propertiesand the decrease in interest on bonds is due to the lower principal balance outstanding. •The loss on extinguishment of debt is due to the early pay off of the mortgage note payable on Toulon in connection with sale of the underlying property (See "Acquisitions and Dispositions" and "Financing Activities" in Management's Overview).
•The decrease in gains on foreign currency transactions is due to variations in the
• The decrease in the gain on the sale or impairment of assets is due to the decrease in the sale of land to
•The decrease in other income is related to the collection of bad debts in 2021.
Cash and capital resources
Our principal sources of cash have been, and will continue to be, property operations; proceeds from land and income-producing property sales; collection of notes receivable; refinancing of existing mortgage notes payable; and additional borrowings, including mortgage notes and bonds payable, and lines of credit. Our principal liquidity needs are to fund normal recurring expenses; meet debt service and principal repayment obligations including balloon payments on maturing debt; fund capital expenditures, including tenant improvements and leasing costs; fund development costs not covered under construction loans; and fund possible property acquisitions. We anticipate that our cash and cash equivalents as of
March 31, 2022, along with cash that will be generated in the remainder of 2022 from notes and interest receivables, will be sufficient to meet all of our cash requirements. We intend to selectively sell land and income-producing assets, refinance or extend real estate debt and seek additional borrowings secured by real estate to meet our liquidity requirements. Although history cannot predict the future, historically, we have been successful at refinancing and extending a portion of our current maturity obligations. The following summary discussion of our cash flows is based on the consolidated statements of cash flows in our consolidated financial statements, and is not meant to be an all-inclusive discussion of the changes in our cash flows for the periods presented below (dollars in thousands): Three Months
2022 2021 Incr /(Decr) Net cash used in operating activities
$ (4,178) $ (901) $ (3,277)Net cash provided by investing activities $ 5,646 $ 14,148 $ (8,502)Net cash used in financing activities $ (38,769)
The increase in cash flows used for operating activities is mainly explained by the
The decrease in cash provided by investing activities is primarily due an increase in purchase of short-term investments of
$16.6 million, a decrease in collection of notes receivable of $8.2 millionand a decrease in distribution from joint venture of $7.4 millionoffset in part by an increase in proceeds from sale of assets of $14.1 millionand a increase in originations and advances on notes receivable of $9.9 million. The increase in cash used in financing activities is primarily due to the $13.0 millionincrease in payments of mortgages, notes and bonds payable. The increase in payments of mortgages, notes and bonds payable is due to the pay off of the loan on Toulon in connection with the sale of the underlying property (See "Financing Activities" in Management's Overview).
Funds from operations (“FFO”)
We use FFO in addition to net income to report our operating and financial results and considers FFO and FFO-diluted as supplemental measures for the real estate industry and a supplement to GAAP measures.
The National Association of Real Estate Investment Trusts("Nareit") defines FFO as net income (loss) (computed in accordance with GAAP), excluding gains (or losses) from sales of properties, plus real estate related depreciation and amortization, impairment write-downs of real estate and write-downs of investments in an affiliate where the write-downs have been driven by a decrease in the value of real estate held by the affiliate and after adjustments for unconsolidated joint ventures. Adjustments for unconsolidated joint ventures are calculated to reflect FFO on the same basis. We also present FFO excluding the impact of the effects of foreign currency transactions. FFO and FFO on a diluted basis are useful to investors in comparing operating and financial results between periods. This is especially true since FFO excludes real estate depreciation and amortization, as we believe real estate values fluctuate based on market conditions rather than depreciating in value ratably on a straight-line basis over time. We believe that such a presentation also provides investors with a meaningful measure of our operating results in comparison to the operating results of other real estate companies. In addition, we believe that FFO excluding gain (loss) from foreign currency transactions provide useful supplemental information regarding our performance as they show a more meaningful and consistent comparison of our operating performance and allows investors to more easily compare our results. 23
We believe that FFO does not represent cash flow from operations as defined by GAAP, should not be considered as an alternative to net income as defined by GAAP, and is not indicative of cash available to fund all cash flow needs. We also caution that FFO, as presented, may not be comparable to similarly titled measures reported by other real estate companies. We compensate for the limitations of FFO by providing investors with financial statements prepared according to GAAP, along with this detailed discussion of FFO and a reconciliation of net income to FFO and FFO-diluted. We believe that to further understand our performance, FFO should be compared with our reported net income and considered in addition to cash flows in accordance with GAAP, as presented in our consolidated financial statements. The following table reconciles our net income attributable to the Company to FFO and FFO-basic and diluted, excluding gain from foreign currency transactions for the three months ended
March 31, 2022and 2021 (dollars and shares in thousands): Three Months Ended March 31, 2022 2021 Net income attributable to the Company $ 14,502 $ 22,632Depreciation and amortization 2,349 3,327 Gain on sale or write down of assets (11,148) (16,103) Gain on sale of land 1,989 5,957
Depreciation and amortization of joint ventures not consolidated on a pro rata basis
(2,579) (1,870) FFO-Basic and Diluted 5,113 13,943 Loss on extinguishment of debt 1,639 - Gain on foreign currency transaction (3,772) (7,617) FFO-adjusted
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