FORM 10-Q
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBERJUNE 30, 20022003
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER: 1-11718
MANUFACTURED HOME COMMUNITIES, INC.
(Exact name of registrant as specified in its Charter)
MARYLAND 36-3857664
(State or other jurisdiction of (I.R.S. Employer incorporation or organization) (I.R.S. Employer Identification No.)
TWO NORTH RIVERSIDE PLAZA, SUITE 800, CHICAGO, ILLINOIS 60606
(Address of principal executive offices) (Zip Code)
(312) 279-1400
(Registrant's telephone number, including area code)
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 (X) No ( )
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes (X) No ( )
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date:
22,032,70822,365,189 shares of Common Stock as of November 4, 2002.August 6, 2003.
MANUFACTURED HOME COMMUNITIES, INC.
TABLE OF CONTENTS
PART I - FINANCIAL STATEMENTS
ITEM 1. FINANCIAL STATEMENTS
INDEX TO FINANCIAL STATEMENTS
Page
----
Consolidated Balance Sheets
as of September 30, 2002 (unaudited) and December 31, 2001...........3
Consolidated Statements of Operations
for the quarters and nine months ended September 30, 2002 and 2001
(unaudited)..........................................................4
Consolidated Statements of Cash Flows
for the nine months ended September 30, 2002 and 2001 (unaudited)....5
Notes to Consolidated Financial Statements................................6
ITEM 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations.........................................18
ITEM 3. Quantitative and Qualitative Disclosures About Market Risk..........27
ITEM 4. Controls and Procedures.............................................27
PART II - OTHER INFORMATION
ITEM 1. Legal Proceedings...................................................28
ITEM 4. Submission of Matters to a Vote of Security Holders.................35
ITEM 6. Exhibits and Reports on Form 8-K....................................35
Page
----
Consolidated Balance Sheets as of June 30, 2003 (unaudited) and December 31, 2002..........................3
Consolidated Statements of Operations for the quarters and six months ended
June 30, 2003 and 2002 (unaudited)......................................................................4
Consolidated Statements of Cash Flows for the six months ended
June 30, 2003 and 2002 (unaudited)......................................................................6
Notes to Consolidated Financial Statements.................................................................7
ITEM 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations........................................................................16
ITEM 3. Quantitative and Qualitative Disclosures About Market Risk.........................................25
ITEM 4. Controls and Procedures............................................................................25
PART II - OTHER INFORMATION
ITEM 1. Legal Proceedings..................................................................................25
ITEM 4. Submission of Matters to a Vote of Security Holders................................................26
ITEM 6. Exhibits and Reports on Form 8-K...................................................................26
2
MANUFACTURED HOME COMMUNITIES, INC.
CONSOLIDATED BALANCE SHEETS
AS OF SEPTEMBERJUNE 30, 20022003 AND DECEMBER 31, 20012002
(AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA)
SEPTEMBERJUNE 30, DECEMBER 31,
2003 2002
2001
(UNAUDITED)
------------- ----------------------- -----------
ASSETS
Investment in real estate:
Land ..................................................................................................................................... $ 277,546279,714 $ 271,871284,219
Land improvements ................................................. 875,254 855,296.......................................................... 889,566 893,839
Buildings and other depreciable property .......................... 112,802 110,971................................... 116,988 117,949
----------- -----------
1,265,602 1,238,1381,286,268 1,296,007
Accumulated depreciation .......................................... (230,512) (211,878)................................................... (252,822) (238,098)
----------- -----------
Net investment in real estate ................................... 1,035,090 1,026,260............................................ 1,033,446 1,057,909
Cash and cash equivalents ............................................ 13,075 1,354..................................................... 17,490 7,270
Notes receivable ..................................................... 8,074 1,506
Investment in and advances to affiliates ............................. --- 34,387.............................................................. 10,589 10,044
Investment in joint ventures ......................................... 22,069 11,853.................................................. 19,189 19,634
Rents receivable, ..................................................... 1,694 1,966net ......................................................... 2,180 1,735
Deferred financing costs, net ........................................ 5,165 5,867................................................. 4,884 5,030
Inventory ............................................................ 34,238 ---..................................................................... 34,417 33,638
Prepaid expenses and other assets .................................... 17,904 16,770............................................. 33,379 27,590
----------- -----------
Total assets ..................................................................................................................... $ 1,137,3091,155,574 $ 1,099,9631,162,850
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Mortgage notes payable ................................................................................................. $ 560,345586,589 $ 590,371575,370
Unsecured term loan ....................................................................................................... 100,000 100,000
Unsecured line of credit .......................................... 74,250 16,250................................................... 54,100 84,750
Other notes payable ............................................... 7,085 2,236........................................................ 113 113
Accounts payable and accrued expenses ............................. 33,356 23,000...................................... 35,034 31,010
Accrued interest payable .......................................... 4,892 4,582................................................... 4,432 6,415
Rents received in advance and security deposits ................... 6,556 5,133............................ 6,595 5,966
Distributions payable ............................................. 13,091 12,062
Due to affiliates ................................................. 52 32...................................................... 13,732 13,106
----------- -----------
Total liabilities ............................................... 799,627 753,666........................................................ 800,595 816,730
----------- -----------
Commitments and contingencies
Minority interest - Common OP Units and other ........................ 42,204 46,147................................. 44,655 43,501
Minority interest - Perpetual Preferred OP Units ................................................... 125,000 125,000
Stockholders' equity:
Preferred stock, $.01 par value
10,000,000 shares authorized; none issued ....................... --- ---................................ -- --
Common stock, $.01 par value
50,000,000 shares authorized; 22,024,55022,335,999 and 21,562,34322,093,240
shares issued and outstanding for 2003 and 2002, and 2001, respectively ............... 220 218 215
Paid-in capital ................................................... 255,534 245,827............................................................ 259,547 256,394
Deferred compensation ............................................. (3,813) (4,062)...................................................... (1,771) (3,069)
Employee notes .................................................... (2,780) (3,841)............................................................. -- (2,713)
Distributions in excess of accumulated earnings ................... (74,405) (63,478)............................ (68,666) (68,713)
Accumulated other comprehensive income (loss) income ..................... (4,276) 489.............................. (4,006) (4,498)
----------- -----------
Total stockholders' equity ...................................... 170,478 175,150............................................... 185,324 177,619
----------- -----------
Total liabilities and stockholders' equity ......................................................... $ 1,137,3091,155,574 $ 1,099,9631,162,850
=========== ===========
The accompanying notes are an integral part of the financial statements.
3
MANUFACTURED HOME COMMUNITIES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE QUARTERS AND NINESIX MONTHS ENDED SEPTEMBERJUNE 30, 20022003 AND 20012002
(AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
QUARTERS ENDED SEPT. 30, NINESIX MONTHS ENDED
SEPT.JUNE 30, ------------------------ ---------------------------JUNE 30,
---------------------- ----------------------
2003 2002 20012003 2002 2001
--------- --------- --------- ---------
PROPERTY OPERATIONS:
Base rental income .................................... $ 50,057 $ 48,992 $ 150,638 $ 146,776
RVCommunity base rental income ................................. 1,771 722 5,426 3,207....................... $ 49,111 $ 49,011 $ 98,472 $ 98,206
Resort base rental income .......................... 1,854 1,218 5,931 3,655
Utility and other income .............................. 4,801 4,839 15,345 16,118........................... 5,091 5,176 10,422 10,413
--------- --------- --------- ---------
Property operating revenues ..................... 56,629 54,553 171,409 166,101.................... 56,056 55,405 114,825 112,274
Property operating and maintenance .................... 16,150 15,434 48,036 46,778................. 15,818 15,345 32,545 31,204
Real estate taxes ..................................... 4,422 4,185 13,769 13,216.................................. 4,745 4,573 9,383 9,033
Property management ................................... 2,329 2,221 7,003 6,735................................ 2,276 2,267 4,628 4,674
--------- --------- --------- ---------
Property operating expenses ...................... 22,901 21,840 68,808 66,729.................... 22,839 22,185 46,556 44,911
--------- --------- --------- ---------
Income from property operations .................. 33,728 32,713 102,601 99,372................ 33,217 33,220 68,269 67,363
HOME SALES OPERATIONS:
Gross revenues andfrom inventory home sales ............... 9,120 --- 21,775 ---........... 9,567 7,930 13,659 12,656
Cost of inventory home sales .......................... (7,404) --- (17,059) ---....................... (8,166) (5,920) (11,626) (9,655)
--------- --------- --------- ---------
Gross profit from inventory home sales ............ 1,716 --- 4,716 ---............. 1,401 2,010 2,033 3,001
Brokered resale revenues, net ......................... 348 --- 1,234 ---...................... 454 455 830 886
Home selling expenses ................................. (1,934) --- (6,061) ---.............................. (1,808) (2,007) (3,702) (4,125)
Ancillary services revenues, net ...................... (62) --- 604 ---................... (111) 112 371 669
--------- --------- --------- ---------
Income (loss) from home sales and other .................. 68 --- 493 ---............ (64) 570 (468) 431
OTHER INCOME AND EXPENSES:
Interest income ....................................... 239 164 723 552
Equity in income of affiliates ........................ --- 682 --- 1,359
Other corporate income ................................ 213 137 878 1,274.................................... 244 220 505 484
Income from unconsolidated joint ventures .......... 550 292 1,139 667
General and administrative ............................ (1,972) (1,557) (5,915) (5,070)......................... (2,000) (2,063) (3,928) (3,943)
Interest and related amortization ..................... (13,119) (12,610) (38,393) (38,920).................. (12,652) (12,725) (25,045) (25,275)
Depreciation on corporate assets ...................... (320) (332) (956) (945)................... (310) (310) (620) (636)
Depreciation on real estate assets and other costs .... (8,937) (8,729) (26,994) (25,996). (9,558) (8,965) (18,462) (17,815)
--------- --------- --------- ---------
Total other income and expenses ................... (23,896) (22,245) (70,657) (67,746)
Income from operations ........................ 9,900 10,468 32,437 31,626
Gain on sale of Properties and other .................. 1,270 --- 1,270 8,093................ (23,726) (23,551) (46,411) (46,518)
--------- --------- --------- ---------
Income before allocation to Minority Interests ........ 11,170 10,468 33,707 39,719.......... 9,427 10,239 21,390 21,276
MINORITY INTERESTS:
(Income) allocated to Common OP Units ................. (1,645) (1,558) (5,007) (6,404).............. (1,277) (1,474) (3,053) (3,114)
(Income) allocated to Perpetual Preferred OP Units ..... (2,813) (2,813) (8,439) (8,439)(5,626) (5,626)
--------- --------- --------- ---------
Income from continuing operations .............. 5,337 5,952 12,711 12,536
DISCONTINUED OPERATIONS:
Discontinued operations ............................ 533 602 903 1,261
Gain on sale of property ........................... 10,697 -- 10,697 --
Minority interest in discontinued operations ....... (2,167) (116) (2,239) (243)
--------- --------- --------- ---------
Income from discontinued operations ............ 9,063 486 9,361 1,018
--------- --------- --------- ---------
NET INCOME ...................................... 6,712 6,097 20,261 24,876
========= ========= ========= =========
Net income per Common Share - basic ........................AVAILABLE FOR COMMON SHARES ................ $ .3114,400 $ .296,438 $ .9422,072 $ 1.19
========= ========= ========= =========
Net income per Common Share - diluted ...................... $ .30 $ .28 $ .91 $ 1.16
========= ========= ========= =========
Distributions declared per Common Share .................... $ .475 $ .445 $ 1.425 $ 1.335
========= ========= ========= =========
Weighted average Common Shares
outstanding - basic .............................. 21,676 21,108 21,558 20,958
========= ========= ========= =========
Weighted average Common Shares
outstanding - diluted (see Note 2) ............... 27,693 27,071 27,622 26,91413,554
========= ========= ========= =========
The accompanying notes are an integral part of the financial statements.
4
MANUFACTURED HOME COMMUNITIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWSOPERATIONS (CONTINUED)
FOR THE NINEQUARTERS AND SIX MONTHS ENDED SEPTEMBERJUNE 30, 20022003 AND 20012002
(AMOUNTS IN THOUSANDS)THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
SEPTEMBERQUARTERS ENDED SIX MONTHS ENDED
JUNE 30, SEPTEMBERJUNE 30,
------------------------ --------------------
2003 2002 2001
------------- -------------2003 2002
----------- --------- -------- --------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income ..................................................................
EARNINGS PER COMMON SHARE - BASIC:
Income from continuing operations ................ $ 20,261.24 $ 24,876
Adjustments to reconcile net income to cash provided by operating activities:.28 $ .58 $ .58
Income allocated to Minority Interests .................................. 13,447 14,843
Gain on sale of Properties and other .................................... (1,270) (8,093)
Depreciation and amortization expense ................................... 28,342 27,764
Equity in income of affiliates and joint ventures ....................... (763) (2,216)
Amortization of deferred compensation and other ......................... 3,186 1,575
Decrease in inventory ................................................... 1,288 ---
Increase in rents receivable ............................................ (204) (207)
Increase in prepaid expenses and other assets ........................... (3,816) (3,306)
Increase in accounts payable and accrued expenses ....................... 5,407 3,753
Increase in rents received in advance and security deposits ............. 2,273 2,113from discontinued operations .............. .41 .02 .43 .05
----------- --------- -------- --------
Net cash provided by operating activities ................................... 68,151 61,102
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Contributions to affiliates ................................................. --- (5,526)
(Funding) collection of notes receivable .................................... (1,798) 3,478
Investment in joint ventures net of distributions received .................. 502 1,589
Proceedsincome available for Common Shares............. $ .65 $ .30 $ 1.00 $ .63
=========== ========= ======== ========
EARNINGS PER COMMON SHARE - FULLY DILUTED:
Income from restructuring of College Heights joint venture ................ 4,647 ---
Proceedscontinuing operations.................. $ .24 $ .27 $ .57 $ .57
Income from disposition of rental Properties and other assets ............. --- 16,864
Purchase of Realty Systems, Inc. common stock ............................... (675) ---
Cash received with purchase of Realty Systems, Inc. ......................... 839 ---
Acquisition of rental Properties ........................................... (49,632) (16,879)
Improvements:
Improvements - corporate ................................................ (324) (635)
Improvements - rental properties ........................................ (10,058) (8,526)
Site development costs .................................................. (7,293) (6,114)discontinued operations................ .40 .02 .42 .05
----------- --------- -------- --------
Net cash used in investing activities ....................................... (63,792) (15,749)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net proceeds from stock options and employee stock purchase plan ............ 7,469 7,339
Distributions toincome available for Common Stockholders, Common OP Unitholders and
Perpetual Preferred OP Unitholders ...................................... (46,436) (43,309)
Repurchase of Common Stock or OP Units ...................................... --- (33)
Collection of principal payments on employee notes .......................... 1,061 315
Line of credit:
Proceeds ................................................................ 65,500 46,000
Repayments .............................................................. (7,500) (86,650)
Refinancing and loan repayments ............................................. (3,236) 37,870
Principal payments .......................................................... (9,001) (4,084)
Debt issuance costs ......................................................... (495) (583)
-------- --------
Net cash used in financing activities ....................................... 7,362 (43,135)
-------- --------
Net increase in cash and cash equivalents ........................................ 11,721 2,218
Cash and cash equivalents, beginning of period ................................... 1,354 2,847
-------- --------
Cash and cash equivalents, end of period .........................................Shares............. $ 13,075.64 $ 5,065.29 $ .98 $ .61
=========== ========= ======== ========
SUPPLEMENTAL INFORMATION:
Cash paid during the periodDistributions declared per Common Shares
outstanding.................................... $ .495 $ .475 $ .99 $ .95
=========== ========= ======== ========
Weighted average Common Shares outstanding -
basic.......................................... 22,027 21,563 21,973 21,498
=========== ========= ======== ========
Weighted average Common Shares outstanding -
fully diluted.................................. 27,965 27,664 27,853 27,587
=========== ========= ======== ========
MANUFACTURED HOME COMMUNITIES, INC.
CONSOLIDATED STATEMENTS OF OTHER COMPREHENSIVE INCOME
FOR THE QUARTERS AND SIX MONTHS ENDED JUNE 30, 2003 AND 2002
(AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
QUARTERS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
----------------- -----------------
2003 2002 2003 2002
------- ------- ------- -------
Net income available for interest .........................................Common Shares .......... $14,400 $ 34,7766,438 $22,072 $13,554
Net unrealized holding (losses) gains on
derivative instruments ................. 341 (2,557) 492 342
------- ------- ------- -------
Net other comprehensive income available for
Common Shares .......................... $14,741 $ 39,011
======== ========3,881 $22,564 $13,896
======= ======= ======= =======
The accompanying notes are an integral part of the financial statements.
5
MANUFACTURED HOME COMMUNITIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 2003 AND 2002
(AMOUNTS IN THOUSANDS)
(UNAUDITED)
JUNE 30, JUNE 30,
2003 2002
-------- --------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income ..................................................... $ 22,072 $ 13,554
Adjustments to reconcile net income to
cash provided by operating activities:
Income allocated to Minority Interests ..................... 10,918 8,983
Gain on sale of property ................................... (10,697) --
Depreciation and amortization expense and other ............ 19,659 18,903
Equity in income of unconsolidated joint ventures .......... (1,127) (627)
Amortization of deferred compensation and other ............ 980 2,560
Decrease in provision for uncollectible rents receivable ... 89 --
Changes in assets and liabilities:
Increase in rents receivable ............................... (574) (91)
(Increase) decrease in inventory ........................... (967) 723
Increase in prepaid expenses and other assets .............. (3,586) (2,672)
(Decrease) increase in accounts payable and accrued expenses (83) 457
Increase in rents received in advance and security deposits 629 1,602
-------- --------
Net cash provided by operating activities ...................... 37,313 43,392
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of rental properties ............................... -- (9,026)
Proceeds from disposition of assets ............................ 27,083 --
Distributions from joint ventures .............................. 688 322
Purchase of RSI ................................................ -- (675)
Cash received in acquisition of RSI ............................ -- 844
Funding of notes receivable .................................... (545) (867)
Improvements:
Improvements - corporate ................................... (72) (324)
Improvements - rental properties ........................... (6,207) (6,004)
Site development costs ..................................... (3,330) (5,740)
-------- --------
Net cash provided by (used in) investing activities ............ 17,617 (21,470)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net proceeds from stock options and employee stock purchase plan 4,705 5,156
Distributions to Common Stockholders, Common OP Unitholders and
Perpetual Preferred OP Unitholders ......................... (32,395) (30,603)
Collection of principal payments on employee notes ............. 2,713 994
Line of credit:
Proceeds ................................................... 27,000 26,500
Repayments ................................................. (57,650) (7,500)
Refinancings - net proceeds (repayments) ....................... 13,974 (4,733)
Principal payments ............................................. (2,755) (2,197)
Debt issuance costs ............................................ (302) (510)
-------- --------
Net cash used in financing activities .......................... (44,710) (12,893)
-------- --------
Net increase in cash and cash equivalents ........................... 10,220 9,029
Cash and cash equivalents, beginning of period ...................... 7,270 1,354
-------- --------
Cash and cash equivalents, end of period ............................ $ 17,490 $ 10,383
======== ========
SUPPLEMENTAL INFORMATION:
Cash paid during the period for interest ............................ $ 25,651 $ 24,477
======== ========
The accompanying notes are an integral part of the financial statements.
6
MANUFACTURED HOME COMMUNITIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DEFINITION OF TERMS:
Manufactured Home Communities, Inc., together with MHC Operating Limited
Partnership (the "Operating Partnership") and other consolidated subsidiaries
("Subsidiaries"), are referred to herein as the "Company", "MHC", "we", "us",
and "our". Capitalized terms used but not defined herein are as defined in the
Company's Annual Report on Form 10-K (the "2002 Form 10-K") for the year ended
December 31, 2001.2002.
PRESENTATION:
These unaudited Consolidated Financial Statements of Manufactured Home
Communities, Inc.,MHC, a Maryland
corporation, and its subsidiaries (collectively,
the "Company"), have been prepared pursuant to the Securities and Exchange
Commission ("SEC") rules and regulations and should be read in conjunction with
the financial statements and notes thereto included in the Company's 2001 Annual
Report on2002 Form 10-K (the "2001 Form 10-K").10-K. The
following Notes to Consolidated Financial Statements highlight significant
changes to the Notes included in the 20012002 Form 10-K and present interim
disclosures as required by the SEC. The accompanying Consolidated Financial
Statements reflect, in the opinion of management, all adjustments necessary for
a fair presentation of the interim financial statements. All such adjustments
are of a normal and recurring nature. Certain reclassifications have been made
to the prior periods' financial statements in order to conform with current
period presentation.
NOTE 1 - SIGNIFICANT ACCOUNTING POLICIES
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States ("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.
(a) SegmentsBasis of Consolidation
The Company consolidates its majority-owned subsidiaries in which it has
the ability to control the operations of the subsidiaries. The Company does not
consolidate entities over which it does not have sole control of the major
decisions. All inter-company transactions have been eliminated in consolidation.
The Company's acquisitions were all accounted for as purchases in accordance
with Accounting Principles Board Opinion No. 16 "Business Combinations" for
those transactions initiated before June 30, 2001 and in accordance with
Statement of Financial Accounting Standards No. 131, "Disclosures about
Segments141 "Business Combinations" for
those transactions completed after June 30, 2001.
In January 2003, the FASB issued Interpretation No. 46 ("FIN 46"),
Consolidation of an Enterprise and Related Information" ("SFAS No. 131")Variable Interest Entities. The FIN 46 requires certain disclosuresa variable
interest entity to be consolidated by a company if that company is subject to a
majority of selected information about operating segmentsthe risk of loss from the variable interest entity's activities or
entitled to receive a majority of the entity's residual returns or both. The
consolidation requirements of FIN 46 apply immediately to variable interest
entities created after January 31, 2003. The consolidation requirements apply to
older entities in the annualfirst fiscal year or interim period beginning after June
15, 2003. The Company has adopted FIN 46 in the third quarter of 2003 and we
have determined adoption will not have a material effect on the financial
statements and related disclosures about products and services,
geographic areas, and major customers. The adoption of SFAS No. 131, in June
1998, did not affect the results of operations or financial position of the Company.
The Company manages(b) Segments
We manage all our operations on a property by property basis. Since each
property has similar economic and operational characteristics, the Company has
one reportable segment, which is the operation of manufactured home communities.
(b)The distribution of the Properties throughout the United States reflects our
belief that geographic diversification helps insulate the portfolio from
regional economic influences. We intend to target new acquisitions in or near
markets where the Properties are located and will also consider acquisitions of
properties outside such markets.
7
MANUFACTURED HOME COMMUNITIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
(c) Inventory
Inventory consists of completed new and used manufactured homes, is stated at the
lower of cost or market and is net of a valuation allowance calculated after
consideration of the N.A.D.A.NADA (National Automobile Dealers Association) Manufactured
Housing Appraisal Guide and the current market value of the
manufactured home inventory.Guide. Inventory sales revenues and resale revenues are
recognized when the home sale is closed. Resale revenues are stated net of
commissions paid to employees of $151,000$229,000 and $513,000435,000, respectively, for the
quarterquarters and ninesix months ended SeptemberJune 30, 2002, respectively.
(c)2003.
(d) Notes Receivable
Notes receivable generally are stated at their outstanding unpaid principal
balances net of anany deferred fees or costs on originated loans, or unamortized
discounts or premiums net of a valuation allowance. Interest income is accrued
on the unpaid principal balance. Discounts or premiums are amortized to income
using the interest method. In certain cases we finance the sale of homes to our
residents (referred to as "Chattel Loans") which are secured by the homes. The
valuation allowance for doubtful accounts.
6
MANUFACTURED HOME COMMUNITIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
(d)the Chattel Loans is calculated based on a comparison of
the outstanding principal balance of each note compared to the N.A.D.A. value of
the underlying manufactured home collateral.
(e) Real Estate
Real estate is recorded at cost less accumulated depreciation. Depreciation
is computed on the straight-line basis over the estimated useful lives of the
assets. The Company usesWe use a 30-year estimated life for buildings acquired and structural
and land improvements, a ten-to-fifteen-year estimated life for building
upgrades and a three-to-seven-year estimated life for furniture, fixtures and
equipment. Expenditures for ordinary maintenance and repairs are expensed to
operations as incurred and significant renovations and improvements that improve
the asset and extend the useful life of the asset are capitalized and then
expensed over their estimated useful life. The determinationOur estimates of useful lives,
salvage value, and depreciation method used are in conformity with GAAP. However, the
useful lives, salvage value, and customary depreciation method used for land
improvements and other significant assets may significantly and materially
overstate the depreciation of the underlying assets and therefore understate the
Net Income of the Company.proscribed by various generally
accepted accounting principles ("GAAP") literature. In addition, the Financial
Accounting Standards Board ("FASB") is currently reviewing the methods of
depreciation and cost capitalization for all industries and in June 2001 issued
FASB Exposure Drafts,
AccountingDraft, "Accounting in Interim and Annual Financial Statements for
Certain Costs and Activities Related to Property, Plant and Equipment,Equipment", the
implementation of which, if issued, could also have a material effect on the
Company's results of operations.
Certain costs, primarily legal costs, relative to our efforts to
effectively change the use and operations of several Properties subject to rent
control (see Note 9) are currently classified in other assets. These costs, to
the extent these efforts are successful, are capitalized to the extent of the
established value of the revised project and included in the net investment in
real estate for the appropriate Properties. For the six months ended June 30,
2003, we have capitalized $859,000 of these costs. To the extent these efforts
are not successful, these costs will be expensed. In addition, we capitalize
certain costs, primarily legal costs, related to entering into lease agreements
which govern the terms under which we may enter into leases with individual
tenants and which are expensed over the term of the lease agreement.
8
MANUFACTURED HOME COMMUNITIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 2 - EARNINGS PER COMMON SHARE
Earnings per common share are based on the weighted average number of
common shares outstanding during each period. Statement of Financial Accounting
Standards No. 128, "Earnings Per Share" ("SFAS No. 128") defines the calculation
of basic and fully diluted earnings per share. Basic and fully diluted earnings
per share are based on the weighted average shares outstanding during each
period and basic earnings per share excludes any dilutive effects of options,
warrants and convertible securities. The conversion of OP Units has been
excluded from the basic earnings per share calculation. The conversion of an OP
Unit to a share of common stock has no material effect on earnings per common
share.
The following table sets forth the computation of basic and diluted
earnings per share for the quarters and ninesix months ended SeptemberJune 30, 20022003 and 20012002
(amounts in thousands):
QUARTERS ENDED NINESIX MONTHS ENDED
--------------------- ---------------------
SEPT.------------------ ------------------
JUNE 30, SEPT.JUNE 30, SEPT.JUNE 30, SEPT.JUNE 30,
2003 2002 20012003 2002
2001
--------- --------- --------- ----------------- -------- -------- --------
NUMERATOR:
Numerator for basic earnings per share -NUMERATORS:
NET INCOME FROM CONTINUING OPERATIONS:
Net income ...................................from
continuing operations - basic .......... $ 6,7125,337 $ 6,097 $20,261 $24,876
Effect of dilutive securities:
Income5,952 $12,711 $12,536
Amounts allocated to Common OP Units .......... 1,645 1,558 5,007 6,404dilutive securities ... 1,277 1,474 3,053 3,114
------- ------- ------- -------
Numerator forNet income from continuing operations
- fully diluted earnings per share-$ 6,614 $ 7,426 $15,764 $15,650
======= ======= ======= =======
NET INCOME FROM DISCONTINUED OPERATIONS:
Net income from
discontinued operations - basic ........ $ 9,063 $ 486 $ 9,361 $ 1,018
Amounts allocated to dilutive securities ... 2,167 116 2,239 243
------- ------- ------- -------
Net income from discontinued operations
- fully diluted $11,230 $ 602 $11,600 $ 1,261
======= ======= ======= =======
EARNINGS PER COMMON SHARE- FULLY DILUTED:
Net income available for Common
Shares - basic ......................... $14,400 $ 6,438 $22,072 $13,554
Amounts allocated to common shareholders
after assumed conversions ..................dilutive securities ... 3,444 1,590 5,292 3,357
------- ------- ------- -------
Net income available for Common
Shares - fully diluted ................. $17,844 $ 8,357 $ 7,655 $25,268 $31,2808,028 $27,364 $16,911
======= ======= ======= =======
DENOMINATOR:
Denominator for basic earnings per share -
Weighted average Common StockShares
outstanding .... 21,676 21,108 21,558 20,958- basic ...................... 22,027 21,563 21,973 21,498
Effect of dilutive securities:
Weighted average Common OP Units ............. 5,400 5,440 5,414 5,475.............. 5,344 5,417 5,351 5,421
Employee stock options ....................... 617 523 650 481........................ 594 684 529 668
------- ------- ------- -------
Denominator forWeighted average Common Shares
outstanding - fully diluted earnings per share-
adjusted weighted average shares and
assumed conversions ........................ 27,693 27,071 27,622 26,914.............. 27,965 27,664 27,853 27,587
======= ======= ======= =======
7NOTE 3 - COMMON STOCK AND RELATED TRANSACTIONS
On April 11, 2003, the Company paid a $.495 per share distribution for the
quarter ended March 31, 2003 to stockholders of record on March 28, 2003. On
July 11, 2003, the Company paid a $.495 per share distribution for the quarter
ended June 30, 2003 to stockholders of record on June 27, 2003.
9
MANUFACTURED HOME COMMUNITIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 3 - COMMON STOCK AND RELATED TRANSACTIONS
On April 12, 2002, July 12, 2002, and October 11, 2002, the Company paid a
$.475 per share distribution for the quarter ended March 31, 2002, June 30, 2002
and September 30, 2002, respectively, to stockholders of record on March 29,
2002, June 28, 2002 and September 27, 2002, respectively.
On August 6, 2002, the Company's Board of Directors authorized the
repurchase of up to one million shares of the Company's common stock. There were
no share repurchases during the quarter. The shares may be purchased through
open market or privately negotiated transactions.
NOTE 4 - ACQUISITION OF REALTY SYSTEMS, INC.INVESTMENT IN REAL ESTATE
On January 1, 2002, the Company purchased all of the common stock of Realty
Systems, Inc. ("RSI"). The Company previously owned the non-voting preferred
stock of RSI and had notes receivable from RSI which were recorded as an
investment in affiliate. The Company purchased the common stock of RSI from
Equity Group Investments, Inc., controlled by Samuel Zell, Chairman of the Board
of Directors of the Company, for approximately $675,000. As a result of this
acquisition, the Company owns and controls RSI and consolidates the financial
results of RSI with those of the Company. Certain costs included in the
acquisition are based on management's estimates and are subject to adjustment
within one year of the closing date of January 1, 2002.
The following table summarizes the estimated fair values of the assets
acquired and liabilities assumed at the date of acquisition:
(amounts in thousands)
ASSETS
Buildings and other depreciable property............... $ 6,656
Cash and cash equivalents.............................. 844
Notes receivable....................................... 4,772
Investment in joint ventures........................... 200
Inventory.............................................. 35,524
Prepaid expenses and other assets...................... 2,719
-----------------
Total assets acquired............................... 50,715
LIABILITIES
Other notes payable.................................... (12,862)
Accounts payable and accrued expenses.................. (2,718)
Accrued interest payable............................... (73)
-----------------
Total liabilities assumed........................... (15,653)
Conversion of previous investment...................... (34,387)
-----------------
Cash paid for common equity interest................... $ (675)
=================
8
MANUFACTURED HOME COMMUNITIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 5 - COLLEGE HEIGHTS JOINT VENTURE RESTRUCTURING
Effective September 1, 2002, the Company restructured its investment in
Wolverine Property Investment Limited Partnership (the "College Heights Joint
Venture" or the "Venture"), a joint venture with Wolverine Investors, LLP. The
Venture included 18 properties with 3,581 sites. The results of operations of
the College Heights Joint Venture prior to restructuring were included with the
results of the Company due to the Company's voting equity interest and control
over the Venture. Pursuant to the restructuring,June 6, 2003, the Company sold its general
partnership interest, sold all of the Company's voting equity interest and
reduced the Company's total investmentIndependence Hill, located in the College Heights Joint Venture. As
consideration for the sale the Company retained sole ownership of Down Yonder, a
361 site community in Clearwater, Florida, received cash of approximately $5.2
million and retained preferred limited partnership interests of approximately
$10.3 million. The continuing preferred limited partnership interests will be
accounted for using the equity method and reported as an investment in a joint
venture.
NOTE 6 - REAL ESTATE
On March 12, 2002, the Company acquired Mt. Hood Village, a recreational
vehicle ("RV") communityMorgantown,
West Virginia with a total of 450203 sites for approximately $6.8$3.9 million and recorded a gain on
sale of $2.8 million. Mt. Hood Village isOn June 6, 2003, the Company sold Brook Gardens located in
Welches, OregonHamburg, New York with a total of 424 sites for $17.8 million and has land availablerecorded a
gain on sale of $4.0 million. On June 30, 2003, the Company sold Pheasant Ridge
located in Mount Airy, Maryland with a total of 101 sites for up$5.4 million and
recorded a gain on sale of $3.9 million. Proceeds from the sales were used to
120 expansion sites. The acquisition was funded by a borrowingrepay amounts on the Company's line of credit.
The Company acquired six Properties with a total of 2,572 sites, for
approximately $66.1 million. The acquisition was funded by a borrowing on the
Company's line of credit and the assumption of approximately $30 million of debt
on five of the Properties. The following table summarizes the Properties
purchased and their total sites.
Date Acquired Property Location Total Sites
-------------------------------------------- ------------------------- --------------
July 10, 2002 Harbor View Manor New Port Richey, FL 471
July 31, 2002 Golden Sun Apache Junction, AZ 330
July 31, 2002 Countryside RV Resort Apache Junction, AZ 560
July 31, 2002 Holiday Village Ormond Beach, FL 301
July 31, 2002 Breezy Hill RV Resort Pompano Beach, FL 762
August 4, 2002 Highland Woods Pompano Beach, FL 148
On August 7, 2002 the Company acquired Tropic Winds RV Resort, a
recreational vehicle ("RV") community with 492 sites for approximately $4.7
million. Tropic Winds RV Resort is located in Harlingen, TX. The acquisition was
funded with borrowings on the Company's line of credit.
Third party costs relative to efforts by the Company to effectively change
the use and operations of certain Properties subject to California rent control
laws are currently recorded in land improvements (see Note 10). To the extent
these efforts are successful, such expenditures will be included in the net
investment in real estate for the appropriate Properties. To the extent these
efforts are not successful, such amounts will be expensed at the time such
determination is made.
The Company is actively seeking to acquire additional manufactured home and
RV
communities and currently is engaged in negotiations relating to the possible
acquisition of a number of Properties. At any time these negotiations are at
varying stages which may include contracts outstanding to acquire certain
manufactured home and RV communities which are subject to satisfactory completion of
the Company's due diligence review.
NOTE 75 - NOTES RECEIVABLE
As of SeptemberJune 30, 20022003 and December 31, 2001,2002, the Company had approximately
$8.1$10.5 million and $1.5$10.0 million in notes receivable, respectively. The Company
has approximately $1.5$1.6 million in notes which bear interest at a per annum rate
of prime plus 0.5% and mature on December 31, 2011. The notes are collateralized
with a combination of Common OP Units and partnership interests in certain joint
ventures. The Company has approximately $6.6$8.9 million in notesChattel Loans
receivable, which yield interest at a per annum average rate of approximately
11.3%9.0%, have an average term and amortization of 5 to 15 years, require monthly
principal and interest payments and are collateralized by manufactured homes at
certain Properties.
NOTE 6 - INVESTMENT IN JOINT VENTURES
The Company recorded approximately $1.1 million and $667,000 of net income
from joint ventures in the Properties.
9six months ended June 30, 2003 and 2002,
respectively, and received approximately $688,000 and $322,000 in distributions
for the six months ended June 30, 2003 and 2002, respectively. Due to the
Company's inability to control the joint ventures, the Company accounts for its
investment in the joint ventures using the equity method of accounting.
The following table summarizes the Company's investments in unconsolidated joint
ventures:
INVESTMENT AS OF
NUMBER OF ECONOMIC JUNE 30, DECEMBER 31,
PROPERTY LOCATION SITES INTEREST (a) 2003 2002
- ------------------------ ------------------ --------- ------------ ---------- -----------
(in thousands)
Trails West Tucson, AZ 503 50% $ 1,931 $ 1,917
Plantation Calimesa, CA 385 50% 2,858 2,861
Manatee Bradenton, FL 290 90% 84 631
Home Hallandale, FL 136 90% 1,076 1,092
Villa del Sol Sarasota, FL 207 90% 692 726
Voyager RV Resort Tucson, AZ -- 25% 4,604 4,463
Preferred Interests in College Heights -- 17% 7,944 7,944
--------- ---------- -----------
1,521 $19,189 $19,634
========= ========== ===========
(a) The percentages shown approximate the Company's economic interest. The
Company's legal interest may differ.
10
MANUFACTURED HOME COMMUNITIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 87 - LONG-TERM BORROWINGS
As of SeptemberJune 30, 20022003 and December 31, 2001,2002, the Company had outstanding
mortgage indebtedness of approximately $560.3$586.6 million and $590.4$575.4 million,
respectively, encumbering 64 and 60, respectively,66 of the Company's Properties. As of SeptemberJune 30, 20022003
and December 31, 2001,2003, the carrying value of such Properties was approximately
$643.4$722 million and $612.0$720 million, respectively.
The outstanding mortgage indebtedness consists of:
- -o A $265.0 million mortgage note (the "$265 Million Mortgage") collateralized
by 2928 Properties beneficially owned by MHC Financing Limited Partnership.
The $265 Million Mortgage has a maturity date of January 2, 2028 and pays
interest at a rate of 7.015% per annum. There is no principal amortization
until February 1, 2008, after which principal and interest are to be paid
from available cash flow and the interest rate will be reset at a rate
equal to the then 10-year U.S. Treasury obligations plus 2.0%. The $265
Million Mortgage is recorded net of a hedge of $3.0 million (net of
accumulated amortization of $192,000) which$302,000) that is being amortized into interest
expense over the life of the loan.
- -o A $92.5$91.9 million mortgage note (the "DeAnza Mortgage") collateralized by 6
Properties beneficially owned by MHC-DeAnza Financing Limited Partnership.
The DeAnza Mortgage bears interest at a rate of 7.82% per annum, amortizes
beginning August 1, 2000 over 30 years and matures July 1, 2010.
- -o A $22.2$49.2 million mortgage note (the "Stagecoach Mortgage") collateralized by
7 Properties beneficially owed by MHC Stagecoach L.L.C. The Stagecoach
Mortgage bears interest at a rate of 6.98% per annum, amortizes beginning
September 1, 2001 over 10 years and matures September 1, 2011.
o A $44.9 million mortgage note (the "Bay Indies Mortgage") collateralized by
one Property beneficially owned by MHC-Bay Indies Financing Limited
Partnership. TheOn April 17, 2003, we entered into an agreement which
increased the Bay Indies Mortgage to $45 million. Under the new agreement,
the Bay Indies Mortgage bears interest at a rate of 7.48%5.69% per annum, amortizes beginning August 1, 1994 over
27.525 years and matures July
1, 2004.
- -April 17, 2013.
o A $15.5$15.4 million mortgage note (the "Date Palm Mortgage") collateralized by
one Property beneficially owned by MHC Date Palm, L.L.C. The Date Palm
Mortgage bears interest at a rate of 7.96% per annum, amortizes beginning
August 1, 2000 over 30 years and matures July 1, 2010.
- - A $49.5 million mortgage note (the "Stagecoach Mortgage") collateralized by
7 Properties beneficially owned by MHC Stagecoach, L.L.C. The Stagecoach
Mortgage bears interest at a rate of 6.98% per annum, amortizes beginning
September 1, 2001 over 10 years and matures September 1, 2011.
- -o Approximately $118.4$122.9 million of mortgage debt on 23 other various
Properties, which was recorded at fair market value with the related
discount or premium being amortized over the life of the loan using the
effective interest rate. Scheduled maturities for the outstanding
indebtedness are at various dates through November 30, 2020, and fixed
interest rates range from 6.5% to 8.92%9.3% per annum. In addition,Included in this debt,
the Company has a $2.4 million loan recorded to account for a direct
financing lease entered into in May 1997.
The Company has a $150 millionWe have an unsecured line of credit with a group of banks (the "Credit Agreement""Line of
Credit") with a total facility of $150 million, bearing interest at the London
Interbank Offered Rate ("LIBOR") plus 1.125%, which. The Line of Credit matures on
August 9, 2003 and haswith two one-year extension options. The Company paysoptions with which we may extend the
maturity through August 9, 2005. In July 2003, we exercised our extension option
through August 9, 2004. We pay a quarterly fee on the average unused amount of
such credit equal to 0.15% of such amount. As of SeptemberJune 30, 2002 and
December 31, 2001, the Company had $74.32003, $95.9 million
and $16.3 million,
respectively, outstandingwas available under the Credit Agreement.
The Company hasLine of Credit.
We have a $100 million unsecured term loan (the "Term Loan") with a group
of banks with interest only payable monthly at a rate of LIBOR plus 1.375%. The
Term Loan matures on August 9, 2003 and haswith two one-year extension options.
10options with
which we may extend the maturity through August 9, 2005. In July 2003, we
exercised our extension option through August 9, 2004.
11
MANUFACTURED HOME COMMUNITIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 87 - LONG-TERM BORROWINGS (CONTINUED)
On October 29, 2001, the Companywe entered into an interest rate swap agreement (the
"Swap""2001 Swap"), effectively fixing the LIBOR rate on $100 million of the Company'sour floating
rate debt at approximately 3.7% per annum for the period October 2001 through
August 2004. The terms of the 2001 Swap require monthly settlements on the same
dates that interest payments are due on the debt. Effective January 1, 2001, the
Company adopted Statement of Financial Accounting Standards No. 133, "Accounting
for Derivative Instruments and Hedging Activities" ("SFAS No. 133") and its
amendments, SFAS No. 137 and SFAS No. 138. In accordance with SFAS No. 133, the
Swap isinterest rate swap will be reflected at market value. The Company believesWe believe the 2001 Swap
is a perfectly effective cash flow hedge, perunder SFAS No. 133, and there will beis no
effect on net income as a result of the mark-to-market adjustment. As of SeptemberJune
30, 2002,2003, the hedge represented a liability of approximately $4.3 million and is
recorded in accounts payable and accrued expenses. Mark-to-market changes in the
value of the swap2001 Swap are included in other comprehensive income.
The Company has a $7.0 million note payable ("Conseco Financing Note")NOTE 8 - STOCK-BASED COMPENSATION
Prior to 2003 we had chosen to account for our stock compensation in
accordance with APB No. 25, "Accounting for Stock Issued to Employees", collateralized by manufactured home inventory. The Conseco Financing Note bears
interest atbased
upon the prime rate and matures at various dates through March 2004 or
when the inventory homes are sold. As of April 1, 2002, the Company stopped
funding inventory purchases with the Conseco Financing Note and all future
purchases of inventory will be funded with the Company's existing line of
credit.
The Company has approximately $112,000 of installment notes payable ("MPW
Notes"), secured by a letter of credit,intrinsic value method. This method results in no compensation expense
for options issued with an interest rateexercise price equal to or exceeding the market value
of 6.5%the Common Shares on the date of grant. Effective January 1, 2003, we elected
to account for our stock-based compensation in accordance with SFAS No. 123 and
its amendment (SFAS No. 148), "Accounting for Stock Based Compensation", which
will result in compensation expense being recorded based on the fair value of
the stock option compensation issued. SFAS 148 provides three possible
transition methods for changing to the fair value method. We have elected to use
the modified-prospective method. This method requires that we recognize
stock-based employee compensation cost from the beginning of the fiscal year in
which the recognition provisions are first applied as if the fair value method
had been used to account for all employee awards granted, or settled in fiscal
years beginning after December 15, 1994. The following table illustrates the
effect on net income and earnings per annum,
maturing September 1, 2007. The notes pay interest quarterly.
NOTE 9 - STOCK OPTIONSshare as if the fair value method was
applied to all outstanding and unvested awards in each period presented:
QUARTERS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30,
----------------------- -------------------------
2003 2002 2003 2002
-------- -------- ---------- --------
Net income available for Commonz
Shares as reported ............... $ 14,400 $ 6,438 $ 22,072 $ 13,554
Add: Stock-based compensation
expense included in net income as
reported ......................... 476 684 980 1,368
Deduct: Stock-based compensation
expense determined under the fair
value based method for all awards (476) (616) (980) (1,232)
-------- -------- -------- --------
Pro forma net income available for
Common Shares .................... $ 14,400 $ 6,506 $ 22,072 $ 13,690
======== ======== ======== ========
Pro forma net income per Common
Share - Basic .................... $ .65 $ .30 $ 1.00 $ .64
======== ======== ======== ========
Pro forma net income per Common
Share - Fully Diluted ............ $ .64 $ .29 $ .98 $ .62
======== ======== ======== ========
Pursuant to the Stock Option Plan as discussed in Note 14 to the 20012002 Form
10-K, certain officers, directors, employees and consultants have been offered
the opportunity to acquire shares of common stock of the Company through stock
options ("Options"). During the ninesix months ended SeptemberJune 30, 2002,2003, Options for
107,531138,041 shares of common stock were exercised.
12
MANUFACTURED HOME COMMUNITIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 109 - COMMITMENTS AND CONTINGENCIES
DEANZA SANTA CRUZ MOBILE ESTATES
The residents of DeAnza Santa Cruz Mobile Estates, a Propertyproperty located in
Santa Cruz, California, (the "City"), previously brought several actions opposing
certain fees and charges in
connection with water service at the Property. This
summary provides the history and reasoning underlying the Company's defenseproperty. As a result of the residents' claims and explains the Company's decision to continue to defend
its position, whichone action, the
Company believes is fair and accurate.
DeAnza Santa Cruz Mobile Estates is a 198-site community overlooking the
Pacific Ocean. It is subjectrebated approximately $36,000 to the City's rent control ordinance which limits
annual rent increases to 75% of CPI.residents. The Company purchased this Property in
August 1994 from certain unaffiliated DeAnza entities ("DeAnza"). Prior to the
Company's purchase in 1994, DeAnza made the decision to submeter and separately
bill tenants at the Property for both water and sewer in 1993 in the face of the
City's rapidly rising utility costs.
Under California Civil Code Section 798.41, DeAnza was required to reduce
rent by an amount equal to the average cost of usage over the preceding 12
months. This was done. With respect to water charges, because DeAnza did not
want to be regulated by the California Public Utility Commission ("CPUC"),
DeAnza relied on California Public Utilities Code Section 2705.5 ("CPUC Section
2705.5") to determine what rates would be charged for water on an ongoing basis
without becoming a public utility. DeAnza and the Company interpreted the
statute as providing that in a submetered mobile home park, the property owner
is not subject to regulation and control of the CPUC so long as the users are
charged what they would be charged by the utility company if users received
their water directly from the utility company. In Santa Cruz, customers
receiving their water directly from the City's water utility were charged a
certain lifeline rate for the first 400 ccfs of water and a greater rate for
usage over 400 ccfs of water, a readiness to serve charge of $7.80 per month and
tax on the total. In reliance on CPUC Section 2705.5, DeAnza implemented its
billings on this schedule notwithstanding that it did not receive the discount
for the first 400 ccfs of water because it was a commercial and not a
residential customer.
11
MANUFACTURED HOME COMMUNITIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 10 - COMMITMENTS AND CONTINGENCIES (CONTINUED)
A dispute with the residents ensued over the readiness to serve charge and
tax thereon. The residents argued that California Civil Code Section 798.41
required that the Property owner could only pass through its actual costs of
water (and that the excess charges over the amount of the rent rollback were an
improper rent increase) and that CPUC Section 2705.5 was not applicable. DeAnza
unbundled the utility charges from rent consistent with California Civil Code
Section 798.41 and it has generally been undisputed that the rent rollback was
accurately calculated.
In August 1994, when the Company acquired the Property, the Company
reviewed the respective legal positions of the Santa Cruz
Homeowners Association ("HOA") and DeAnza and concurred with DeAnza. DeAnza's reliance on CPUC Section
2705.5 made both legal and practical sense in that residents paid only what they
would pay if they lived inthen proceeded to a residential neighborhood within the City and
permitted DeAnzajury trial alleging these
"overcharges" entitled them to recoup partan award of the expenses of operatingpunitive damages. In January 1999, a
submetered system
through the readiness to serve charge.
Over a period of 18 months from 1993 into May of 1995, a series of
complaints were filed byjury awarded the HOA and Herbert Rossman, a resident, against
DeAnza, and later, the Company. DeAnza and the Company demurred to each of these
complaints on the grounds that the CPUC had exclusive jurisdiction over the
setting of water rates and that residents under rent control had to first
exhaust their administrative remedies before proceeding in a civil action. At
one point, the case was dismissed (with leave to amend) on the basis that
jurisdiction was with the CPUC and, at another point, Mr. Rossman was dismissed
from the case because he had not exhausted his administrative remedies.
On June 29, 1995, a hearing was held before a City rent control officer on
billing and submetering issues related to both water and sewer. The Company and
DeAnza prevailed on all issues related to sewer and the rent rollback related to
water, but the hearing officer determined that the Company could only pass
through its actual cost of water, i.e., a prorated readiness to serve charge and
tax thereon. The hearing officer did not deal with the subsidy being given to
residents through the quantity charge and ordered a rebate in a fixed amount per
resident. The Company and DeAnza requested reconsideration on this issue, among
others, which reconsideration was denied by the hearing officer.
The Company then took a writ of mandate (an appeal from an administrative
order) to the Superior Court and, pending this appeal, the residents, the
Company and the City agreed to stay the effect of the hearing officer's decision
until the Court rendered judgment.
In July 1996, the Superior Court affirmed the hearing officer's decision
without addressing concerns about the failure to take the subsidy on the
quantity charge into account.
The Company requested that the City and the HOA agree to a further stay
pending appeal to the court of appeal, but they refused and the appeal court
denied the Company's request for a stay in late November 1996. Therefore, on
January 1, 1997, the Company reduced its water charges at this Property to
reflect a pass-through of only the readiness to serve charge and tax at the
master meter (approximately $0.73) and to eliminate the subsidy on the water
charges. On their March 1, 1997 rent billings, residents were credited for
amounts previously "overcharged" for readiness to serve charge and tax. The
amount of the rebate given by the Company and DeAnza was $36,400. In calculating
the rebate, the Company and DeAnza took into account the previous subsidy on
water usage although this issue had not yet been decided by the court of appeal.
The Company and DeAnza felt legally safe in so doing based on language in the
hearing officer's decision that actual costs could be passed through.
On March 12, 1997, the Company also filed an application with the CPUC to
dedicate the water system at this Property to public use and have the CPUC set
cost-based rates for water usage. The Company believed it was obligated to take
this action because of its consistent reliance on CPUC Section 2705.5 as a safe
harbor from CPUC jurisdiction. That is, when the Company could no longer charge
for water as the local serving utility would charge, it was no longer exempt
from the CPUC's jurisdiction and control under CPUC Section 2705.5.
12
MANUFACTURED HOME COMMUNITIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 10 - COMMITMENTS AND CONTINGENCIES (CONTINUED)
On March 20, 1998, the court of appeal issued the writ of mandate requested
by the Company on the grounds that the hearing officer had improperly calculated
the amount of the rebate (meaning the Company had correctly calculated the rent
credits), but also ruling that the hearing officer was correct when he found
that the readiness to serve charge and tax thereon as charged by DeAnza and the
Company were an inappropriate rent increase. The decision primarily reflected
the court of appeal's view that CPUC Section 2705.5 operated as a ceiling and
that California Civil Code Section 798.41 allowed for a charge based on actual
costs, including costs of administration, operation and maintenance of the
system, but that the Company did not have to provide evidence of such costs. The
court of appeal further agreed with the Company that the City's hearing officer
did not have the authority under California Civil Code Section 798.41 to
establish rates that could be charged in the future.
Following this decision, the CPUC granted the Company its certificate of
convenience and necessity on December 17, 1998 and approved cost-based rates and
charges for water that exceed what residents were paying under the Company's
reliance on CPUC Section 2705.5. Concurrently, the CPUC also issued an Order
Instituting Investigation ("OII") confirming its exclusive jurisdiction over the
issue of water rates in a submetered system and commencing an investigation into
the confusion and turmoil over billings in submetered properties. Specifically,
the OII states: "The Commission has exclusive and primary jurisdiction over the
establishment of rates for water and sewer services provided by private
entities."
Specifically, the CPUC ruling regarding the Company's application stated:
"The ultimate question of what fees and charges may or may not be assessed,
beyond external supplier pass-through charges, for in-park facilities when a
mobile home park does not adhere to the provisions of CPUC Section 2705.5, must
be decided by the Commission."
After the court of appeal decision, the HOA sought punitive damages against
the Company in a lawsuit that was tried in January 1999 in Santa Cruz County
Superior Court. The trial was continued from July 1998 to January 1999 to give
the CPUC time to act on the Company's application. Notwithstanding the action
taken by the CPUC in issuing the OII in December 1998, the trial court denied
the Company's motion to dismiss on jurisdictional grounds and trial commenced
before a jury on January 11, 1999.
Not only did the trial court not consider the Company's motion to dismiss,
the trial court refused to allow evidence of the OII or the Company's CPUC
approval to go before the jury. Notwithstanding the Company's strenuous
objections, the judge also allowed evidence of the Company's and DeAnza's
litigation tactics to be used as evidence of bad faith and oppressive actions
(including evidence of the application to the CPUC requesting a $22.00 readiness
to serve charge). The Company's motion for a mistrial based upon these
evidentiary rulings was denied. On January 22, 1999, the jury returned a verdict
awarding $6.0 million ofin punitive damages against the Company and DeAnza. The
Company had previously agreed to indemnify DeAnza on the matter.
On April 19, 1999, the trial court denied all of the Company's and DeAnza's
post-trial motions for judgment notwithstanding the verdict, new trial and
remittitur. The trial court also awarded $700,000 of attorneys' fees to
plaintiffs. The Company appealed the jury verdict and attorneys' fees award
(which also accrues interest at the statutory rate of 10.0% per annum). The
Company bonded the judgment pending appeal in accordance with California
procedural rules, which require a bond equal to 150% of the amount of the
judgment. Post-judgment interest will accrue at the statutory rate of 10.0% per
annum.damages. On December 21, 2001 the
California Court of Appeal for the Sixth District reversed the $6.0 million
punitive damage award, the related award of attorneys' fees, and, as a result,
all post-judgementpost-judgment interest thereon, on the basis that punitive damages are not
available as a remedy for a statutory violation of the California Mobile HomeMobilehome
Residency Law ("MRL"). The decision of the appellate court left the HOA, the
plaintiff in this matter, with the right to seek a new trial in which it must
prove its entitlement to either the statutory penalty and attorneys' fees
available under the MRL or punitive damages based on causes of action for fraud,
misrepresentation or other tort. The Company expectsIn order to resolve this case to proceed to
trial in the first quarter of 2003. The Company intends to vigorously defend
itself against these claims. The Court has denied the Company's motion for
summary adjudication of the statutory penalty issue in favor of the Company. The
Company's motion to be declared the prevailing party in this litigation is still
pending, but not expected to be heard before trial.
13
MANUFACTURED HOME COMMUNITIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 10 - COMMITMENTS AND CONTINGENCIES (CONTINUED)
In two related appeals,matter, the Company
had argued thataccrued for and agreed to pay $201,000 to the trial court's
ability to enterHOA. This payment resolves the
punitive damage claim. The HOA's attorney has made a motion asking for an award
of attorneys' fees and costs in favorthe amount of approximately $1.5 million as a
result of this resolution of the HOA andlitigation. On April 2, 2003 the court awarded
attorney's fees to take
certain other actions was preempted by the exercise of exclusive jurisdiction by
the CPUC over the issue of how to set rates for water in a submetered mobile
home park. During 2000, the California court of appeal rejected the Company's
preemption argument with respect to these prior rulings in favor of plaintiffs,
one of which had awarded plaintiffs approximately $100,000 of attorneys' fees.
The California Supreme Court declined to accept the case for review and the
Company paid the judgment, including post-judgment interest thereon, and settled
the matter for approximately $200,000 late in 2000.
In a separate matter, in December 2000 the HOA and certain individual
residents of the Property filed a complaintHOA's attorney in the Superior Courtamount of California,
County$593,000 and court costs
of Santa Cruz (No. CV 139825) against the Company, certain affiliates of
the Company and certain employees of the Company (the "2000 Lawsuit"). The 2000
Lawsuit sought damages, including punitive damages, for intentional infliction
of emotional distress, unfair business practices, and unlawful retaliation
purportedly arising from allegedly retaliatory rent increases which were noticed
by the Company to certain residents in September 2000.approximately $20,000. The Company believes thatintends to appeal the residents who received rent increase notices with respect to rent increases
above those permitted by the local rent control ordinance were not covered by
the ordinance either because they did not comply with the provisions of the
ordinance or because they are exempted by state law. On December 29, 2000, the
Superior Court of California, County of Santa Cruz enjoined such rent increases.
The Company entered into a settlement agreement with the plaintiffs in the
2000 Lawsuit which settlement was approved by the court on July 22, 2002. The
Company believes the settlement agreement is of significant benefit to the
Company. First, pursuant to the settlement agreement all past, present and
future tenants of the Property agree to alternative dispute resolution
procedures which provide that during the next 25 years future disputes will be
resolved through arbitration before a retired judge rather than in court, and
that in such future arbitration proceedings all claims to trial by jury and for
punitive damages are waived.
Second, the settlement agreement provides a process for determining the
rent for 15 sites not subject to rent control, including in certain
circumstances, back rent owing from certain dates in 2001. The settlement
agreement generally gives tenants at these sites three (3) options with respect
to their tenancies. Such tenants may (1) enter into a 34-year lease providing a
rent based on rent control with future escalations based on the consumer price
index, but with the Company retaining the right to charge market rents
determined by the Company upon turnover; (2) enter into a ten (10) year lease
with a monthly rent to be determined by binding arbitration and effective
October 1, 2001; or (3) elect to sell such tenant's home to a third party and
pay back rent owing to the Company (the amount of which will be determined by
arbitration if not agreed to between the tenant and the Company) since January
1, 2001. In certain circumstances the Company will purchase the tenant's home
based upon a mechanism provided in the settlement agreement.
In exchange for the tenants' agreements to the alternative dispute
resolution procedures, the process for resolving back rent owed by tenants not
subject to rent control, and to dismiss the 2000 Lawsuit, the Company agreed to
pay $730,000.
14
MANUFACTURED HOME COMMUNITIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 10 - COMMITMENTS AND CONTINGENCIES (CONTINUED)award.
OTHER CALIFORNIA RENT CONTROL LITIGATION
As part of the Company's effort to realize the value of its Properties
subject to rent control, the Company has initiated lawsuits against several
municipalities in California. The Company's goal is to achieve a level of
regulatory fairness in California's rent control jurisdictions, and in
particular those jurisdictions that prohibit increasing rents to market upon
turnover. This regulatory feature, called vacancy control, allows tenants to
sell their homes for a premium representing the future value of the future discounted
rent-controlled rents. In the Company's view, such regulation results in a
transfer of the value of the Company's shareholders' land, which would otherwise
be reflected in market rents, to tenants upon the sales of their homes in the
form of an inflated purchase price that cannot be attributed to the value of the
home being sold. As a result, in the Company's view, the Company loses the value
of its asset and the selling tenant leaves the community with a windfall
premium. The Company has discovered through the litigation process that certain
municipalities considered condemning the Company's communities at values well
below the value of the underlying land. In the Company's view, a failure to
articulate market rents for sites governed by restrictive rent control would put
the Company at risk for condemnation or eminent domain proceedings based on
artificially reduced rents. Such a physical taking, should it occur, wouldcould
represent substantial lost value to shareholders. The Company is cognizant of
the need for affordable housing in the jurisdictions, but asserts that
regulationsrestrictive rent regulation with vacancy control merely transferdoes not promote this purpose
because the value that belongs tobenefits of such regulation are fully capitalized into the Company's shareholders to tenants inprices of
the form of
premium prices for houses.homes sold. The Company estimates that the annual rent subsidy to tenants in
these jurisdictions is significant.approximately $15 million. In a more well balancedwell-balanced
regulatory environment, the Company would receive market rents that would
eliminate the subsidy and homes would trade at or near their intrinsic value.
13
MANUFACTURED HOME COMMUNITIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 9 - COMMITMENTS AND CONTINGENCIES (CONTINUED)
OTHER CALIFORNIA RENT CONTROL LITIGATION (CONTINUED)
The Company's efforts to achieve a balanced regulatory environment
incentivize tenant groups to file lawsuits against the Company seeking large
damage awards. The 2000 Lawsuit described above under DeAnza Santa Cruz Mobile
Estates is one example. The homeowners association at Contempo Marin ("CMHOA"), a 396
site property in San Rafael, California, sued the Company in December 2000 over
a prior settlement agreement on a capital pass-through after the Company sued
the City of San Rafael in October 2000 alleging its rent control ordinance is
unconstitutional. In the Contempo Marin case, the CMHOA prevailed on a motion
for summary judgment on an issue that permits the Company to collect only $3.72
out of a pass-through amount of $7.50 that the Company believes had been agreed
to by the CMHOA in a settlement agreement. The Company intends to vigorously
defend the matter. The Company believes that such lawsuits will be a consequence
of the Company's efforts to change rent control since tenant groups actively
desire to preserve the premium value of their homes in addition to the
discounted rents provided by rent control. The Company has determined that its
efforts to rebalance the regulatory environment despite the risk of litigation
from tenant groups are necessary not only because of the significant$15 million annual
subsidy to tenants, but also because of the condemnation risk.
ELLENBURG COMMUNITIES
The Company and certain other parties entered into a settlement agreement
(the "Settlement"), which was approved by the Los Angeles County Superior Court
in April 2000. The Settlement resolved substantially all of the litigation and
appeals involving the Ellenburg Properties, and transactions arising out of the
settlementSettlement closed on May 22, 2000. Only the appeal of one entity remains, the
outcome of which is not expected to materially affect the Company.
In connection with the Ellenburg Acquisition, on September 8, 1999,
Ellenburg Fund 20 ("Fund 20") filed a cross complaint in the Ellenburg
dissolution proceeding against the Company and certain of its affiliates
alleging causes of action for fraud and other claims in connection with the
Ellenburg acquisition.Acquisition. The Company subsequently successfully had the cross
complaint against the Company and its affiliates dismissed with prejudice by the
California Superior Court. However, Fund 20 has appealed. ThisAlthough this appeal was
one not resolved by the Settlement. The Company believesSettlement, the California Court of Appeal dismissed
Fund 20's allegations are
without merit and will vigorously defend itself.substantive appeals on March 13, 2003 as moot. Fund 20 petitioned the
California Supreme Court to review this decision which review was denied.
In October 2001, Fund 20 sued the Company and certain of its affiliates
again, this time in Alameda County, California making substantially the same
allegations. The Company obtained an injunction preventing the case from
proceeding until the Fund 20 appeal is decided and other related proceedings in
Arizona (from which the Company has already been dismissed with prejudice) are
concluded. 15
MANUFACTURED HOME COMMUNITIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 10 - COMMITMENTS AND CONTINGENCIES (CONTINUED)
WESTWINDS
The Operating Partnership isCompany has sought to have the ground lessee ("Lessee") of certain
property in San Jose, California under ground leases ("Leases") fromAlameda County action removed to
Los Angeles County Superior Court and permanently enjoined. The Company believes
Fund 20's allegations are without merit and will vigorously defend itself if the
Nicholson Family Trust ("Lessor"). On February 13, 2001, Lessor filed a petition
for arbitration of disputes over whether certain items constitute "gross
revenue" underCourt does not permanently enjoin the Leases, in which petition Lessor seeks damages and
termination of the Leases. Lessee responded on March 12, 2001 disputing Lessor's
contentions. Lessor claims that "gross revenue" for the purpose of calculating
percentage rent owingaction or cause it to Lessor under the Leases includes certain amounts Lessee
has recouped from tenants of the Property (who are protected by rent control)
related to ground rent already paid to Lessor. Lessee has successfully been able
to pass-through to tenants at the Property increases in ground rent under the
Leases. Lessee contends that this pass-through results in reimbursement of lease
expense, not "gross revenue." Lessor also contends that the "net income" of RSI
from the Property should be included in the gross revenue calculation. Lessee
disputes this for many reasons, including, but not limited to, the fact that RSI
is not a lessee under the Leases, the sales activity is not conducted by Lessee,
and RSI is a separate company from Lessee.
Lessor's motion for summary judgment on the pass-through issue was denied
by an arbitration panel on November 2, 2001. Lessor and Lessee agreed to mediate
the dispute and the matter was settled and the lease was amended in early 2002.
Pursuant to the settlement and amendment, Lessee agreed to pay $338,000 related
to prior period rent which was expensed in the first quarter of 2002 and to
prepay rent of $632,000 based on a recalculation of rent in the amended lease.
The rent prepayment and related legal costs will be amortized into ground rent
expense over the remaining life of the lease.otherwise
dismissed.
COUNTRYSIDE AT VERO BEACH
The Company has received letters dated June 17, 2002 and August 26, 2002
from Indian River County Florida ("County"), claiming that the Company currently owes
sewer impact fees in the amount of approximately $518,000 with respect to the
Property known as Countryside at Vero Beach, located in Vero Beach, Florida,
purportedly under the terms of an agreement between the County and a prior owner
of the Property. In response, the Company has advised the County that these fees
are no longer due and owing as a result of a 1996 settlement agreement between
the County and the prior owner of the Property, providing for the payment of
$150,000 to the County to discharge any further obligation for the payment of
impact or connection fees for sewer service at the Property. The Company paid
this settlement amount (with interest) to the County in connection with the
Company's acquisition of the Property. Accordingly, the Company believes that
the County's claims are without merit.
1614
MANUFACTURED HOME COMMUNITIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 109 - COMMITMENTS AND CONTINGENCIES (CONTINUED)
DELAWARE DECLARATORY JUDGMENT ACTION
In April 2002, the Company entered into a Stipulation and Consent Order to
Cease and Desist (the "Consent Order") with the State of Delaware (the "State").
The Consent Order resolved various issues raised by the State concerning the
terms of a new lease form used or proposed for use by the Company at certain of
its Properties in Delaware. Among other provisions, the Consent Order
contemplated that the Company would work with the State to develop and implement
a new lease form for use in Delaware. The Consent Order expressly provided that
nothing contained therein would preclude the Company from seeking declaratory
relief from a court as to the legality or enforceability of any provisions which
the Company might wish to incorporate in future leases.
Throughout the summer of 2002, the Company's Delaware legal counsel engaged
in dialogue with representatives of the State concerning various matters,
including the lease provisions to which the State had objected but which the
Company wished to incorporate in future leases. Through this process, it became
apparent that the parties could not reach agreement as to the legality or
enforceability of the proposed lease provisions, and that the Company would need
to seek declaratory relief from a court in order to resolve the matter, as
contemplated by the Consent Order. Accordingly, on August 29, 2002, the Company
filed a Petition for Declaratory Judgment and Other Relief (the(as amended, the
"Petition") in Sussex County, Delaware Superior Court (the "Court").
In response to the filing of the Petition, on October 1, 2002, the State
filed its Answer to Petition for Declaratory and Other Relief, and Counterclaims
for Civil Enforcement and Contempt ("Answer(as amended, "Answer and Counterclaim") with
the Court. In the Answer and Counterclaim, the State seeks, inter alia,
restitution, statutory penalties, investigative costs and attorneys' fees under
the Delaware Mobile Home Lots and Leases Act, the Consumer Fraud Act, the
Uniform Deceptive Trade Practices Act and the Delaware Consumer Contracts law,
and separately seeks a finding of contempt and related contempt penalties for
alleged violations of the Consent Order.
The Company filed a Motion to Dismiss Respondents' Counterclaims with the
Court on October 29, 2002, and the State filed a Motion for Summary Judgment
with the Court on November 15, 2002. These motions have been fully briefed. On
December 30, 2002, the Company filed a First Amended Petition for Declaratory
Judgment and Other Relief with the Court, and on January 31, 2003, the State
filed an Amended Answer and Counterclaim with the Court.
The Company believes that it has complied, and continues to comply, with
the Consent Order, and that the filing of the Petition was expressly
contemplated by the Consent Order. The Company believes that the State's
allegations in the Answer and Counterclaim are without merit and will vigorously
defend itself.
OTHER
The Company is involved in various other legal proceedings arising in the
ordinary course of business. Management believes that all proceedings herein
described or referred to, taken together, are not expected to have a material
adverse impact on the Company.
NOTE 11 - SUBSEQUENT EVENTS
On October 1, 2002 the Company acquired Silk Oak Lodge for approximately
$6.2 million. Silk Oak Lodge, located in Clearwater, Florida has a total of
182 sites.
On November 5, 2002, the Company's Board of Director's reaffirmed a
resolution providing that the Company may repurchase up to 1 million shares of
the Common Stock at the discretion of the Company's Executive Committee.
1715
MANUFACTURED HOME COMMUNITIES, INC.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
The following is a discussion of the interim results of operations,
financial condition and liquidity and capital resources of the Company for the
quarter and nine months ended SeptemberJune 30, 20022003 compared to the corresponding periodsperiod in 2001.2002. It
should be read in conjunction with the Consolidated Financial Statements and
Notes thereto included herein and the 20012002 Form 10-K. The following discussion
may contain certain forward-looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995, which reflect management's current
views with respect to future events and financial performance. Such
forward-looking statements are subject to certain risks and uncertainties,
including, but not limited to, the effects of future events on the Company's
financial performance, the adverse impact of external factors such as inflation
and consumer confidence, and the risks associated with real estate ownership.
RESULTS OF OPERATIONS
PROPERTY ACQUISITIONS, JOINT VENTURES AND DISPOSITIONS
The following chart lists the Properties acquired or sold since January 1,
2001.2002. The Company defines its core manufactured home community portfolio ("Core
Portfolio") as manufactured home Properties owned throughout both periods of
comparison. Excluded from the Core Portfolio are any Properties acquired or sold
during the period and also any recreational vehicle resorts ("RV"Resorts") Properties which,
together, are referred to as the "Non-Core" Properties.
PROPERTY TRANSACTION DATE SITES
-------- ---------------- -----
TOTAL SITES AS OF JANUARY 1, 2001.......................... 51,3872002.................... 50,663
ACQUISITIONS:
Golden Lakes.......................................... January 3, 2001 422
Chain O'Lakes......................................... January 3, 2001 308
Bulow Resort RV....................................... July 1, 2001 352
Mt. Hood..............................................Hood Village................................ March 12, 2002 450
Countryside...........................................Harbor View..................................... July 10, 2002 471
Countryside..................................... July 31, 2002 560
Golden Sun............................................Sun...................................... July 31, 2002 330329
Breezy Hill...........................................Hill..................................... July 31, 2002 762
Highland Woods........................................ July 31,Woods.................................. August 14, 2002 148
Holiday Village.......................................Village................................. July 31, 2002 301
Harbor View........................................... July 10, 2002 471
Tropic Winds..........................................Winds.................................... August 7, 2002 492531
Silk Oak Lodge.................................. October 1, 2002 180
Hacienda Village................................ December 18, 2002 519
Glen Ellen...................................... December 31, 2002 117
EXPANSION SITE DEVELOPMENT:DEVELOPMENT AND OTHER:
Sites added or reconfigured in 2001................................... 1432002............. 90
Sites added or reconfigured in 2002................................... 382003............. (47)
DISPOSITIONS:
Dellwood Estates...................................... February 13, 2001 (136)
Briarwood............................................. February 13, 2001 (166)
Bonner Springs........................................ February 13, 2001 (211)
Carriage Park......................................... February 13, 2001 (143)
North Star............................................ February 13, 2001 (219)
Quivira Hills......................................... February 13, 2001 (142)
Rockwood.............................................. February 13, 2001 (264)
Candlelight........................................... October 5, 2001 (585)
College Heights Properties (17) ......................(17 properties)................. September 1, 2002 (3,220)
Camelot Acres................................... November 13, 2002 (319)
Independence Hill............................... June 6, 2003 (203)
Brook Gardens................................... June 6, 2003 (424)
Pheasant Ridge.................................. June 30, 2003 (101)
-------------
TOTAL SITES AS OF SEPTEMBERJUNE 30, 2002............................................. 51,078
-------------2003............................................ 50,807
=============
1816
MANUFACTURED HOME COMMUNITIES, INC.
RESULTS OF OPERATIONS (CONTINUED)
TRENDS
Occupancy in the Company'sour Properties as well as theour ability to increase rental rates
directly affectsaffect revenues. In 2001,2003, occupancy in the Company'sour Core Portfolio has remained relatively stable.decreased
1.5%. Also during 2001,2003, average monthly base rental rates for the Core Portfolio
increased approximately 4.5%5.2%. Throughout
2002, occupancy decreased slightly. Also throughout 2002, average monthlyWe project continued growth during the remainder
of 2003 in our Core Portfolio performance. Core Portfolio base rental rates increased approximately 4.8%. The Company believes these trends
will continue through 2002. For 2003 the company expects rental rates to
increase approximately 4% for the core Portfolio with expenserental-rate
growth is expected to be approximately 4%5 percent. Assuming current economic
conditions continue to 4.5%. The Company expectsimpact occupancies, overall revenue growth will be
approximately 3 percent. Core Portfolio operating expenses are expected to fill 175 expansion sitesgrow
in 2003, while projecting moderate overall occupancy decreases.excess of CPI due to continued increases in insurance, real estate taxes and
utility expenses. These projections would result in growth of approximately 2.5
percent in Core Portfolio income from operations (also referred to as net
operating income or "NOI").
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The Company'sOur consolidated financial statements have been prepared in accordance with
accounting principles generally accepted in the United States, which require the Companyus
to make estimates and judgments that affect the reported amounts of assets,
liabilities, revenues and expenses, and the related disclosures. The Company believesWe believe that
the following critical accounting policies, among others, affect itsour more
significant judgments and estimates used in the preparation of itsour consolidated
financial statements.
The CompanyWe periodically evaluates itsevaluate our long-lived assets, including itsour investments
in real estate, for impairment indicators. TheOur judgments regarding the existence
of impairment indicators are based on factors such as operational performance,
market conditions and legal factors. Future events could occur which would cause
the Companyus to conclude that impairment indicators exist and an impairment loss is
warranted.
The valuation of financial instruments under Statement of Financial
Accounting Standards No. 107, "Disclosures About Fair Value of Financial
Instruments" ("SFAS No. 107107") and Statement of Financial Accounting Standards
No. 133 ("SFAS No. 133133"), "Accounting for Derivative Instruments and Hedging
Activities" requires the Companyus to make estimates and judgments that affect the fair
value of the instruments. The Company, whereWhere possible, baseswe base the fair values of itsour
financial instruments, including itsour derivative instrument,instruments, on listed market
prices and third party quotes. Where these are not available, the Company bases
itswe base our
estimates on other factors relevant to the financial instrument.
Real estate is recorded at cost less accumulated depreciation. Depreciation
is computed on the straight-line basis over the estimated useful lives of the
assets. The Company usesWe use a 30-year estimated life for buildings acquired and structural
and land improvements, a ten-to-fifteen-year estimated life for building
upgrades and a three-to-seven-year estimated life for furniture, fixtures and
equipment. Expenditures for ordinary maintenance and repairs are expensed to
operations as incurred and significant renovations and improvements that improve
the asset and extend the useful life of the asset are capitalized over their
estimated useful life. The determination of useful lives, salvage value, and
depreciation method used are in conformity with GAAP. However, the useful lives,
salvage value, and customary depreciation method used for land improvements and
other significant assets may significantly and materially overstate the
depreciation of the underlying assets and therefore understate the Net Income of
the Company. In addition, the Financial Accounting Standards Board ("FASB") is
currently reviewing the methods of depreciation and cost capitalization for all
industries and in June 2001 issued FASB Exposure Drafts,
AccountingDraft, "Accounting in Interim
and Annual Financial Statements for Certain Costs and Activities Related to
Property, Plant and Equipment,Equipment", the implementation of which, if issued, could
also have a material effect on the Company's results of operations.
1917
MANUFACTURED HOME COMMUNITIES, INC.
RESULTS OF OPERATIONS (CONTINUED)
CRITICAL ACCOUNTING POLICIES AND ESTIMATES (CONTINUED)
Certain costs, primarily legal costs, relative to our efforts to
effectively change the use and operations of several Properties subject to rent
control are currently classified in other assets. These costs, to the extent
these efforts are successful, are capitalized to the extent of the established
value of the revised project and included in the net investment in real estate
for the appropriate Properties. To the extent these efforts are not successful,
these costs will be expensed. In addition, we capitalize certain costs,
primarily legal costs, related to entering into lease agreements which govern
the terms under which we may enter into leases with individual tenants and which
are expensed over the term of the lease agreement.
In January 2003, the FASB issued Interpretation No. 46, "Consolidation of
Variable Interest Entities" ("FIN 46"). FIN 46 requires a variable interest
entity to be consolidated by a company if that company is subject to a majority
of the risk of loss from the variable interest entity's activities or entitled
to receive a majority of the entity's residual returns or both. The
consolidation requirements of FIN 46 apply immediately to variable interest
entities created after January 31, 2003. The consolidation requirements apply to
older entities in the first fiscal year or interim period beginning after June
15, 2003. The Company has adopted FIN 46 in the third quarter of 2003 and we
have determined adoption will not have a material effect on the financial
results of the Company.
Prior to 2003 we had chosen to account for our stock compensation in
accordance with APB No. 25, "Accounting for Stock Issued to Employees", based
upon the intrinsic value method. This method results in no compensation expense
for options issued with an exercise price equal to or exceeding the market value
of the Common Shares on the date of grant. Effective January 1, 2003, we elected
to account for our stock-based compensation in accordance with SFAS No. 123 and
its amendment (SFAS No. 148), "Accounting for Stock Based Compensation", which
will result in compensation expense being recorded based on the fair value of
the stock option compensation issued. SFAS 148 provides three possible
transition methods for changing to the fair value method. We have elected to use
the modified-prospective method. This method requires that we recognize
stock-based employee compensation cost from the beginning of the fiscal year in
which the recognition provisions are first applied as if the fair value method
had been used to account for all employee awards granted, or settled in fiscal
years beginning after December 15, 1994. The following table illustrates the
effect on net income and earnings per share as if the fair value method was
applied to all outstanding and unvested awards in each period presented:
QUARTERS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30,
----------------------- -------------------------
2003 2002 2003 2002
-------- -------- -------- --------
Net income available for Common ..... $ 14,400 $ 6,438 $ 22,072 $ 13,554
Shares as reported
Add: Stock-based compensation
expense included in net income as
reported ......................... 476 684 980 1,368
Deduct: Stock-based compensation
expense determined under the fair
value based method for all awards (476) (616) (980) (1,232)
-------- -------- -------- --------
Pro forma net income available for
Common Shares .................... $ 14,400 $ 6,506 $ 22,072 $ 13,690
======== ======== ======== ========
Pro forma net income per Common
Share - Basic .................... $ .65 $ .30 $ 1.00 $ .64
======== ======== ======== ========
Pro forma net income per Common
Share - Fully Diluted ............ $ .64 $ .29 $ .98 $ .62
======== ======== ======== ========
18
MANUFACTURED HOME COMMUNITIES, INC.
RESULTS OF OPERATIONS (CONTINUED)
COMPARISON OF THE QUARTER ENDED JUNE 30, 2003 TO THE QUARTER ENDED JUNE 30, 2002
Since December 31, 2001, the gross investment in real estate has increased
from $1,238 million to $1,286 million. The total number of sites owned or
controlled has increased from 50,663 as of December 31, 2001 to 50,807 as of
June 30, 2003.
PROPERTY OPERATIONS:
The following table summarizes certain financial and statistical data for
the Property Operations for the Core Portfolio and the Total Portfolio for the
quarters ended SeptemberJune 30, 20022003 and 2001.2002.
CORE PORTFOLIO TOTAL PORTFOLIO
-------------------------------------------- ----------------------------------------------------------------------------------------
INCREASE/ % INCREASE/ %
(dollars in thousands) 2003 2002 2001 (DECREASE) CHANGE 2003 2002 2001 (DECREASE) CHANGE
---------- ---------- ----------- ------- ---------------- ---------- ------- ------- ------- ---------- ------------------ ------
BaseCommunity base rental income ................ $47,142 $45,309income..... $ 1,833 4.0% $50,057 $48,99247,797 $ 1,065 2.2%
RV income .........................46,284 $ 1,513 3.3% $ 49,111 $ 49,011 $ 100 0.2%
Resort base rental income........ 160 144 125 19 15.2% 1,771 722 1,049 145.3%16 11.1% 1,854 1,218 636 52.2%
Utility and other income .......... 4,495 4,499 (4) (0.1%income......... 4,852 4,827 25 0.5% 5,091 5,176 (85) (1.6%)
4,801 4,839 (38) (0.8%)---------- ---------- ----------- ------- ------- ------- ----- ------- ------- ------- --------------- ---------- ----------- ------
Property operating revenues .. 51,781 49,933 1,848 3.7% 56,629 54,553 2,076 3.8%revenues. 52,809 51,255 1,554 3.0% 56,056 55,405 651 1.2%
Property operating and
maintenance .................. 13,803 13,358 445 3.3% 16,150 15,434 716 4.6%maintenance................... 13,777 13,327 450 3.4% 15,818 15,345 473 3.1%
Real estate taxes ................. 4,036 3,726 310 8.3% 4,422 4,185 237 5.7%taxes................ 4,335 4,154 181 4.4% 4,745 4,573 172 3.8%
Property management ............... 2,127 2,027 100 4.9% 2,329 2,221 108 4.9%management.............. 2,144 2,096 48 2.3% 2,276 2,267 9 0.4%
---------- ---------- ----------- ------- ------- ------- ----- ------- ------- ------- --------------- ---------- ----------- ------
Property operating expenses .. 19,966 19,111 855 4.5% 22,901 21,840 1,061 4.9%20,256 19,577 679 3.5% 22,839 22,185 654 3.0%
---------- ---------- ----------- ------- ------- ------- ----- ------- ------- ------- --------------- ---------- ----------- ------
Income from property operations ... $31,815 $30,822 $ 993 3.2% $33,728 $32,71332,553 $ 1,015 3.1%31,678 $ 875 2.8% $ 33,217 $ 33,220 $ (3) (0.0%)
========== ========== =========== ======= ========== ========== =========== ======
Site and Occupancy Information (1):
Average total sites ............... 41,814 41,776 38 0.1% 43,218 43,093 125 0.3%sites.............. 41,568 41,590 (22) (0.1%) 43,131 44,731 (1,600) (3.6%)
Average occupied sites ............ 38,816 39,376 (560) (1.4%sites........... 37,952 38,617 (665) (1.7%) 40,079 40,610 (531)39,421 41,469 (2,048) (4.9%)
Occupancy %.................... 91.3% 92.9% (1.6%) (1.6%) 91.4% 92.7% (1.3%) Occupancy % ....................... 92.8% 94.3% (1.4%) (1.5%) 92.7% 94.2% (1.5%) (1.6%(1.3%)
Monthly base rent per site ........ $404.83 $383.56site..... $ 21.27 5.5% $400.22 $378.99419.82 $ 21.23 5.6%399.52 $ 20.30 5.1% $ 415.28 $ 393.95 $ 21.33 5.4%
Total sites
asAs of SeptemberJune 30, .......... 41,813 41,772 41 0.1% 43,317 43,089 228 0.5%.............. 41,567 41,591 (24) (0.1%) 43,131 44,575 (1,444) (3.2%)
Total occupied sites
asAs of SeptemberJune 30, .......... 38,766 39,346 (580) (1.5%.............. 37,853 38,546 (693) (1.8%) 40,114 40,577 (463) (1.1%39,321 41,263 (1,942) (4.7%)
(1) Site and occupancy information does not include any RVexcludes Resort sites orand Properties owned
through joint ventures.
Property Operating Revenues
The 4.0% increase in base rental income for the Core Portfolio reflects a
5.5% increase in monthly base rent per site coupled with a 1.5% decrease in
average occupied sites. RV income, utility, pass through and other income for
the Core Portfolio remained stable.
2019
MANUFACTURED HOME COMMUNITIES, INC.
RESULTS OF OPERATIONS (CONTINUED)
Property Operating ExpensesRevenues
The 3.3% increase in property operating and maintenance expense for the Core
Portfolio is due primarily to increases in insurance and other expenses, repair
and maintenance expenses and property payroll, partially offset by decreased
utility and administrative expenses. The increase in Core Portfolio real estate
taxes is generally due to higher property assessments on certain Properties.
Property management expense for the Core Portfolio, which reflects costs of
managing the Properties, increased 4.9% due to increased payroll and
professional fees.
HOME SALES OPERATIONS:
The following table summarizes certain financial and statistical data for
the Home Sales Operations for the quarters ended September 30, 2002 and 2001.
HOME SALES OPERATIONS
---------------------------------------------
INCREASE/
(dollars in thousands) 2002 2001 (DECREASE) % CHANGE
------- ------- ---------- --------
(Pro forma)
Gross revenues from new home sales ..... $ 8,328 $ 9,624 (1,296) (13.5%)
Cost of new home sales ................. (6,584) (7,759) 1,175 15.1%
------- ------- ------- -------
Gross profit from new home sales ....... 1,744 1,865 (121) (6.5%)
Gross revenues from used home sales .... 792 1,336 (544) (40.7%)
Cost of used home sales ................ (820) (936) 116 12.4%
------- ------- ------- -------
Gross profit from used home sales ...... (28) 400 (428) (107.0%)
Brokered resale revenues, net .......... 348 431 (83) (19.3%)
Home selling expenses .................. (1,934) (2,058) 124 6.0%
Ancillary services revenues, net ....... (62) 186 (248) (133.3%)
------- ------- ------- -------
Income from home sales and other ....... $ 68 $ 824 (756) (91.7%)
======= ======= ======= =======
HOME SALES VOLUMES:
New home sales ....................... 112 142 (30) (21.1%)
Used home sales ...................... 48 71 (23) (32.4%)
Brokered home resales ................ 216 267 (51) (19.1%)
The 6.5% decrease in gross profits from new home sales reflects a decrease
in the volume of new home sales and is partially offset by an increase in the
gross margin of new home sales. The 107.0% decrease in gross profits from used
home sales reflects a decrease in volume and gross margin of used home sales.
The 19.3% decrease in brokered resale revenues reflects a decrease in the volume
of brokered home resales. The 6.0% decrease in home selling expenses reflects a
decrease in payroll, utility and administrative expenses. The 133.3% decrease in
ancillary services revenues reflects an increase in golf course expenses.
The pro forma income from home sales and other for 2001 does not include
$128,000 of interest income and $235,000 of interest expense. Interest income
and interest expense were previously included in income from affiliates for 2001
and are now included in other income and expenses. The Pro forma amounts have no
effect on previously reported net income. The 2001 amounts have been
reclassified to conform to the 2002 financial presentation for comparison
purposes.
21
MANUFACTURED HOME COMMUNITIES, INC.
RESULTS OF OPERATIONS (CONTINUED)
COMPARISON OF THE NINE MONTHS ENDED SEPTEMBER 30, 2002 TO THE NINE MONTHS ENDED
SEPTEMBER 30, 2001
The following table summarizes certain financial and statistical data for the
Property Operations for the Core Portfolio and the Total Portfolio for the nine
months ended September 30, 2002 and 2001.
CORE PORTFOLIO TOTAL PORTFOLIO
------------------------------------------ ------------------------------------------
INCREASE/ % INCREASE/ %
(dollars in thousands) 2002 2001 (DECREASE) CHANGE 2002 2001 (DECREASE) CHANGE
-------- -------- ---------- ------ -------- -------- ---------- ------
Base rental income ................ $141,145 $135,547 $ 5,598 4.1% $150,638 $146,776 $ 3,862 2.6%
RV income ......................... 390 312 78 25.0% 5,426 3,207 2,219 69.2%
Utility and other income .......... 14,106 14,870 (764) (5.1%) 15,345 16,118 (773) (4.8%)
-------- -------- -------- ----- -------- -------- -------- -----
Property operating revenues .. 155,641 150,729 4,912 3.3% 171,409 166,101 5,308 3.2%
Property operating and
maintenance .................. 41,077 40,434 643 1.6% 48,036 46,778 1,258 2.7%
Real estate taxes ................. 12,402 11,714 688 5.9% 13,769 13,216 553 4.2%
Property management ............... 6,346 6,091 255 4.2% 7,003 6,735 268 4.0%
-------- -------- -------- ----- -------- -------- -------- -----
Property operating expenses .. 59,825 58,239 1,586 2.7% 68,808 66,729 2,079 3.1%
-------- -------- -------- ----- -------- -------- -------- -----
Income from property operations ... $ 95,816 $ 92,490 $ 3,326 3.6% $102,601 $ 99,372 $ 3,229 3.2%
Site and Occupancy Information (1):
Average total sites ............... 41,805 41,734 71 0.2% 42,760 43,192 (432) (1.0%)
Average occupied sites ............ 39,038 39,457 (419) (1.1%) 39,883 40,830 (947) (2.3%)
Occupancy % ....................... 93.4% 94.5% (1.1%) (1.2%) 93.3% 94.5% (1.2%) (1.3%)
Monthly base rent per site ........ $ 401.73 $ 381.70 $ 20.03 5.2% $ 398.82 $ 376.97 $ 21.85 5.8%
Total sites
as of September 30, .......... 41,813 41,772 41 0.1% 43,317 43,089 228 0.5%
Total occupied sites
as of September 30, .......... 38,766 39,346 (580) (1.5%) 40,114 40,577 (463) (1.1%)
(1) Site and occupancy information does not include any RV sites or Properties
owned through joint ventures.
Property Operating Revenues
The 4.1% increase inCommunity base rental income for the Core Portfolio
reflects a 5.2%5.1% increase in monthly base rent per site coupled with a 1.1%1.7%
decrease in average occupied sites. The decrease in utility and other income for the Core
Portfolio is due primarily to decreases in utility income, which resulted from
lower expenses for these items, partially offset by an increase in RV income and
other income.
Property Operating Expenses
The increase in property operating and maintenance expense for the Core
Portfolio is due primarily to increases in property payroll, insurance and other
expenses, utility expense, repair and maintenance and administrative expenses, partially offset
by decreased utility expense.expenses.
The increase in Core Portfolio real estate taxes is generally due to higher
property assessments on certain Properties. Property management expense for the
Core Portfolio, which reflects costs of managing the Properties and is estimated
based on a percentage of Property revenues, increased by 4.2%2.3%.
HOME SALES OPERATIONS:
The following table summarizes certain financial and statistical data for
the Home Sales Operations for the quarters ended June 30, 2003 and 2002.
HOME SALES OPERATIONS
---------------------------------------------
INCREASE /
2003 2002 (DECREASE) % CHANGE
------- ------- ---------- --------
(dollars in thousands)
Gross revenues from new home sales .... $ 8,651 $ 7,420 $ 1,231 16.6%
Cost of new home sales ................ (7,302) (5,684) (1,618) (28.5%)
------- ------- ------- --------
Gross profit from new home sales ...... 1,349 1,736 (387) (22.3%)
Gross revenues from used home sales ... 916 510 406 79.6%
Cost of used home sales ............... (864) (236) (628) (266.1%)
------- ------- ------- --------
Gross profit from used home sales ..... 52 274 (222) (81.0%)
Brokered resale revenues, net ......... 454 455 (1) (.2%)
Home selling expenses ................. (1,808) (2,007) 199 9.9%
Ancillary services revenues, net ...... (111) 112 (223) (199.1%)
------- ------- ------- --------
(Loss) income from home sales and other $ (64) $ 570 $ (634) (111.2%)
======= ======= ======= ========
HOME SALES VOLUMES:
New home sales....................... 118 104 14 13.5%
Used home sales...................... 57 41 16 39.0%
Brokered home resales................ 282 312 (30) (9.6%)
New home sales gross profit reflects a 13.5% increase in sales volume
coupled with a 7.8% decrease in the gross margin. The average selling price of
new homes increased $2,000 or 2.8% compared to 2002. Used home gross profit
reflects a decrease in gross margin on used home sales, partially offset by
increased sales volume. Brokered resale revenues remained stable compared to the
prior year. The 9.9% decrease in home selling expenses primarily reflects
reductions in payroll and advertising expenses.
20
MANUFACTURED HOME COMMUNITIES, INC.
RESULTS OF OPERATIONS (CONTINUED)
OTHER INCOME AND EXPENSES:
The decrease in other income and expenses reflects increased income from
joint ventures and interest income and a decrease in interest expense and
general and administrative expense. Interest expense decreased due to increased officea decrease
in the weighted average interest rate for outstanding debt.
COMPARISON OF THE SIX MONTHS ENDED JUNE 30, 2003 TO THE SIX MONTHS ENDED
JUNE 30, 2002
The following table summarizes certain financial and statistical data for the
Property Operations for the Core Portfolio and the Total Portfolio for the six
months ended June 30, 2003 and 2002.
CORE PORTFOLIO TOTAL PORTFOLIO
----------------------------------------------- -----------------------------------------------
INCREASE/ % INCREASE/ %
(dollars in thousands) 2003 2002 (DECREASE) CHANGE 2003 2002 (DECREASE) CHANGE
---------- ---------- ---------- --------- -------- ---------- ----------- ---------
Community base rental income..... $ 95,837 $ 92,659 3,178 3.4% $ 98,472 $ 98,206 $ 266 0.3%
Resort base rental income........ 299 246 53 21.5% 5,931 3,655 2,276 62.3%
Utility and other income......... 9,607 9,632 (25) (0.3%) 10,422 10,413 9 0.1%
---------- ---------- --------- ------ ---------- ---------- ----------- ------
Property operating revenues. 105,743 102,537 3,206 3.1% 114,825 112,274 2,551 2.3%
Property operating and
maintenance................... 28,069 27,030 1,039 3.8% 32,545 31,204 1,341 4.3%
Real estate taxes................ 8,582 8,195 387 4.7% 9,383 9,033 350 3.9%
Property management.............. 4,261 4,266 5 0.1% 4,628 4,674 46 1.0%
---------- ---------- --------- ------ ---------- ---------- ----------- ------
Property operating expenses 40,912 39,491 1,421 3.6% 46,556 44,911 1,645 3.7%
---------- ---------- --------- ------ ---------- ---------- ----------- ------
Income from property operations $ 64,831 $ 63,046 $ 1,784 2.8% $ 68,269 $ 67,363 $ 906 1.3%
========== ========== ========= ====== ========== ========== =========== ======
Site and Occupancy Information (1):
Average total sites.............. 41,567 41,569 (2) (0.0%) 43,132 44,750 (1,618) (3.6%)
Average occupied sites........... 38,139 38,789 (650) (1.7%) 39,611 41,683 (2,072) (5.0%)
Occupancy %.................... 91.8% 93.3% (1.5%) (1.5%) 91.8% 93.1% (1.3%) (1.3%)
Monthly base rent per site..... $ 418.81 $ 398.13 $ 20.68 5.2% $ 414.33 $ 392.67 $ 21.66 5.5%
(1) Site and occupancy information excludes Resort sites and Properties owned
through joint ventures.
Property Operating Revenues
The 3.4% increase in base rental income for the Core Portfolio reflects a
5.2% increase in monthly base rent per site coupled with a 1.7% decrease in
average occupied sites.
Property Operating Expenses
The increase in property operating and maintenance expense rents,for the Core
Portfolio is due primarily to increases in property payroll, insurance and other
expenses, utility expense, repair and maintenance expenses and administrative
expense. The increase in Core Portfolio real estate taxes is generally due to
higher property assessments on certain Properties. Property management fees.
22expense
for the Core Portfolio, which reflects costs of managing the Properties and is
estimated based on a percentage of Property revenues, remained relatively
stable.
21
MANUFACTURED HOME COMMUNITIES, INC.
RESULTS OF OPERATIONS (CONTINUED)
HOME SALES OPERATIONS:
The following table summarizes certain financial and statistical data for
the Home Sales Operations for the ninesix months ended SeptemberJune 30, 20022003 and 2001.2002.
HOME SALES OPERATIONS
-------------------------------------------------
INCREASE/-------------------------------------------------------------------
INCREASE /
(dollars in thousands) 2003 2002 2001 (DECREASE) % CHANGE
-------- -------- ---------- --------
(Pro forma)---------------- --------------- --------------- --------------
Gross revenues from new home sales .....sales................. $ 20,05612,260 $ 22,650 (2,594) (11.5%)11,729 531 4.5%
Cost of new home sales ................. (15,673) (17,906) 2,233 12.5%
-------- -------- -------- ------sales............................. (10,277) (9,089) (1,188) (13.1%)
---------------- --------------- --------------- --------------
Gross profit from new home sales ....... 4,383 4,744 (361) (7.6%sales................... 1,983 2,640 (657) (24.9%)
Gross revenues from used home sales .... 1,719 2,990 (1,271) (42.5%)sales................ 1,399 927 472 50.9%
Cost of used home sales ................ (1,386) (2,106) 720 34.2%
-------- -------- -------- ------sales............................ (1,349) (566) (783) (138.3%)
---------------- --------------- --------------- --------------
Gross profit from used home sales ...... 333 884 (551) (62.3%sales.................. 50 361 (311) (86.1%)
Brokered resale revenues, net .......... 1,234 1,330 (96) (7.2%net...................... 830 886 (56) (6.3%)
Home selling expenses .................. (6,061) (6,114) 53 0.9%expenses.............................. (3,702) (4,125) 423 10.3%
Ancillary services revenues, net ....... 604 960 (356) (37.1%net................... 371 669 (298) (44.5%)
-------- -------- -------- ------
Income---------------- --------------- --------------- --------------
(Loss) income from home sales and other .......other............ $ 493(468) $ 1,804 (1,311) (72.7%431 (899) (208.6%)
======== ======== ======== ====================== =============== =============== ==============
HOME SALES VOLUMES:
New home sales ....................... 273 339 (66) (19.5%)sales................................... 170 161 9 5.6%
Used home sales ...................... 126 209 (83) (39.7%)sales.................................. 89 78 11 14.1%
Brokered home resales ................ 759 863 (104) (12.1%resales............................ 542 543 (1) (0.2%)
The 7.6%New home sales gross profit reflects a 5.6% increase in sales volume
coupled with a 6.3% decrease in the gross profits from newmargin. Used home salesgross profit
reflects a decrease in the volume of new home sales. The 62.3% decrease in gross profits frommargin on used home sales, reflects a decrease in volume of used homepartially offset by
increased sales and a decrease in
gross margin. The 7.2% decrease in brokeredvolume. Brokered resale revenues reflects a decrease
in the volume of brokered home resales. This decrease is partially offset by an
increase in resale commissions due to increased resale values for the homes
sold.decreased commissions.
The 0.9%10.3% decrease in home selling expenses primarily reflects a slight increase in
insurance and advertising, and decreasereductions in
payroll and administrativeadvertising expenses.
The 37.1% decrease in ancillary services revenues reflects an increase in
expenses for the home rental program and an increase in golf course expenses.
The pro forma income from home sales and other for 2001 does not include
$393,000 of interest income and $807,000 of interest expense. Interest income
and interest expense were previously included in income from affiliates for 2001
and are now included in other income and expenses. The pro forma amounts have no
effect on previously reported net income. The 2001 amounts have been
reclassified to conform to the 2002 financial presentation for comparison
purposes.
OTHER INCOME AND EXPENSES:
The increasedecrease in other income and expenses for the quarter ended September
30, 2002 reflects an increase in interest expense, depreciation expenseincome
from joint ventures and general and administrative expense, partially offset by an increasea decrease in interest
income and other corporate income. The increase in other income and expenses for
the nine months ended September 30, 2002 reflects an increase in depreciation
expense, general and administrative expense and
equity in income from affiliates
and a decrease in other corporate income, partially offset by an increase in
interest income.
23expense for the six months ended June 30, 2003.
22
MANUFACTURED HOME COMMUNITIES, INC.
LIQUIDITY AND CAPITAL RESOURCES
LIQUIDITY
As of SeptemberJune 30, 2002,2003, the Company had $13.1$17.5 million in cash and cash
equivalents and $75.7$95.9 million available on its line of credit. The Company
expects to meet its short-term liquidity requirements, including its
distributions, generally through its working capital, net cash provided by
operating activities and availability under the existing line of credit. The
Company expects to meet certain long-term liquidity requirements such as
scheduled debt maturities, property acquisitions and capital improvements by
long-term collateralized and uncollateralized borrowings including borrowings
under its existing line of credit and the issuance of debt securities or
additional equity securities in the Company, in addition to working capital.
DISPOSITIONS
On June 6, 2003, the Company sold Independence Hill, located in Morgantown,
West Virginia with a total of 203 sites for $3.9 million and recorded a gain on
sale of $2.8 million. On June 6, 2003, the Company sold Brook Gardens located in
Hamburg, New York with a total of 424 sites for $17.8 million and recorded a
gain on sale of $4.0 million. On June 30, 2003, the Company sold Pheasant Ridge
located in Mount Airy, Maryland with a total of 101 sites for $5.4 million and
recorded a gain on sale of $3.9 million. Proceeds from the sales were used to
repay amounts on the Company's line of credit.
EQUITY TRANSACTIONS
On April 12, 2002, July 12, 2002, and October 11, 2002,2003, the Company paid a $.475$.495 per share distribution for the
quartersquarter ended September 30, 2002, March 31, 2002 and June 30, 2002, respectively,2003 to stockholders of record on March 29,
2002,28, 2003. On
July 11, 2003, the Company paid a $.495 per share distribution for the quarter
ended June 28, 2002 and September 30, 2002, respectively.2003 to stockholders of record on June 27, 2003. The Operating
Partnership paid distributions of 9.0% per annum on the $125 million of Series D
Cumulative Redeemable Perpetual Preferred Units ("Preferred Units").
Distributions on the Preferred Units were paid on March 29, 2002, June 28, 2002
and September 28, 2002.30, 2003.
MORTGAGES AND CREDIT FACILITIES
Throughout the ninesix months ended SeptemberJune 30, 2002,2003, the Company borrowed $65.5$27
million on its line of credit and paid down $7.5$57.7 million on the line of credit.
The line of credit bears interest at a rate of LIBOR plus 1.125%.
During the nine months ended September 30, 2002, the Company paid $3.1
million in regular principal amortization. The Company paid off a $1.1 million
mortgage, financed with borrowings on the Company's line of credit. The Company
paid off $2.1 million of the MPW Notes with borrowings on the Company's line of
credit. The Company also disposed of $65.6 million in notes payable, in a
non-cash transaction, as part of the sale of the 17 College Heights properties.
Throughout the nine months ended September 30, 2002 the Company made payments of
$5.9 million on maturing debt on the Conseco Financing Note. The Conseco
Financing Note payments were financed with borrowings on the Company's line of
credit. As of April 1, 2002, the Company stopped funding inventory with the
Conseco Financing Note and all future purchases of inventory will be funded with
the Company's existing line of credit.
Certain of the Company's mortgage and credit agreements contain covenants
and restrictions including restrictions as to the ratio of secured or unsecured
debt versus encumbered or unencumbered assets, the ratio of fixed
charges-to-earnings before interest, taxes, depreciation and amortization
("EBITDA"), limitations on certain holdings and other restrictions.
COLLEGE HEIGHTS JOINT VENTURE RESTRUCTURING
Effective September 1, 2002, the Company restructured its investment in
Wolverine Property Investment Limited Partnership (the "College Heights Joint
Venture" or the "Venture"), a joint venture with Wolverine Investors, LLP. The
Venture included 18 properties with 3,581 sites. The results of operations of
the College Heights Joint Venture prior to restructuring were included with the
results of the Company due to the Company's voting equity interest and control
over the Venture. Pursuant to the restructuring, the Company sold its general
partnership interest, sold all of the Company's voting equity interest and
reduced the Company's total investment in the College Heights Joint Venture. As
consideration for the sale the Company retained sole ownership of Down Yonder, a
361 site community in Clearwater, Florida, received cash of approximately $5.2
million and retained preferred limited partnership interests of approximately
$10.3 million. The net effect on cash for the restructuring includes the
$5,166,000 of proceeds less $519,000 of cash previously recorded as an asset of
the Venture.
24
MANUFACTURED HOME COMMUNITIES, INC.
LIQUIDITY AND CAPITAL RESOURCES (CONTINUED)
ACQUISITIONS, DISPOSITIONS AND INVESTMENTS
On August 7, 2002 the Company acquired Tropic Winds RV Resort, a
recreational vehicle ("RV") community with 492 sites for approximately $4.7
million. Tropic Winds RV Resort is located in Harlingen, TX. The acquisition was
funded with borrowings on the Company's line of credit.
The Company acquired six Properties with a total of 2,572 sites, for
approximately $66.1 million. The acquisition was funded by a borrowing on the
Company's line of credit and the assumption of approximately $30 million of
debt on five of the Properties. The following table summarizes the Properties
purchased and their total sites.
Date Acquired Property Location Total Sites
- ----------------------- ---------------------------- ------------------------- --------------
July 10, 2002 Harbor View Manor New Port Richey, FL 471
July 31, 2002 Golden Sun Apache Junction, AZ 330
July 31, 2002 Countryside RV Resort Apache Junction, AZ 560
July 31, 2002 Holiday Village Ormond Beach, FL 301
July 31, 2002 Breezy Hill RV Resort Pompano Beach, FL 762
August 4, 2002 Highland Woods Pompano Beach, FL 148
On March 12, 2002, the Company acquired Mt. Hood Village, an RV community
with a total of 450 sites, for approximately $6.8 million. Mt. Hood Village is
located in Welches, Oregon and has land available for up to 120 expansion sites.
The acquisition was funded by a borrowing on the Company's line of credit.
Throughout the nine months ended June 30, 2002, the Company purchased
adjacent land and land improvements for several Properties for $2.2 million.
These acquisitions were funded with borrowings on the Company's line of credit.
On January 1, 2002, the Company purchased all of the common stock of Realty
Systems, Inc. ("RSI"). The Company previously owned the non-voting preferred
stock of RSI and had notes receivable from RSI which were recorded as an
investment in affiliate. The Company purchased the common stock of RSI from
Equity Group Investments, Inc, controlled by Samuel Zell, Chairman of the Board
of Directors of the Company, for approximately $675,000.
CAPITAL IMPROVEMENTS
Capital expenditures for improvements are identified by the Company as
recurring capital expenditures ("Recurring CapEx"), site development costs and
corporate headquarters costs. Recurring CapEx was approximately $10.1$6.2 million for
the ninesix months ended SeptemberJune 30, 2002. Corporate improvements were
approximately $324,000 for the nine months ended September 30, 2002.2003. Site development costs were approximately
$7.3$3.3 million for the ninesix months ended SeptemberJune 30, 2002,2003, and represent costs to
develop expansion sites at certain of the Company's Properties.Properties and costs for
improvements to sites when a smaller used home is replaced with a larger new
home.
23
MANUFACTURED HOME COMMUNITIES, INC.
LIQUIDITY AND CAPITAL RESOURCES (CONTINUED)
INFLATION
Substantially all of the leases at the Properties allow for monthly or
annual rent increases which provide the Company with the opportunity to achieve
increases, where justified by the market, as each lease matures. Such types of
leases generally minimize the risk of inflation to the Company.
25
MANUFACTURED HOME COMMUNITIES, INC.
LIQUIDITY AND CAPITAL RESOURCES (CONTINUED)
FUNDS FROM OPERATIONS
Funds From Operations ("FFO"), a non-GAAP financial performance measure,
was redefined by the National Association of Real Estate Investment Trusts
("NAREIT") in October 1999, effective January 1,
2000,April 2002, as net income (computed in accordance with GAAP),
before allocation to minority interests, excluding gains (or losses) from sales
of property, plus real estate depreciation and after adjustments for
unconsolidated partnerships and joint ventures. The Company computes FFO in
accordance with the NAREIT definition, which may differ from the methodology for
calculating FFO utilized by other equity REITs and, accordingly, may not be
comparable to such other REIT's computations. Funds available for distribution ("FAD") is defined as FFO
less non-revenue producing capital expenditures and amortization payments on
mortgage loan principal. The Company believes that FFO and FAD areis
useful to investors as a measure of the performance of an equity REIT because,
along with cash flows from operating activities, financing activities and
investing activities, they provideFFO provides investors an understanding of the ability of
the Company to incur and service debt and to make capital expenditures. FFO and FAD
in and of themselves dodoes
not represent cash generated from operating activities in accordance with GAAP
and therefore should not be considered an alternative to net income as an
indication of the Company's performance or to net cash flows from operating
activities as determined by GAAP as a measure of liquidity and are not
necessarily indicative of cash available to fund cash needs.
The following table presents a calculation of FFO and FAD for the quarters and ninesix
months ended SeptemberJune 30, 20022003 and 20012002 (amounts in thousands):
QUARTERS ENDED NINESIX MONTHS ENDED
SEPTEMBERJUNE 30, SEPTEMBERJUNE 30,
------------------------------- --------------------------------
--------------------------------2003 2002 20012003 2002
2001
-------------- -------------- ----------------------------- --------------- --------------
COMPUTATION OF FUNDS FROM OPERATIONS:
Net income................................................income............................................... $ 6,71214,400 $ 6,0976,438 $ 20,26122,072 $ 24,87613,554
Income allocated to common OP Units....................... 1,645 1,558 5,007 6,4043,444 1,590 5,291 3,357
Depreciation on real estate assets........................ 8,937 8,729 26,994 25,9969,058 8,965 17,962 17,815
Depreciation on real estate assets held-for-sale.......... --- 121 129 242
Gain on the sale of Properties and other.................. (1,270)(10,197) --- (1,270) (8,093)(10,197) ---
-------------- -------------- ----------------------------- --------------- --------------
Funds from operations.................................. $ 16,02416,705 $ 16,38417,114 $ 50,99235,257 $ 49,18334,968
============== ============== ============================= =============== ==============
Weighted average Common Stock outstanding - diluted 27,693 27,071 27,622 26,91427,965 27,664 27,853 27,587
============== ============== ============== ==============
COMPUTATION OF FUNDS AVAILABLE FOR DISTRIBUTION:
Funds from operations..................................... $ 16,024 $ 16,384 $ 50,992 $ 49,183
Non-revenue producing improvements to real estate......... (4,290) (4,240) (10,058) (8,526)
-------------- -------------- -------------- --------------
Funds available for distribution....................... $ 11,734 $ 12,144 $ 40,934 $ 40,657
============== ============== ============== ==============
Weighted average Common Stock outstanding - diluted....... 27,693 27,071 27,622 26,914
============== ============== ============================= =============== ==============
2624
MANUFACTURED HOME COMMUNITIES, INC.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company'sOur earnings are affected by changes in interest rates, assince a portion of
the Company'sour outstanding indebtedness is at variable rates based on LIBOR. The Company's $150 million lineOur Line of
creditCredit ($74.354.1 million outstanding at SeptemberJune 30, 2002)2003) bears interest at LIBOR plus
1.125%, the Company'sper annum and our $100 million Term Loan bears interest at LIBOR plus
1.375% and the Company's $7.0
million Conseco Financing Notes bear interest at prime.. If LIBOR increased/decreased by 1.0% during the quartersix months ended SeptemberJune
30, 2002,2003, interest expense would have increased/decreased by approximately $432,000$3.8
million based on the combined average balance outstanding under the Company's
lineLine of credit,Credit and Term Loan and Conseco Financing Notes during the period.
On October 29, 2001, the Companywe entered into an interest rate swap agreement (the
"Swap""2001 Swap"), effectively fixing the LIBOR rate on $100 million of the Company'sour floating
rate debt at approximately 3.7% per annum for the period October 2001 through
August 2004. The terms of the 2001 Swap require monthly settlements on the same
dates that interest payments are due on the debt. Effective January 1, 2001, the
Company adopted Statement of Financial Accounting Standards No. 133, "Accounting
for Derivative Instruments and Hedging Activities" ("SFAS No. 133)133") and its
amendments, SFAS No. 137 and SFAS No. 138. In accordance with SFAS No. 133, the
Swap isinterest rate swap will be reflected at market value. The Company believesWe believe the 2001 Swap
is a perfectly effective cash flow hedge, perunder SFAS No. 133, and there will be
no effect on net income as a result of the mark-to-market adjustment. As of SeptemberJune
30, 2002,2003, the hedge represented a liability of approximately $4.3 million and is
recorded in accounts payable and accrued expenses. Mark-to-market changes in the
value of the swap2001 Swap are included in other comprehensive income.
ITEM 4. CONTROLS AND PROCEDURES
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
As of SeptemberJune 30, 2002,2003, an evaluation was performed under the supervision and
with the participation of the Company's management, including the CEO and CFO,
of the effectiveness of the design and operation of the Company's disclosure
controls and procedures. Based on that evaluation, the Company's management,
including the CEO and CFO, concluded that the Company's disclosure controls and
procedures were effective as of September 30,December 31, 2002.
CHANGES IN INTERNAL CONTROLS
There have been no significant changes in the Company's internal controls
or in other factors that could significantly affect internal controls subsequent
to September 30,December 31, 2002.
27
MANUFACTURED HOME COMMUNITIES, INC.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
DEANZA SANTA CRUZ MOBILE ESTATES
The residents of DeAnza Santa Cruz Mobile Estates, a Property located in
Santa Cruz, California (the "City"), previously brought several actions opposing
certain fees and charges in connection with water service at the Property. This
summary provides the history and reasoning underlying the Company's defense(see Note 9 of the residents' claims and explains the Company's decision to continue to defend
its position, which the Company believes is fair and accurate.
DeAnza Santa Cruz Mobile Estates is a 198-site community overlooking the
Pacific Ocean. It is subject to the City's rent control ordinance which limits
annual rent increases to 75% of CPI. The Company purchased this Property in
August 1994 from certain unaffiliated DeAnza entities ("DeAnza"). Prior to the
Company's purchase in 1994, DeAnza made the decision to submeter and separately
bill tenants at the Property for both water and sewer in 1993 in the face of the
City's rapidly rising utility costs.
Under California Civil Code Section 798.41, DeAnza was required to reduce
rent by an amount equal to the average cost of usage over the preceding 12
months. This was done. With respect to water charges, because DeAnza did not
want to be regulated by the California Public Utility Commission ("CPUC"),
DeAnza relied on California Public Utilities Code Section 2705.5 ("CPUC Section
2705.5") to determine what rates would be charged for water on an ongoing basis
without becoming a public utility. DeAnza and the Company interpreted the
statute as providing that in a submetered mobile home park, the property owner
is not subject to regulation and control of the CPUC so long as the users are
charged what they would be charged by the utility company if users received
their water directly from the utility company. In Santa Cruz, customers
receiving their water directly from the City's water utility were charged a
certain lifeline rate for the first 400 ccfs of water and a greater rate for
usage over 400 ccfs of water, a readiness to serve charge of $7.80 per month and
tax on the total. In reliance on CPUC Section 2705.5, DeAnza implemented its
billings on this schedule notwithstanding that it did not receive the discount
for the first 400 ccfs of water because it was a commercial and not a
residential customer.
A dispute with the residents ensued over the readiness to serve charge and
tax thereon. The residents argued that California Civil Code Section 798.41
required that the Property owner could only pass through its actual costs of
water (and that the excess charges over the amount of the rent rollback were an
improper rent increase) and that CPUC Section 2705.5 was not applicable. DeAnza
unbundled the utility charges from rent consistent with California Civil Code
Section 798.41 and it has generally been undisputed that the rent rollback was
accurately calculated.
In August 1994, when the Company acquired the Property, the Company
reviewed the respective legal positions of the Santa Cruz Homeowners Association
("HOA") and DeAnza and concurred with DeAnza. DeAnza's reliance on CPUC Section
2705.5 made both legal and practical sense in that residents paid only what they
would pay if they lived in a residential neighborhood within the City and
permitted DeAnza to recoup part of the expenses of operating a submetered system
through the readiness to serve charge.
Over a period of 18 months from 1993 into May of 1995, a series of
complaints were filed by the HOA and Herbert Rossman, a resident, against
DeAnza, and later, the Company. DeAnza and the Company demurred to each of these
complaints on the grounds that the CPUC had exclusive jurisdiction over the
setting of water rates and that residents under rent control had to first
exhaust their administrative remedies before proceeding in a civil action. At
one point, the case was dismissed (with leave to amend) on the basis that
jurisdiction was with the CPUC and, at another point, Mr. Rossman was dismissed
from the case because he had not exhausted his administrative remedies.
28
MANUFACTURED HOME COMMUNITIES, INC.
On June 29, 1995, a hearing was held before a City rent control officer on
billing and submetering issues related to both water and sewer. The Company and
DeAnza prevailed on all issues related to sewer and the rent rollback related to
water, but the hearing officer determined that the Company could only pass
through its actual cost of water, i.e., a prorated readiness to serve charge and
tax thereon. The hearing officer did not deal with the subsidy being given to
residents through the quantity charge and ordered a rebate in a fixed amount per
resident. The Company and DeAnza requested reconsideration on this issue, among
others, which reconsideration was denied by the hearing officer.
The Company then took a writ of mandate (an appeal from an administrative
order) to the Superior Court and, pending this appeal, the residents, the
Company and the City agreed to stay the effect of the hearing officer's decision
until the Court rendered judgment.
In July 1996, the Superior Court affirmed the hearing officer's decision
without addressing concerns about the failure to take the subsidy on the
quantity charge into account.
The Company requested that the City and the HOA agree to a further stay
pending appeal to the court of appeal, but they refused and the appeal court
denied the Company's request for a stay in late November 1996. Therefore, on
January 1, 1997, the Company reduced its water charges at this Property to
reflect a pass-through of only the readiness to serve charge and tax at the
master meter (approximately $0.73) and to eliminate the subsidy on the water
charges. On their March 1, 1997 rent billings, residents were credited for
amounts previously "overcharged" for readiness to serve charge and tax. The
amount of the rebate given by the Company and DeAnza was $36,400. In calculating
the rebate, the Company and DeAnza took into account the previous subsidy on
water usage although this issue had not yet been decided by the court of appeal.
The Company and DeAnza felt legally safe in so doing based on language in the
hearing officer's decision that actual costs could be passed through.
On March 12, 1997, the Company also filed an application with the CPUC to
dedicate the water system at this Property to public use and have the CPUC set
cost-based rates for water usage. The Company believed it was obligated to take
this action because of its consistent reliance on CPUC Section 2705.5 as a safe
harbor from CPUC jurisdiction. That is, when the Company could no longer charge
for water as the local serving utility would charge, it was no longer exempt
from the CPUC's jurisdiction and control under CPUC Section 2705.5.
On March 20, 1998, the court of appeal issued the writ of mandate requested
by the Company on the grounds that the hearing officer had improperly calculated
the amount of the rebate (meaning the Company had correctly calculated the rent
credits), but also ruling that the hearing officer was correct when he found
that the readiness to serve charge and tax thereon as charged by DeAnza and the
Company were an inappropriate rent increase. The decision primarily reflected
the court of appeal's view that CPUC Section 2705.5 operated as a ceiling and
that California Civil Code Section 798.41 allowed for a charge based on actual
costs, including costs of administration, operation and maintenance of the
system, but that the Company did not have to provide evidence of such costs. The
court of appeal further agreed with the Company that the City's hearing officer
did not have the authority under California Civil Code Section 798.41 to
establish rates that could be charged in the future.
Following this decision, the CPUC granted the Company its certificate of
convenience and necessity on December 17, 1998 and approved cost-based rates and
charges for water that exceed what residents were paying under the Company's
reliance on CPUC Section 2705.5. Concurrently, the CPUC also issued an Order
Instituting Investigation ("OII") confirming its exclusive jurisdiction over the
issue of water rates in a submetered system and commencing an investigation into
the confusion and turmoil over billings in submetered properties. Specifically,
the OII states: "The Commission has exclusive and primary jurisdiction over the
establishment of rates for water and sewer services provided by private
entities."
29
MANUFACTURED HOME COMMUNITIES, INC.
Specifically, the CPUC ruling regarding the Company's application stated:
"The ultimate question of what fees and charges may or may not be assessed,
beyond external supplier pass-through charges, for in-park facilities when a
mobile home park does not adhere to the provisions of CPUC Section 2705.5, must
be decided by the Commission."
After the court of appeal decision, the HOA sought punitive damages against
the Company in a lawsuit that was tried in January 1999 in Santa Cruz County
Superior Court. The trial was continued from July 1998 to January 1999 to give
the CPUC time to act on the Company's application. Notwithstanding the action
taken by the CPUC in issuing the OII in December 1998, the trial court denied
the Company's motion to dismiss on jurisdictional grounds and trial commenced
before a jury on January 11, 1999.
Not only did the trial court not consider the Company's motion to dismiss,
the trial court refused to allow evidence of the OII or the Company's CPUC
approval to go before the jury. Notwithstanding the Company's strenuous
objections, the judge also allowed evidence of the Company's and DeAnza's
litigation tactics to be used as evidence of bad faith and oppressive actions
(including evidence of the application to the CPUC requesting a $22.00 readiness
to serve charge). The Company's motion for a mistrial based upon these
evidentiary rulings was denied. On January 22, 1999, the jury returned a verdict
awarding $6.0 million of punitive damages against the Company and DeAnza. The
Company had previously agreed to indemnify DeAnza on the matter.
On April 19, 1999, the trial court denied all of the Company's and DeAnza's
post-trial motions for judgment notwithstanding the verdict, new trial and
remittitur. The trial court also awarded $700,000 of attorneys' fees to
plaintiffs. The Company appealed the jury verdict and attorneys' fees award
(which also accrues interest at the statutory rate of 10.0% per annum). The
Company bonded the judgment pending appeal in accordance with California
procedural rules, which require a bond equal to 150% of the amount of the
judgment. Post-judgment interest will accrue at the statutory rate of 10.0% per
annum.
On December 21, 2001 the California Court of Appeal for the Sixth District
reversed the $6.0 million punitive damage award, the related award of attorneys'
fees, and, as a result, all post-judgement interest thereon, on the basis that
punitive damages are not available as a remedy for a statutory violation of the
California Mobile Home Residency Law ("MRL"). The decision of the appellate
court left the HOA with the right to seek a new trial in which it must prove its
entitlement to either the statutory penalty and attorneys' fees available under
the MRL or punitive damages based on causes of action for fraud,
misrepresentation or other tort. The Company expects this case to proceed to
trial in the first quarter of 2003. The Company intends to vigorously defend
itself against these claims. The Court has denied the Company's motion for
summary adjudication of the statutory penalty issue in favor of the Company. The
Company's motion to be declared the prevailing party in this litigation is still
pending, but not expected to be heard before trial.
In two related appeals, the Company had argued that the trial court's
ability to enter an award of attorneys' fees in favor of the HOA and to take
certain other actions was preempted by the exercise of exclusive jurisdiction by
the CPUC over the issue of how to set rates for water in a submetered mobile
home park. During 2000, the California court of appeal rejected the Company's
preemption argument with respect to these prior rulings in favor of plaintiffs,
one of which had awarded plaintiffs approximately $100,000 of attorneys' fees.
The California Supreme Court declined to accept the case for review and the
Company paid the judgment, including post-judgment interest thereon, and settled
the matter for approximately $200,000 late in 2000.
30
MANUFACTURED HOME COMMUNITIES, INC.
In a separate matter, in December 2000 the HOA and certain individual
residents of the Property filed a complaint in the Superior Court of California,
County of Santa Cruz (No. CV 139825) against the Company, certain affiliates of
the Company and certain employees of the Company (the "2000 Lawsuit"). The 2000
Lawsuit sought damages, including punitive damages, for intentional infliction
of emotional distress, unfair business practices, and unlawful retaliation
purportedly arising from allegedly retaliatory rent increases which were noticed
by the Company to certain residents in September 2000. The Company believes that
the residents who received rent increase notices with respect to rent increases
above those permitted by the local rent control ordinance were not covered by
the ordinance either because they did not comply with the provisions of the
ordinance or because they are exempted by state law. On December 29, 2000, the
Superior Court of California, County of Santa Cruz enjoined such rent increases.
The Company entered into a settlement agreement with the plaintiffs in the
2000 Lawsuit which settlement was approved by the court on July 22, 2002. The
Company believes the settlement agreement is of significant benefit to the
Company. First, pursuant to the settlement agreement all past, present and
future tenants of the Property agree to alternative dispute resolution
procedures which provide that during the nextConsolidated Financial Statements contained herein)
25 years future disputes will be
resolved through arbitration before a retired judge rather than in court, and
that in such future arbitration proceedings all claims to trial by jury and for
punitive damages are waived.
Second, the settlement agreement provides a process for determining the
rent for 15 sites not subject to rent control, including in certain
circumstances, back rent owing from certain dates in 2001. The settlement
agreement generally gives tenants at these sites three (3) options with respect
to their tenancies. Such tenants may (1) enter into a 34-year lease providing a
rent based on rent control with future escalations based on the consumer price
index, but with the Company retaining the right to charge market rents
determined by the Company upon turnover; (2) enter into a ten (10) year lease
with a monthly rent to be determined by binding arbitration and effective
October 1, 2001; or (3) elect to sell such tenant's home to a third party and
pay back rent owing to the Company (the amount of which will be determined by
arbitration if not agreed to between the tenant and the Company) since January
1, 2001. In certain circumstances the Company will purchase the tenant's home
based upon a mechanism provided in the settlement agreement.
In exchange for the tenants' agreements to the alternative dispute
resolution procedures, the process for resolving back rent owed by tenants not
subject to rent control, and to dismiss the 2000 Lawsuit, the Company agreed to
pay $730,000.
OTHER CALIFORNIA RENT CONTROL LITIGATION
As part of the Company's effort to realize the value of its Properties
subject to rent control, the Company has initiated lawsuits against several
municipalities in California. The Company's goal is to achieve a level of
regulatory fairness in California's rent control jurisdictions that prohibit
increasing rents to market upon turnover. This regulatory feature, called
vacancy control, allows tenants to sell their homes for a premium representing
the future value of discounted rent-controlled rents. In the Company's view,
such regulation results in a transfer of the value of the Company's
shareholders' land, which would otherwise be reflected in market rents, to
tenants upon the sales of their homes in the form of an inflated purchase price
that cannot be attributed to the value of the home being sold. As a result, in
the Company's view, the Company loses the value of its asset and the selling
tenant leaves the community with a windfall premium. The Company has discovered
through the litigation process that certain municipalities considered condemning
the Company's communities at values well below the value of the underlying land.
In the Company's view, a failure to articulate market rents for sites governed
by restrictive rent control would put the Company at risk for condemnation or
eminent domain proceedings based on artificially reduced rents. Such a physical
taking, should it occur, would represent substantial lost value to shareholders.
The Company is cognizant of the need for affordable housing in the
jurisdictions, but asserts that regulations with vacancy control merely transfer
the value that belongs to the Company's shareholders to tenants in the form of
premium prices for houses. The Company estimates that the annual rent subsidy to
tenants in these jurisdictions is approximately $15 million. In a more well
balanced regulatory environment, the Company would receive market rents that
would eliminate the subsidy and homes would trade at or near their intrinsic
value.
31
MANUFACTURED HOME COMMUNITIES, INC.
The Company's efforts to achieve a balanced regulatory environment
incentivize tenant groups to file lawsuits against the Company seeking large
damage awards. The 2000 Lawsuit described above under DeAnza Santa Cruz Mobile
Estates is one example. The homeowners association at Contempo Marin ("CMHOA"),
a 396 site property in San Rafael, California, sued the Company in December 2000
over a prior settlement agreement on a capital pass-through after the Company
sued the City of San Rafael in October 2000 alleging its rent control ordinance
is unconstitutional. In the Contempo Marin case, the CMHOA prevailed on a motion
for summary judgment on an issue that permits the Company to collect only $3.72
out of a pass-through amount of $7.50 that the Company believes had been agreed
to by the CMHOA in a settlement agreement. The Company intends to vigorously
defend the matter. The Company believes that such lawsuits will be a consequence
of the Company's efforts to change rent control since tenant groups actively
desire to preserve the premium value of their homes in addition to the
discounted rents provided by rent control. The Company has determined that its
efforts to rebalance the regulatory environment despite the risk of litigation
from tenant groups are necessary not only because of the estimated $15 million
annual subsidy to tenants, but also because of the condemnation risk.
ELLENBURG COMMUNITIES
The Company and certain other parties entered into a settlement agreement
(the "Settlement"), which was approved by the Los Angeles County Superior Court
in April 2000. The Settlement resolved substantially all of the litigation and
appeals involving the Ellenburg Properties, and transactions arising out of the
settlement closed on May 22, 2000. Only the appeal of one entity remains, the
outcome of which is not expected to materially affect the Company.
In connection with the Ellenburg Acquisition, on September 8, 1999,
Ellenburg Fund 20 ("Fund 20") filed a cross complaint in the Ellenburg
dissolution proceeding against the Company and certain of its affiliates
alleging causes of action for fraud and other claims in connection with the
Ellenburg acquisition. The Company subsequently successfully had the cross
complaint against the Company and its affiliates dismissed with prejudice by the
California Superior Court. However, Fund 20 has appealed. This appeal was one
not resolved by the Settlement. The Company believes Fund 20's allegations are
without merit and will vigorously defend itself.
In October 2001, Fund 20 sued the Company and certain of its affiliates
again, this time in Alameda County, California making substantially the same
allegations. The Company obtained an injunction preventing the case from
proceeding until the Fund 20 appeal is decided and other related proceedings in
Arizona (from which the Company has already been dismissed with prejudice) are
concluded.
WESTWINDS
The Operating Partnership is the ground lessee ("Lessee") of certain
property in San Jose, California under ground leases ("Leases") from the
Nicholson Family Trust ("Lessor"). On February 13, 2001, Lessor filed a petition
for arbitration of disputes over whether certain items constitute "gross
revenue" under the Leases, in which petition Lessor seeks damages and
termination of the Leases. Lessee responded on March 12, 2001 disputing Lessor's
contentions. Lessor claims that "gross revenue" for the purpose of calculating
percentage rent owing to Lessor under the Leases includes certain amounts Lessee
has recouped from tenants of the Property (who are protected by rent control)
related to ground rent already paid to Lessor. Lessee has successfully been able
to pass-through to tenants at the Property increases in ground rent under the
Leases. Lessee contends that this pass-through results in reimbursement of lease
expense, not "gross revenue." Lessor also contends that the "net income" of RSI
from the Property should be included in the gross revenue calculation. Lessee
disputes this for many reasons, including, but not limited to, the fact that RSI
is not a lessee under the Leases, the sales activity is not conducted by Lessee,
and RSI is a separate company from Lessee.
32
MANUFACTURED HOME COMMUNITIES, INC.
Lessor's motion for summary judgment on the pass-through issue was denied
by an arbitration panel on November 2, 2001. Lessor and Lessee agreed to mediate
the dispute and the matter was settled and the lease was amended in early 2002.
Pursuant to the settlement and amendment, Lessee agreed to pay $338,000 related
to prior period rent which was expensed in the first quarter of 2002 and to
prepay rent of $632,000 based on a recalculation of rent in the amended lease.
The rent prepayment and related legal costs will be amortized into ground rent
expense over the remaining life of the lease.
COUNTRYSIDE AT VERO BEACH
The Company has received letters dated June 17, 2002 and August 26, 2002
from Indian River County ("County"), claiming that the Company currently owes
sewer impact fees in the amount of approximately $518,000 with respect to the
Property known as Countryside at Vero Beach, located in Vero Beach, Florida,
purportedly under the terms of an agreement between the County and a prior owner
of the Property. In response, the Company has advised the County that these fees
are no longer due and owing as a result of a 1996 settlement agreement between
the County and the prior owner of the Property, providing for the payment of
$150,000 to the County to discharge any further obligation for the payment of
impact or connection fees for sewer service at the Property. The Company paid
this settlement amount (with interest) to the County in connection with the
Company's acquisition of the Property. Accordingly, the Company believes that
the County's claims are without merit.
DELAWARE DECLARATORY JUDGMENT ACTION
In April 2002, the Company entered into a Stipulation and Consent Order to
Cease and Desist (the "Consent Order") with the State of Delaware (the "State").
The Consent Order resolved various issues raised by the State concerning the
terms of a new lease form used or proposed for use by the Company at certain of
its Properties in Delaware. Among other provisions, the Consent Order
contemplated that the Company would work with the State to develop and implement
a new lease form for use in Delaware. The Consent Order expressly provided that
nothing contained therein would preclude the Company from seeking declaratory
relief from a court as to the legality or enforceability of any provisions which
the Company might wish to incorporate in future leases.
Throughout the summer of 2002, the Company's Delaware legal counsel engaged
in dialogue with representatives of the State concerning various matters,
including the lease provisions to which the State had objected but which the
Company wished to incorporate in future leases. Through this process, it became
apparent that the parties could not reach agreement as to the legality or
enforceability of the proposed lease provisions, and that the Company would need
to seek declaratory relief from a court in order to resolve the matter, as
contemplated by the Consent Order. Accordingly, on August 29, 2002, the Company
filed a Petition for Declaratory Judgment and Other Relief (the "Petition") in
Sussex County, Delaware Superior Court (the "Court").
In response to the filing of the Petition, on October 1, 2002, the State
filed its Answer to Petition for Declaratory and Other Relief, and Counterclaims
for Civil Enforcement and Contempt ("Answer and Counterclaim") with the Court.
In the Answer and Counterclaim, the State seeks, inter alia, restitution,
statutory penalties, investigative costs and attorneys' fees under the Delaware
Mobile Home Lots and Leases Act, the Consumer Fraud Act, the Uniform Deceptive
Trade Practices Act and the Delaware Consumer Contracts law, and separately
seeks a finding of contempt and related contempt penalties for alleged
violations of the Consent Order.
The Company believes that it has complied, and continues to comply, with
the Consent Order, and that the filing of the Petition was expressly
contemplated by the Consent Order. The Company believes that the State's
allegations in the Answer and Counterclaim are without merit and will vigorously
defend itself.
33
MANUFACTURED HOME COMMUNITIES, INC.
OTHER
The Company is involved in various other legal proceedings arising in the
ordinary course of business. Management believes that all proceedings herein
described or referred to, taken together, are not expected to have a material
adverse impact on the Company.
34
MANUFACTURED HOME COMMUNITIES, INC.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.HOLDERS
The Company held its Annual Meeting of Stockholders on May 13, 2003.
Stockholders holding 17,534,693 Common Shares (being the only class of shares
entitled to vote at the meeting), or 78.8% of the Company, for which proxies were
solicited pursuant to Regulation 14A under the Securities Exchange Act of 1934,
was held on May 8, 2002. At the Annual Meeting, Samuel Zell, David A. HelfandCompany's issued and
Michael A. Torres were each elected to serveoutstanding shares as directors of the Company
untilrecord date for the 2005 Annual Meetingmeeting, attended the meeting
or were represented by proxy. The Company's shareholders voted on two matters
presented at the meeting and both received the requisite number of Stockholders.
Votes Cast
--------------------------------------
For Withheld
------------------ ----------------
Samuel Zell 17,515,839 60,873
David A. Helfand 17,515,876 60,836
Michael A. Torres 17,523,492 53,220
There were 4,156,070 broker non-votes.votes to
pass. The results of the stockholders vote on each of the two matters are as
follows:
PROPOSAL 1 - Election of three directors to terms expiring in 2006.
TOTAL VOTE FOR TOTAL VOTE WITHHELD
EACH DIRECTOR* FROM EACH DIRECTOR*
--------------- -------------------
Howard Walker 92.40% 7.60%
Donald S. Chisholm 99.73% .27%
Thomas E. Dobrowski 99.16% .84%
* This percentage represents the number of shares voting in this matter
out of the total number of shares voted at the meeting, not out of the
total shares outstanding. This matter required a plurality of votes
cast for approval.
PROPOSAL 2 - Approval of an amendment to the Company's Charter to eliminate the
current classification of the board (this matter required the affirmative vote
of two-thirds of all votes entitled to be cast on the proposal).
For 16,878,607 96.3%
Against 627,753 3.5%
Abstain 28,332 0.2%
Non-vote 1 0%
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits:
Exhibit 99.1 Certifications31.1 Certification of Chief Financial Officer Pursuant to Section
302 of the Sarbanes-Oxley Act of 2002
31.2 Certification of Chief Executive Officer andPursuant to Section
302 of the Sarbanes-Oxley Act of 2002
32.1 Certification of Chief Financial Officer of
Manufactured Home Communities, Inc.Pursuant to 18
U.S.C. Section 1350, as required byAdopted Pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002.2002
32.2 Certification of Chief Executive Officer Pursuant to 18
U.S.C. Section 1350, as Adopted Pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002
(b) Reports on Form 8-K:
None.
35Form 8-K dated and filed April 28,2003, relating to Item 7 -
"Financial Statements and Exhibits" and Item 12 -
"Disclosure of Results of Operations and Financial
Condition" regarding release of 2nd Quarter 2003 results of
operations and financial condition.
Form 8-K dated and filed May 8, 2003, relating to Item 5 - "Other
Events and Regulation FD Disclosure" regarding
communications with Chateau Communities, Inc.
26
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this Report to be signed on its behalf by the
undersigned thereunto duly authorized.
MANUFACTURED HOME COMMUNITIES, INC.
BY: /s/ John M. Zoeller
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John M. Zoeller
Executive Vice President, Treasurer and
Chief Financial Officer
BY: /s/ Mark Howell
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Mark Howell
Principal Accounting Officer and
Assistant Treasurer
DATE: November 1, 2002
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CERTIFICATIONS
I, John M. Zoeller, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Manufactured
Home Communities, Inc;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant
and we have:
a)designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
b)evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this quarterly report (the "Evaluation Date");
and
c)presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on
our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the
audit committee of registrant's board of directors (or persons
performing the equivalent function):
a)all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data
and have identified for the registrant's auditors any material
weaknesses in internal controls; and
b)any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in
this quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect
internal controls subsequent to the date of our most recent
evaluation, including any corrective actions with regard to
significant deficiencies and material weaknesses.
Date: November 1, 2002 By: /s/ John M. Zoeller
---------------------- -------------------------------
John M. Zoeller
Executive Vice President and Chief
Financial Officer
37
I, Howard Walker, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Manufactured
Home Communities, Inc;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant
and we have:
a)designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
b)evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this quarterly report (the "Evaluation Date");
and
c)presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on
our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the
audit committee of registrant's board of directors (or persons
performing the equivalent function):
a)all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data
and have identified for the registrant's auditors any material
weaknesses in internal controls; and
b)any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in
this quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect
internal controls subsequent to the date of our most recent
evaluation, including any corrective actions with regard to
significant deficiencies and material weaknesses.
Date: November 1, 2002 By: /s/ Howard Walker
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Howard Walker
Chief Executive Officer
38August 8, 2003
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