UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
| x | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended March 31, 2010
OR
| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
Commission file number 033-20083-01
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
in respect of
THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY ACCOUNT
(Exact name of registrant as specified in its charter)
New Jersey | 22-1211670 | |||
(State or other jurisdiction of incorporation or organization) | (IRS Employer Identification No.) |
751 Broad Street, Newark, New Jersey 07102-2992 | ||||
| (Address of principal executive offices) (Zip Code) | ||||
| (973) 802-6000 | ||||
| (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.
YESX NO
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes _ No _
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer, accelerated filer, and smaller reporting company” in Rule 12b-2 of the Exchange Act.
(Check one):
Large accelerated filer | Accelerated filer | |||||
Non-accelerated filerX (Do not check if a smaller reporting company) | Smaller reporting company |
| ||||
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES NO X
THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY ACCOUNT
(Registrant)
INDEX
2
Forward-Looking Statement Disclosure
Certain of the statements included in this Quarterly Report on Form 10-Q, including but not limited to those in Management’s Discussion and Analysis of Financial Condition and Results of Operations, constitute forward-looking statements within the meaning of the U.S. Private Securities Litigation Reform Act of 1995. Words such as “expects,” “believes,” “anticipates,” “includes,” “plans,” “assumes,” “estimates,” “projects,” “intends,” “should,” “will,” “shall” or variations of such words are generally part of forward-looking statements. Forward-looking statements are made based on management’s current expectations and beliefs concerning future developments and their potential effects upon The Prudential Insurance Company of America, or the “Company”, or the Prudential Variable Contract Real Property Account, or the “Real Property Account”. There can be no assurance that future developments affecting the Company and the Real Property Account will be those anticipated by management. These forward-looking statements are not a guarantee of future performance and involve risks and uncertainties, and there are certain important factors that could cause actual results to differ, possibly materially, from expectations or estimates reflected in such forward-looking statements, including, among others: (1) general economic, market and political conditions, including the performance and fluctuations of fixed income, equity, real estate and other financial markets; (2) interest rate fluctuations; (3) reestimates of our reserves for future policy benefits and claims; (4) differences between actual experience regarding mortality, morbidity, persistency, surrender experience, interest rates, or market returns and the assumptions we use in pricing our products, establishing liabilities and reserves or for other purposes; (5) changes in our assumptions related to deferred policy acquisition costs and valuation of business acquired; (6) changes in our claims-paying or credit ratings; (7) investment losses and defaults; (8) competition in our product lines and for personnel; (9) changes in tax law; (10) regulatory or legislative changes, including government actions in response to the stress experienced by the financial markets; (11) adverse determinations in litigation or regulatory matters and our exposure to contingent liabilities; (12) domestic or international military actions, natural or man-made disasters including terrorist activities or pandemic disease, or other events resulting in catastrophic loss of life; (13) ineffectiveness of risk management policies and procedures in identifying, monitoring and managing risks; (14) changes in statutory or “U.S. GAAP” accounting principles, practices or policies. The foregoing risks are even more pronounced in severe adverse market and economic conditions such as those that began in the second half of 2007 and continued into 2009. The Company and the Real Property Account do not intend, and are under no obligation, to update any particular forward-looking statement included in this document. See “Risk Factors” included in the Annual Report on Form 10-K for the year ended December 31, 2009 for discussion of certain risks relating to the operation of the Partnership and investment in our securities.
3
FINANCIAL STATEMENTS OF
THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY ACCOUNT
The accompanying notes are an integral part of these financial statements.
4
NOTES TO THE FINANCIAL STATEMENTS OF
THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY ACCOUNT
March 31, 2010
(Unaudited)
Note 1: General
The Prudential Variable Contract Real Property Account (the “Account”) was established on November 20, 1986 by resolution of the Board of Directors of The Prudential Insurance Company of America (“Prudential”), which is an indirect wholly-owned subsidiary of Prudential Financial, Inc. (“PFI”), as a separate investment account pursuant to New Jersey law and is registered under the Securities Act of 1933, as amended. The assets of the Account are segregated from Prudential’s other assets. The Account is used to fund benefits under certain variable life insurance and variable annuity contracts issued by Prudential. These products are Variable Appreciable Life (“PVAL and PVAL $100,000+ Face Value”), Discovery Plus (“PDISCO+”), and Variable Investment Plan (“VIP”).
The assets of the Account are invested in The Prudential Variable Contract Real Property Partnership (the “Partnership”). The Partnership is the investment vehicle for assets allocated to the real estate investment option under certain variable life insurance and variable annuity contracts. The Account, along with the Pruco Life Variable Contract Real Property Account and the Pruco Life of New Jersey Variable Contract Real Property Account, are the sole investors in the Partnership. These financial statements should be read in conjunction with the unaudited interim financial statements of the Partnership.
The Partnership has a policy of investing at least 65% of its assets in direct ownership interests in income-producing real estate and participating mortgage loans.
Note 2: Summary of Significant Accounting Policies and Pronouncements
| A. | Basis of Accounting |
The accompanying financial statements are prepared in conformity with accounting principles generally accepted in the United States of America (“U.S. GAAP”). The preparation of the financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts and disclosures. Actual results could differ from those estimates.
The interim financial data as of March 31, 2010 and for the three months ended March 31, 2010 and 2009 is unaudited; however, in the opinion of management, the interim data includes all adjustments, consisting only of normal recurring adjustments, necessary for a fair statement of the results for the interim periods.
In December 2007, the Financial Accounting Standards Board (“FASB”) revised authoritative guidance for business combinations, which expands the definition of a business and redefines the acquisition date in a merger and acquisition transaction. It significantly modifies the existing guidance for business combinations, including changes to acquisition related contingent consideration, preacquisition contingencies, non controlling interest, restructuring costs, in-process R&D, goodwill and partial acquisition. This guidance is effective for acquisitions closing after the first annual reporting period beginning after December 15, 2008. The Account adopted this guidance effective January 1, 2009. The Account’s adoption has no effect on the Account’s financial position and results of operations, but may have an effect on the accounting for future business combinations.
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In December 2007, FASB revised the accounting, presentation and disclosure for noncontrolling interests in consolidated financial statements. This revised guidance will change the accounting for minority interests, which will be recharacterized as noncontrolling interests and classified by the parent company as a component of equity. This guidance is effective for fiscal years beginning on or after December 15, 2008, with early adoption prohibited. Upon adoption, the guidance requires retroactive adoption of the presentation and disclosure requirements for existing minority interests and prospective adoption for all other requirements. The adoption of this guidance has no effect on the Account’s financial position and results of operations.
In April 2009, the FASB revised authoritative guidance on issued recognition and presentation of other-than-temporary impairments. This revision amends the other-than-temporary impairment guidance for debt securities and expands the presentation and disclosure requirements of other-than-temporary impairments on debt and equity securities in the financial statements. This revision also requires that the required annual disclosures for debt and equity securities be made for interim reporting periods. This revision does not amend existing recognition and measurement guidance related to other-than-temporary impairments of equity securities. This revision is effective for interim and annual reporting periods ending after June 15, 2009, and shall be applied prospectively. Early adoption is permitted for periods ending after March 15, 2009. The Account’s early adoption of this guidance effective January 1, 2009 did not have a material effect on the Account’s financial position or results of operations.
In April 2009, the FASB issued authoritative guidance on determining fair value when the volume and level of activity for the asset or liability have significantly decreased and identifying transactions that are not orderly. This guidance also amends the disclosure requirements in interim and annual periods. This guidance is effective for interim and annual reporting periods ending after June 15, 2009, and shall be applied prospectively. Early adoption is permitted for periods ending after March 15, 2009. The Account’s early adoption of this guidance effective January 1, 2009 did not have a material effect on the Account’s financial position or results of operations.
In April 2009, the FASB issued additional guidance for accounting for assets acquired and liabilities assumed in a business combination that arise from contingencies. This guidance requires an asset acquired or liability assumed in a business combination that arises from a contingency to be recognized at fair value at the acquisition date, if the acquisition date fair value of that asset or liability can be determined during the measurement period. If the acquisition date fair value of an asset acquired or liability assumed in a business combination that arises from a contingency cannot be determined during the measurement period, the asset or liability shall be recognized at the acquisition date using the guidance in accounting for contingencies. This guidance also amends disclosure requirements. This guidance is effective for assets or liabilities arising from contingencies in business combinations for which the acquisition date is on or after January 1, 2009. The Account’s adoption of this guidance effective January 1, 2009 did not have a material effect on the Account’s financial position or results of operations.
In April 2009, the FASB issued additional guidance for interim disclosures about fair value of financial instruments for interim reporting periods of publicly traded companies as well as in annual financial statements. This guidance is effective for interim reporting periods ending after June 15, 2009, with early adoption permitted. The Account adopted this guidance within the interim period ending June 30, 2009. The Account’s adoption of this guidance did not have a material effect on the Account’s financial position or results of operations.
In July 2009, the FASB launched its Accounting Standards Codification (the “Codification), as the sole source of authoritative U.S. GAAP to be applied by nongovernmental entities. The Codification generally does not change the existing rules of U.S. GAAP but rather makes it easier to find and research U.S. GAAP applicable to a particular transaction or specific accounting issue. The Codification is a new structure which takes accounting pronouncements and organizes them by approximately ninety accounting topics and aggregates them in four common accounting areas. Topics within each category are further broken down into subtopics, sections and paragraphs. Accounting standards that are included in the Codification will be considered authoritative whereas those that are not included will be deemed non-authoritative. As a result, there are two levels of U.S. GAAP, authoritative and non-authoritative. The Codification is effective for financial statements that cover the interim and annual periods ending after September 15, 2009 and has impacted the way the Account references U.S. GAAP accounting standards in the financial statements.
In August 2009, the FASB issued updated guidance for the fair value measurement of liabilities. This guidance includes techniques for measuring fair value when a quoted price in an active market for the identical liability is not available and clarifies that restrictions preventing the transfer of a liability should not be considered as a separate input or adjustment in the measurement of its fair value. This guidance is effective for the first reporting period (including interim periods) beginning after issuance. The Account’s adoption of this guidance effective December 31, 2009 did not have a material effect on the Account’s consolidated financial position, results of operations or financial statement disclosures.
In September 2009, the FASB issued updated guidance for the fair value measurement of investments in certain entities that calculate net asset value per share including certain alternative investments such as hedge funds, private equity funds, and venture capital funds. This guidance allows companies to determine the fair value of such investments using net asset value (“NAV”) as a practical expedient if the fair value of the investment is not readily determinable and the investee entity issues financial statements in accordance with measurement principles for investment companies. Use of this practical expedient is prohibited if it is probable the investment will be sold at something other than NAV. This guidance also requires new disclosures for each major category of alternative investments. It is effective for the first annual or interim reporting period ending after December 15, 2009, with early application permitted. The Account’s adoption of this guidance effective December 31, 2009 did not have a material effect on the Account’s financial position or results of operations.
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In January 2010, the FASB issued updated guidance that clarifies existing guidance on accounting and reporting by an entity that experiences a decrease in ownership of a subsidiary that is a business. The updated guidance states that a decrease in ownership applies to a subsidiary or group of assets that is a business, but does not apply to a sale of in-substance real estate even if it involves a business, such as an ownership interest in a partnership whose only asset is operating real estate. This guidance also affects accounting and reporting by an entity that exchanges a group of assets that constitutes a business for an equity interest in another entity. The updated guidance also expands disclosures about fair value measurements relating to retained investments in a deconsolidated subsidiary or a preexisting interest held by an acquirer in a business combination. The updated guidance is effective in the first interim or annual reporting period ending on or after December 15, 2009, and is applied on a retrospective basis to the first period that the Account adopted the existing guidance, which was as of January 1, 2009. The Account’s adoption of this updated guidance effective December 31, 2009 did not have a material effect on the Accounts’ financial position, results of operations, or financial statement disclosures.
| B. | Investment in Partnership Interest |
The investment in the Partnership is based on the Account’s proportionate interest of the Partnership’s fair value. At March 31, 2010 and December 31, 2009 the Account’s interest in the Partnership was 40.6% or 2,626,531 shares. Properties owned by the Partnership are illiquid and based on estimated fair value as discussed in the notes to the Partnership’s unaudited financial statements.
| C. | Income Recognition |
Net investment income and realized and unrealized gains and losses are recognized daily for the Partnership. Amounts are based upon the Account’s proportionate interest in the Partnership.
| D. | Equity of The Prudential Insurance Company of America |
Prudential maintains a position in the Account for liquidity purposes, including unit purchases and redemptions, Partnership share transactions and expense processing. The position does not affect contract owners’ accounts or the related unit values.
Note 3: Charges and Expenses
| A. | Mortality Risk and Expense Risk Charges |
Mortality risk and expense risk charges are determined daily using an effective annual rate of 1.2%, 0.9%, 0.6% and 1.2% for PDISCO+, PVAL, PVAL $100,000 + face value and VIP, respectively. Mortality risk is the risk that life insurance contract owners may not live as long as estimated or annuitants may live longer than estimated and expense risk is the risk that the cost of issuing and administering the policies may exceed related charges by Prudential. The mortality risk and expense risk charges are assessed through reduction in unit values.
| B. | Cost of Insurance and Other Related Charges |
Contract owner contributions are subject to certain deductions prior to being invested in the Account. The deductions for PVAL and PVAL $100,000 + face value are (1) state premium taxes; (2) sales charges, up to 0.50%, which are deducted in order to compensate Prudential for the cost of selling the contract and (3) transaction costs which are deducted from each premium payment to cover premium collection and processing costs. Contracts are subject to charges on each basic premium for assuming a guaranteed minimum death benefit risk. This charge compensates Prudential for the risk that an insured may die at a time when the death benefit exceeds the benefit that would have been payable in the absence of a minimum guarantee. These charges are assessed through the redemption of units.
| C. | Deferred Sales Charge |
A deferred sales charge, applicable to PVAL and PVAL $100,000 + face value, and not to exceed 50% of the first year’s primary annual premium for PVAL contracts, is imposed upon surrenders of certain variable life insurance contracts to compensate Prudential for sales and other marketing expenses. The amount of any sales charge will depend on the number of years that have elapsed since the contract was issued. No sales charge will be imposed after the tenth year of the contract. No sales charge will be imposed on death benefits.
Also a deferred sales charge is imposed upon the withdrawals of certain purchase payments to compensate Prudential for sales and other marketing expenses for PDISCO+ and VIP. The amount of any sales charge will depend on the amount withdrawn and the number of contract years that have elapsed since the contract owner or annuitant made the purchase payments deemed to be withdrawn. No sales charge is made against the withdrawal of investment income. A reduced sales charge is imposed in connection with the withdrawal of a purchase payment to effect an annuity if three or more contract years have elapsed since the contract date, unless the annuity effected is an annuity certain. No sales charge is imposed upon death benefit payments or upon transfers made between subaccounts. This deferred sales charge is assessed through the redemption of units.
7
| D. | Partial Withdrawal Charge |
A charge is imposed by Prudential on partial withdrawals of the cash surrender value for PVAL and PVAL $100,000 + face value. A charge equal to the lesser of $15 or 2% will be made in connection with each partial withdrawal of the cash surrender value of a contract. This charge is assessed through the redemption of units.
| E. | Annual Maintenance Charge |
An annual maintenance charge, applicable to PDISCO+ and VIP, of $30 will be deducted if and only if the contract fund is less than $10,000 on a contract anniversary or at the time a full withdrawal is effected, including a withdrawal to effect an annuity. The charge is made by reducing accumulation units credited to a contract owner’s account.
Note 4: Taxes
Prudential is taxed as a “life insurance company” as defined by the Internal Revenue Code. The results of operations of the Account form a part of PFI’s consolidated federal tax return. Under current federal law, no federal income taxes are payable by the Account. As such, no provision for the tax liability has been recorded in these financial statements.
Note 5: Net Withdrawals by Contract Owners
Net contract owner withdrawals for the real estate investment option in Prudential’s variable insurance and variable annuity products for the three months ended March 31, 2010 and 2009, were as follows:
Three Months Ended March 31, (Unaudited)
| ||||||
2010 | 2009 | |||||
PVAL/PVAL $100,000+ face value | $ (63,779) | $ (1,000,397) | ||||
PDISCO+/VIP | (57,438) | (42,457) | ||||
TOTAL | $ (121,217) | $(1,042,854) | ||||
Note 6: Partnership Distributions
As of March 31, 2010, the Partnership made no distribution. For the year ended December 31, 2009, the Partnership made a distribution of $8 million. The Prudential Variable Contract Real Property Account’s share of this distribution was $3.1 million.
Note 7: Unit Information
Outstanding units and unit values at March 31, 2010 and December 31, 2009 were as follows:
March 31, 2010 | December 31, 2009 | |||||
(Unaudited)
| ||||||
Units Outstanding: | 35,499,847 | 35,427,235 | ||||
Unit Value: | 1. 77955 to 1.99672 | 1.79607 to 2.01231 |
Note 8: Financial Highlights
The range of total return for three months ended March 31, 2010 and 2009 were as follows:
Three Months Ended March 31, 2010 & 2009 (Unaudited) | ||||||||||
2010 | 2009 | |||||||||
Total Return | -.92% to -.77% | -11.10% to -10.97% |
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Note 9: Fair Value Disclosure
FASB guidance on fair value measurements and disclosures establishes a framework for measuring fair value that includes a hierarchy used to classify the inputs used in fair value. The hierarchy prioritizes the inputs to valuation techniques used to measure fair value into three levels. The level in the fair value hierarchy within which the fair value measurement falls is determined based on the lowest level input that is significant to the fair value measurement. The levels of the fair value hierarchy are as follows:
Level 1 – Fair value is based on unadjusted quoted prices in active markets that are accessible to the Company for identical assets or liabilities. These generally provide the most reliable evidence and should be used to measure fair value whenever available.
Level 2 – Fair value is based on inputs, other than Level 1 inputs, that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the asset or liability through corroboration with observable market data.
Level 3 – Fair value is based on significant unobservable inputs for the asset or liability. These inputs reflect the Company’s own assumptions about the assumptions that market participants would use in pricing the asset or liability.
The investment in the Partnership is based on the Account’s proportionate interest of the Partnership’s fair value which approximates the Partnership’s net asset value. Properties owned by the Partnership are illiquid and based on estimated fair value from property appraisal reports prepared by independent real estate appraisers as discussed in the notes to the Partnership’s audited financial statements.
The purpose of an appraisal is to estimate the fair value of real estate as of a specific date. Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.
The estimate of fair value is based on the conventional approaches to value, all of which require the exercise of subjective judgment. The three approaches are: (1) current cost of reproducing the real estate less deterioration and functional and economic obsolescence; (2) discounting a series of income streams and reversion at a specific yield or by directly capitalizing a single year income estimate by an appropriate factor; and (3) value indicated by recent sales of comparable real estate in the market. In the reconciliation of these three approaches, the independent appraiser uses one or a combination of them, to determine the approximated value for the type of real estate in the market.
In general, the input values used in the appraisal process are unobservable, therefore unless indicated otherwise; the underlying investments in the Partnership are classified as Level 3 under the fair value hierarchy. The inputs or methodology used for valuing securities are not an indication of the risk associated with investing in those securities.
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Table 1 below summarizes the assets measured at fair value on a recurring basis and their respective position in the fair value hierarchy.
Table 1:
($ in 000’s) Fair Value Measurements at March 31, 2010 | ||||||||||||
Assets: | Amounts Measured at Fair Value 03/31/10 | Quoted Prices in Active Markets for Identical Assets (Level 1) | Significant Other Observable Inputs (Level 2) | Significant Unobservable Inputs (Level 3) | ||||||||
| Investment in The Prudential Variable Contract Real Property Partnership | $ | 67,535 | $ | - | $ | - | $ | 67,535 | ||||
Total Assets | $ | 67,535 | $ | - | $ | - | $ | 67,535 | ||||
($ in 000’s) Fair Value Measurements at December 31, 2009 | ||||||||||||
Assets: | Amounts Measured at Fair Value 12/31/2009 | Quoted Prices in Active Markets for Identical Assets (Level 1) | Significant Other Observable Inputs (Level 2) | Significant Unobservable Inputs (Level 3) | ||||||||
| Investment in The Prudential Variable Contract Real Property Partnership | $ | 67,963 | $ | - | $ | - | $ | 67,963 | ||||
Total Assets | $ | 67,963 | $ | - | $ | - | $ | 67,963 | ||||
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Table 2 below provides a reconciliation of the beginning and ending balances for all assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the period ended March 31, 2010 and March 31, 2009.
Table 2: | ($ in 000’s) | ||
| Fair Value Measurements Using Significant Unobservable Inputs for the three months ending March 31, 2010 | |||
| (Level 3) | |||
Beginning balance @ 01/01/10 | $ | 67,963 | |
Total gains or losses (realized/unrealized) included in earnings (or changes in net assets) from Partnership operations | $ | (1,174) | |
Net Investment Income from Partnership operations | $ | 746 | |
Acquisition/Additions | - | ||
Equity Income | - | ||
Contributions | $ | - | |
Disposition/Settlements | |||
Equity losses | - | ||
Distributions | - | ||
Ending balance @ 03/31/10 | $ | 67,535 | |
The amount of total gains or losses for the period included in earnings (or changes in net assets) attributable to the change in (realized/unrealized) gains or losses relating to assets still held at the reporting date | |||
| $ | (1,174) | ||
($ in 000’s) Fair Value | |||
| (Level 3) | |||
Beginning balance @ 1/1/09 | $ | 86,787 | |
Total gains or losses (realized/unrealized) included in earnings (or changes in net assets) from Partnership operations | $ | (10,252) | |
Net Investment Income from Partnership operations | $ | 846 | |
Acquisition/Additions | - | ||
Equity Income | - | ||
Contributions | $ | - | |
Disposition/Settlements | |||
Equity losses | - | ||
Distributions | - | ||
Ending balance @ 3/31/09 | $ | 77,381 | |
The amount of total gains or losses for the period included in earnings (or changes in net assets) attributable to the change in (realized/unrealized) gains or losses relating to assets still held at the reporting date | |||
| $ | (10,252) | ||
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THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY PARTNERSHIP
CONSOLIDATED STATEMENTS OF ASSETS AND LIABILITIES
| March 31, 2010 (Unaudited) | December 31, 2009 | |||||
ASSETS | ||||||
REAL ESTATE INVESTMENTS - At estimated fair value: | ||||||
Real estate and improvements | $ | 165,400,000 | $ | 167,100,000 | ||
Real estate partnerships and preferred equity investments (cost: 3/31/2010 - $14,220,905; 12/31/2009- $14,238,698) | 10,312,436 | 10,044,510 | ||||
Total real estate investments | 175,712,436 | 177,144,510 | ||||
CASH AND CASH EQUIVALENTS | 25,625,822 | 24,522,159 | ||||
OTHER ASSETS, NET | 2,440,032 | 2,629,989 | ||||
Total assets | $ | 203,778,290 | $ | 204,296,658 | ||
LIABILITIES & PARTNERS’ EQUITY | ||||||
INVESTMENT LEVEL DEBT (net of unamortized discount: 3/31/10 $2,760; 12/31/09 $1,830) | $ | 30,686,286 | $ | 30,824,899 | ||
ACCOUNTS PAYABLE AND ACCRUED EXPENSES | 3,188,900 | 2,541,198 | ||||
DUE TO AFFILIATES | 589,084 | 603,101 | ||||
OTHER LIABILITIES | 959,662 | 1,025,279 | ||||
Total liabilities | 35,423,932 | 34,994,477 | ||||
COMMITMENTS AND CONTINGENCIES | ||||||
NET ASSETS, REPRESENTING PARTNERS’ EQUITY: | ||||||
GENERAL PARTNERS’ CONTROLLING INTEREST | 166,151,535 | 167,204,272 | ||||
NONCONTROLLING INTEREST | 2,202,823 | 2,097,909 | ||||
| 168,354,358 | 169,302,181 | |||||
Total liabilities and partners’ equity | $ | 203,778,290 | $ | 204,296,658 | ||
NUMBER OF SHARES OUTSTANDING AT END OF PERIOD | 6,461,874 | 6,461,874 | ||||
SHARE VALUE AT END OF PERIOD | $ | 25.71 | $ | 25.88 | ||
The accompanying notes are an integral part of these consolidated financial statements.
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THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY PARTNERSHIP
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
| For the Three Months Ended March 31, | ||||||
| 2010 | 2009 | |||||
INVESTMENT INCOME: | ||||||
Revenue from real estate and improvements | $ | 5,817,966 | $ | 6,852,896 | ||
Equity in income of real estate partnerships | 249,109 | 271,443 | ||||
Interest on short-term investments | 5,853 | 10,747 | ||||
Total investment income | 6,072,928 | 7,135,086 | ||||
INVESTMENT EXPENSES: | ||||||
Operating | 1,559,772 | 1,763,751 | ||||
Investment management fee | 575,677 | 725,937 | ||||
Real estate taxes | 650,703 | 755,705 | ||||
Administrative | 1,164,870 | 1,230,684 | ||||
Interest expense | 253,675 | 460,734 | ||||
Total investment expenses | 4,204,697 | 4,936,811 | ||||
| �� | ||||||
NET INVESTMENT INCOME | 1,868,231 | 2,198,275 | ||||
Unrealized gain (loss) on investments held: | ||||||
Change in unrealized gain (loss) on real estate investments held | (2,743,798) | (26,328,074) | ||||
Increase (decrease) in net assets resulting from operations | $ | (875,567) | $ | (24,129,799) | ||
Amounts attributable to noncontrolling interest: | ||||||
Net investment income (loss) attributable to noncontrolling interest | 32,867 | 112,453 | ||||
Net unrealized gain (loss) attributable to noncontrolling interest | 144,303 | (1,054,616) | ||||
Net increase (decrease) in net assets resulting from operations attributable to the noncontrolling interest | $ | 177,170 | $ | (942,163) | ||
Amounts attributable to general partners’ controlling interest: | ||||||
Net investment income attributable to general partners’ controlling interest | 1,835,364 | 2,085,822 | ||||
Net unrealized gain (loss) attributable to general partners’ controlling interest | (2,888,101) | (25,273,458) | ||||
Net increase (decrease) in net assets resulting from operations attributable to general partners’ controlling interest | $ | (1,052,737) | $ | (23,187,636) | ||
The accompanying notes are an integral part of these consolidated financial statements.
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THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY PARTNERSHIP
CONSOLIDATED STATEMENTS OF CHANGES IN NET ASSETS
(Unaudited)
| For the Three Months Ended March 31, | ||||||||||||||||||
| 2010 | 2009 | |||||||||||||||||
General Partners’ Controlling Interest | Noncontrolling Interest | Total | General Partners’ Controlling Interest | Noncontrolling Interest | Total | |||||||||||||
INCREASE (DECREASE) IN NET ASSETS | ||||||||||||||||||
RESULTING FROM OPERATIONS: | ||||||||||||||||||
Net investment income | $ | 1,835,364 | $ | 32,867 | $ | 1,868,231 | $ | 2,085,822 | $ | 112,453 | $ | 2,198,275 | ||||||
Net unrealized gain (loss) from real estate investments | (2,888,101) | 144,303 | (2,743,798) | (25,273,458) | (1,054,616) | (26,328,074) | ||||||||||||
Increase (decrease) in net assets resulting from operations | (1,052,737) | 177,170 | (875,567) | (23,187,636) | (942,163) | (24,129,799) | ||||||||||||
INCREASE (DECREASE) IN NET ASSETS RESULTING FROM CAPITAL TRANSACTIONS: | ||||||||||||||||||
Distributions to noncontrolling interest | - | (72,256) | (72,256) | - | (103,702) | (103,702) | ||||||||||||
Increase (decrease) in net assets resulting from capital transactions | - | (72,256) | (72,256) | - | (103,702) | (103,702) | ||||||||||||
INCREASE (DECREASE) IN NET ASSETS | (1,052,737) | 104,914 | (947,823) | (23,187,636) | (1,045,865) | (24,233,501) | ||||||||||||
NET ASSETS - Beginning of period | 167,204,272 | 2,097,909 | 169,302,181 | 213,938,308 | 4,924,263 | 218,862,571 | ||||||||||||
NET ASSETS - End of period | $ | 166,151,535 | $ | 2,202,823 | $ | 168,354,358 | $ | 190,750,672 | $ | 3,878,398 | $ | 194,629,070 | ||||||
The accompanying notes are an integral part of these consolidated financial statements.
14
THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY PARTNERSHIP
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
| For the Three Months Ended March 31, | ||||||
| 2010 | 2009 | |||||
CASH FLOWS FROM OPERATING ACTIVITIES: | ||||||
Net increase (decrease) in net assets from operations | $ | (875,567) | $ | (24,129,799) | ||
Adjustments to reconcile net increase (decrease) in net assets to net cash provided by (used in) operating activities | ||||||
Net realized and unrealized loss (gain) | 2,743,798 | 26,328,074 | ||||
Amortization of discount on investment level debt | (930) | 1,472 | ||||
Amortization of deferred financing costs | 17,581 | 27,680 | ||||
Distributions in excess of (less than) equity in income of real estate partnerships’ operations | 17,793 | (4,793) | ||||
Bad debt expense | 1,531 | 18,585 | ||||
(Increase) decrease in: | ||||||
Other assets | 170,847 | 388,352 | ||||
Increase (decrease) in: | ||||||
Accounts payable and accrued expenses | 647,702 | (138,975) | ||||
Due to affiliates | (14,017) | (112,250) | ||||
Other liabilities | (65,617) | (60,739) | ||||
Net cash flows provided by (used in) operating activities | 2,643,121 | 2,317,607 | ||||
CASH FLOWS PROVIDED FOR INVESTING ACTIVITIES: | ||||||
Additions to real estate and improvements | (1,329,519) | (441,575) | ||||
Net cash flows provided by (used in) investing activities | (1,329,519) | (441,575) | ||||
CASH FLOWS FROM FINANCING ACTIVITIES: | ||||||
Principal payments on investment level debt | (137,683) | (102,161) | ||||
Distributions to noncontrolling interest | (72,256) | (103,702) | ||||
Net cash flows provided by (used in) financing activities | (209,939) | (205,863) | ||||
NET CHANGE IN CASH AND CASH EQUIVALENTS | 1,103,663 | 1,670,169 | ||||
CASH AND CASH EQUIVALENTS - Beginning of period | 24,522,159 | 27,736,520 | ||||
CASH AND CASH EQUIVALENTS - End of period | $ | 25,625,822 | $ | 29,406,689 | ||
The accompanying notes are an integral part of these consolidated financial statements.
15
THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY PARTNERSHIP
CONSOLIDATED SCHEDULE OF INVESTMENTS
| Property Name | March 31, 2010 Ownership | City, State | 2010 Total Rentable Unless Otherwise | March 31,2010 (unaudited) |
December 31, 2009 | |||||||||||||||
| Cost | Estimated Fair Value | Cost | Estimated Fair Value | |||||||||||||||||
OFFICES | ||||||||||||||||||||
750 Warrenville | WO | Lisle, IL | 103,193 | $ | 26,236,856 | $ | 7,100,000 | $ | 26,186,415 | $ | 6,700,000 | |||||||||
Summit @ Cornell Oaks | WO | Beaverton, OR | 72,109 | 12,612,726 | 7,500,000 | 12,625,626 | 8,500,000 | |||||||||||||
Westpark | WO | Nashville, TN | 97,199 | 14,108,757 | 9,300,000 | 13,019,181 | 8,700,000 | |||||||||||||
Financial Plaza | WO | Brentwood, TN | 98,049 | 12,567,735 | 9,700,000 | 12,564,614 | 9,700,000 | |||||||||||||
Offices % as of 3/31/10 | 20% | 65,526,074 | 33,600,000 | 64,395,836 | 33,600,000 | |||||||||||||||
APARTMENTS | ||||||||||||||||||||
Brookwood Apartments | WO | Atlanta, GA | 240 Units | 20,298,568 | 14,700,000 | 20,210,830 | 14,500,000 | |||||||||||||
Dunhill Trace Apartments | WO | Raleigh, NC | 250 Units | 16,527,358 | 14,800,000 | 16,512,970 | 15,000,000 | |||||||||||||
Broadstone Crossing | WO | Austin, TX | 225 Units | 22,816,631 | 21,000,000 | 22,815,992 | 21,000,000 | |||||||||||||
The Reserve At Waterford Lakes | WO | Charlotte, NC | 140 Units | 13,775,980 | 9,200,000 | 13,746,940 | 9,200,000 | |||||||||||||
Apartments % as of 3/31/10 | 36% | 73,418,537 | 59,700,000 | 73,286,732 | 59,700,000 | |||||||||||||||
RETAIL | ||||||||||||||||||||
Hampton Towne Center | WO | Hampton, VA | 174,540 | 18,147,199 | 16,700,000 | 18,136,399 | 18,600,000 | |||||||||||||
White Marlin Mall | CJV | Ocean City, MD | 197,098 | 23,363,254 | 24,900,000 | 23,311,878 | 24,600,000 | |||||||||||||
Westminster Crossing East, LLC | CJV | Westminster, MD | 89,890 | 15,045,511 | 13,800,000 | 15,044,877 | 13,900,000 | |||||||||||||
CARS Preferred Equity | PE | Various | N/A | 14,220,905 | 10,312,436 | 14,238,698 | 10,044,510 | |||||||||||||
Harnett Crossing | CJV | Dunn, NC | 194,327 | 6,239,452 | 3,200,000 | 6,237,926 | 3,200,000 | |||||||||||||
Retail % as of 3/31/10 | 41% | 77,016,321 | 68,912,436 | 76,969,778 | 70,344,510 | |||||||||||||||
HOTEL | ||||||||||||||||||||
Portland Crown Plaza | CJV | Portland, OR | 161 Rooms | 10,681,035 | 13,500,000 | 10,677,895 | 13,500,000 | |||||||||||||
Hotel % as of 3/31/10 | 8% | 10,681,035 | 13,500,000 | 10,677,895 | 13,500,000 | |||||||||||||||
Total Real Estate Investments as a Percentage of General Partners’ Controlling Interest as of 3/31/10 | 105% | $ | 226,641,967 | $ | 175,712,436 | $ | 225,330,241 | $ | 177,144,510 | |||||||||||
WO - Wholly Owned Investment
CJV - Consolidated Joint Venture
EJV - Joint Venture Investment accounted for under the equity method
PE - Preferred equity investments
The accompanying notes are an integral part of these consolidated financial statements.
16
CONSOLIDATED SCHEDULE OF INVESTMENTS
| Face Amount | March 31, 2010 (unaudited) | December 31, 2009 | |||||||||||||
| Cost | Estimated Fair Value | Cost | Estimated Fair Value | ||||||||||||
| CASH AND CASH EQUIVALENTS - Percentage of General Partner’s Controlling Interest | 15.4% | 14.7% | |||||||||||||
Federal Home Loan Bank, 0 coupon bond, April 1, 2010 | $ | 5,967,000 | $ | 5,967,000 | $ | 5,967,000 | $ | 2,999,184 | $ | 2,999,184 | |||||
Federal Home Loan Bank, 0 coupon bond, April 16, 2010 | 12,999,225 | 12,999,225 | 12,999,225 | 9,997,769 | 9,997,769 | ||||||||||
Federal Home Loan Bank, 0 coupon bond, April 23, 2010 | 4,999,603 | 4,999,603 | 4,999,603 | 2,999,267 | 2,999,267 | ||||||||||
Federal Home Loan Bank, 0 coupon bond, March, 2010 | - | - | 1,999,660 | 1,999,660 | |||||||||||
Total Cash Equivalents | 23,965,828 | 23,965,828 | 17,995,880 | 17,995,880 | |||||||||||
Cash | 1,659,994 | 1,659,994 | 6,526,279 | 6,526,279 | |||||||||||
Total Cash and Cash Equivalents | $ | 25,625,822 | $ | 25,625,822 | $ | 24,522,159 | $ | 24,522,159 | |||||||
The accompanying notes are an integral part of these consolidated financial statements.
17
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS OF
THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY PARTNERSHIP
March 31, 2010 and December 31, 2009
Note 1: Summary of Significant Accounting Policies
| A. | Basis of Presentation - The accompanying consolidated financial statements of The Prudential Variable Contract Real Property Partnership (the “Partnership”) included herein have been prepared in accordance with the requirements of Form 10-Q and accounting principles generally accepted in the United States of America that are applicable to real estate investment companies. In the opinion of management, all adjustments (consisting only of normal recurring adjustments) considered necessary for a fair statement have been included. Operating results for the three months ended March 31, 2010 are not necessarily indicative of the results that may be expected for the year ended December 31, 2010. For further information, refer to the audited consolidated financial statements and notes thereto included in each partner’s Annual Report on Form 10-K for the Year Ended December 31, 2009. The Partnership has evaluated subsequent events through May 10, 2010, the date these financial statements were available to be issued. |
| B. | Accounting Pronouncements Adopted-In December 2007, FASB revised authoritative guidance for business combinations, which expands the definition of a business and redefines the acquisition date in a merger and acquisition transaction. It significantly modifies the existing guidance for business combinations, including changes to acquisition related contingent consideration, preacquisition contingencies, noncontrolling interest, restructuring costs, in-process R&D, goodwill and partial acquisition. This guidance is effective for acquisitions closing after the first annual reporting period beginning after December 15, 2008. The Partnership’s adoption of this guidance effective January 1, 2009 did not have a material effect on the Partnership’s consolidated financial position or results of operations, but may have an effect on the accounting for future business combinations. |
In December 2007, FASB revised the accounting, presentation and disclosure for noncontrolling interests in consolidated financial statements. This revised guidance requires noncontrolling interests to be reported as a separate component of equity. It also changes the allocation of losses and accounting in step acquisitions. The provisions in this revision should be applied prospectively except for the presentation and disclosure requirements, which are required retrospectively for all periods presented. After the initial adoption, any retained noncontrolling equity investment as a result of a deconsolidation must be measured at fair value at the date of the deconsolidation. This guidance is effective for the annual periods beginning after December 15, 2008. Pursuant to the Partnership’s adoption on January 1, 2009 of the revised guidance, the Partnership is presenting its noncontrolling interests as equity for all periods presented in the financial statements. Noncontrolling interests, previously reported as a liability, are now required to be reported as a separate component of equity on the balance sheet. In addition, net income (loss) attributable to the noncontrolling interest, which was previously reported as an expense and reflected within Net Investment Income is now reported as a separate amount below “Increase (decrease) in Net Assets Resulting from Operations”.
In April 2009, the FASB revised authoritative guidance on issued recognition and presentation of other-than-temporary impairments. This revision amends the other-than-temporary impairment guidance for debt securities and expands the presentation and disclosure requirements of other-than-temporary impairments on debt and equity securities in the financial statements. This revision also requires that the required annual disclosures for debt and equity securities be made for interim reporting periods. This revision does not amend existing recognition and measurement guidance related to other-than-temporary impairments of equity securities. This revision is effective for interim and annual reporting periods ending after June 15, 2009, with early adoption permitted for periods ending after March 15, 2009. The Partnership’s early adoption of this guidance effective January 1, 2009 did not have a material effect on the Partnership’s consolidated financial position or results of operations.
In April 2009, the FASB issued authoritative guidance on determining fair value when the volume and level of activity for the asset or liability have significantly decreased and identifying transactions that are not orderly. This guidance also amends the disclosure requirements in interim and annual periods. This guidance is effective for interim and annual reporting periods ending after June 15, 2009, and shall be applied prospectively. Early adoption is permitted for periods ending after March 15, 2009. The Partnership’s early adoption of this guidance effective January 1, 2009 did not have a material effect on the Partnership’s consolidated financial position or results of operations.
18
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS OF
THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY PARTNERSHIP
March 31, 2010 and December 31, 2009
Note 1: Summary of Significant Accounting Policies (continued)
| B | Accounting Pronouncements Adopted (continued) |
In April 2009, the FASB issued additional guidance for accounting for assets acquired and liabilities assumed in a business combination that arise from contingencies. This guidance requires an asset acquired or liability assumed in a business combination that arises from a contingency to be recognized at fair value at the acquisition date, if the acquisition date fair value of that asset or liability can be determined during the measurement period. If the acquisition date fair value of an asset acquired or liability assumed in a business combination that arises from a contingency cannot be determined during the measurement period, the asset or liability shall be recognized at the acquisition date using the guidance in accounting for contingencies. This guidance also amends disclosure requirements. This guidance is effective for assets or liabilities arising from contingencies in business combinations for which the acquisition date is on or after January 1, 2009. The Partnership’s adoption of this guidance effective January 1, 2009 did not have a material effect on the Partnership’s consolidated financial position or results of operations.
In April 2009, the FASB issued additional guidance for interim disclosures about fair value of financial instruments for interim reporting periods of publicly traded companies as well as in annual financial statements. This guidance is effective for interim reporting periods ending after June 15, 2009, with early adoption permitted. The Partnership adopted this guidance within the interim period ending June 30, 2009. The Partnership’s adoption of this guidance did not have a material effect on the Partnership’s consolidated financial position or results of operations.
In May 2009, the FASB issued authoritative guidance for subsequent events. Subsequent events are events that occur after balance sheet date but before financial statements are issued or are available to be issued. This guidance addresses the accounting for and disclosure of subsequent events not addressed in other applicable Generally Accepted Accounting Principles (“U.S. GAAP”), including disclosure of the date through which subsequent events have been evaluated. This guidance is effective for interim or annual periods ending after June 15, 2009. The Partnership’s adoption of this guidance effective with the interim period ending June 30, 2009 did not have a material effect on the Partnership’s consolidated financial position or results of operations. The required disclosure of the date through which subsequent events have been evaluated is provided in Note 1A.
In July 2009, the FASB launched its Accounting Standards Codification (the “Codification”), as the sole source of authoritative U.S. GAAP to be applied by nongovernmental entities. The Codification generally does not change the existing rules of U.S. GAAP but rather makes it easier to find and research U.S. GAAP applicable to a particular transaction or specific accounting issue. The Codification is a new structure which takes accounting pronouncements and organizes them by approximately ninety accounting topics and aggregates them in four common accounting areas. Topics within each category are further broken down into subtopics, sections and paragraphs. Accounting standards that are included in the Codification will be considered authoritative whereas those that are not included will be deemed non-authoritative. As a result, there are two levels of U.S. GAAP, authoritative and non-authoritative. The Codification is effective for financial statements that cover the interim and annual periods ending after September 15, 2009 and has impacted the way the Partnership references U.S. GAAP accounting standards in the financial statements.
In September 2009, the FASB issued updated guidance for the fair value measurement of investments in certain entities that calculate net asset value per share including certain alternative investments such as hedge funds, private equity funds, and venture capital funds. This guidance allows companies to determine the fair value of such investments using net asset value (“NAV”) as a practical expedient if the fair value of the investment is not readily determinable and the investee entity issues financial statements in accordance with measurement principles for investment companies. Use of this practical expedient is prohibited if it is probable the investment will be sold at something other than NAV. This guidance also requires new disclosures for each major category of alternative investments. It is effective for the first annual or interim reporting period ending after December 15, 2009, with early application permitted. The Partnership’s adoption of this guidance effective December 31, 2009 did not have a material effect on the Partnership’s consolidated financial position or results of operations.
19
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS OF
THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY PARTNERSHIP
March 31, 2010 and December 31, 2009
Note 1: Summary of Significant Accounting Policies (continued)
| B | Accounting Pronouncements Adopted (continued) |
In January 2010, the FASB issued updated guidance that clarifies existing guidance on accounting and reporting by an entity that experiences a decrease in ownership of a subsidiary that is a business. The updated guidance states that a decrease in ownership applies to a subsidiary or group of assets that is a business, but does not apply to a sale of in-substance real estate even if it involves a business, such as an ownership interest in a partnership whose only asset is operating real estate. This guidance also affects accounting and reporting by an entity that exchanges a group of assets that constitutes a business for an equity interest in another entity. The updated guidance also expands disclosures about fair value measurements relating to retained investments in a deconsolidated subsidiary or a preexisting interest held by an acquirer in a business combination. The updated guidance is effective in the first interim or annual reporting period ending on or after December 15, 2009, and is applied on a retrospective basis to the first period that the Partnership adopted the existing guidance, which was as of January 1, 2009. The Partnership’s adoption of this updated guidance effective December 31, 2009 did not have a material effect on the Partnership’s consolidated financial position, results of operations, or financial statement disclosure.
Note 2: Disclosure of Supplemental Cash Flow Information and Non-Cash Investing and Financing Activity
Cash paid for interest during the three months ended March 31, 2010 and March 31, 2009, was $236,094, and $433,054, respectively.
20
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS OF
THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY PARTNERSHIP
March 31, 2010 and December 31, 2009
Note 3: Fair Value Measurements
Valuation Methods:
Real estate investments are carried at fair value. Properties owned are initially recorded at the purchase price plus closing costs. Development costs and major renovations are capitalized as a component of cost, and routine maintenance and repairs are charged to expense as incurred. Real estate costs include the cost of acquired property, including all the tangible and intangible assets. Tangible assets include the value of all land, building and tenant improvements at the time of acquisition. Intangible assets include the value of any above and below market leases, in-place leases, and tenant relationships at the time of acquisition.
In general fair value estimates are based upon property appraisal reports prepared by independent real estate appraisers (members of the Appraisal Institute or an equivalent organization) within a reasonable amount of time following acquisition of the real estate and no less frequently than annually thereafter. The Chief Real Estate Appraiser of Prudential Investment Management, Inc. (“PIM”), which is an indirectly owned subsidiary of Prudential Financial, Inc., is responsible to assure that the valuation process provides independent and reasonable property fair value estimates. An unaffiliated third party has been appointed by PIM to assist the Chief Real Estate Appraiser in maintaining and monitoring the independence and the accuracy of the appraisal process. The fair value of real estate investments does not reflect the transaction sale costs, which may be incurred upon disposition of the real estate investments.
The purpose of an appraisal is to estimate the fair value of real estate as of a specific date. In accordance with FASB authoritative guidance on fair value measurements and disclosures, fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The estimate of fair value is based on the conventional approaches to value, all of which require the exercise of subjective judgment. The three approaches are: (1) current cost of reproducing the real estate less deterioration and functional and economic obsolescence; (2) discounting a series of income streams and reversion at a specific yield or by directly capitalizing a single year income estimate by an appropriate factor; and (3) value indicated by recent sales of comparable real estate in the market. In the reconciliation of these three approaches, the independent appraiser uses one or a combination of them, to come up with the approximated value for the type of real estate in the market.
Fair Value Measurements:
FASB authoritative guidance on fair value measurements and disclosures establishes a fair value measurement framework, provides a single definition of fair value and requires expanded disclosure summarizing fair value measurements. This guidance provides a three-level hierarchy based on the inputs used in the valuation process. The level in the fair values hierarchy within which the fair value measurement falls is determined based on the lowest level input that is significant to the fair value measurement. The levels of the fair value hierarchy are as follows;
Level 1 – Fair value is based on unadjusted quoted prices in active markets that are accessible to the entity for identical assets or liabilities. These generally provide the most reliable evidence and should be used to measure fair value whenever available.
Level 2 – Fair value is based on inputs, other than Level 1 inputs, that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the asset or liability through corroboration with observable market data.
Level 3 – Fair value is based on significant unobservable inputs for the asset or liability. These inputs reflect the entity’s own assumptions about how market participants would price the asset or liability.
For items classified as Level 3, a reconciliation of the beginning and ending balances, as shown in table 2 below, is also required.
21
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS OF
THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY PARTNERSHIP
March 31, 2010 and December 31, 2009
Note 3: Fair Value Measurements (continued)
Table 1 below summarizes the assets measured at fair value on a recurring basis and their respective position in the fair value hierarchy.
Table 1
(in 000’s) | |||||||||||||||
Fair value measurements at March 31, 2010 using | |||||||||||||||
| Assets: | Cost at 3/31/10 | Amounts measured at fair value 3/31/10 | Quoted prices in active markets for identical assets (level 1) | Significant other observable inputs (level 2) | Significant inputs (level 3) | ||||||||||
| Real estate and improvements | $ | 212,421 | $ | 165,400 | $ | - | $ | - | $ | 165,400 | |||||
| Real estate partnerships and preferred equity investments | 14,221 | 10,312 | - | - | 10,312 | ||||||||||
Total | $ | 226,642 | $ | 175,712 | $ | - | $ | - | $ | 175,712 | |||||
(in 000’s) | |||||||||||||||
Fair value measurements at December 31, 2009 using | |||||||||||||||
| Assets: | Cost at 12/31/09 | Amounts measured at fair value 12/31/2009 | Quoted prices in active markets for identical assets (level 1) | Significant other observable inputs (level 2) | Significant inputs (level 3) | ||||||||||
| Real estate and improvements | $ | 211,092 | $ | 167,100 | $ | - | $ | - | $ | 167,100 | |||||
| Real estate partnerships and preferred equity investments | 14,239 | 10,045 | - | - | 10,045 | ||||||||||
Total | $ | 225,331 | $ | 177,145 | $ | - | $ | - | $ | 177,145 | |||||
22
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS OF
THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY PARTNERSHIP
March 31, 2010 and December 31, 2009
Note 3: Fair Value Measurements (continued)
Table 2 below provides a reconciliation of the beginning and ending balances for all assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the period ended March 31, 2010 and March 31, 2009.
Table 2
(in 000’s)
Fair value measurements using significant unobservable inputs
for the three months ending March 31, 2010
(Level 3)
| Real estate and improvements | Real estate and partnerships and preferred equity investments | Total | |||||||||
Beginning balance @ 1/1/10 | $ | 167,100 | $ | 10,045 | $ | 177,145 | |||||
Net gains (losses) realized/unrealized included in earnings (or changes in net assets) | (3,029 | ) | 286 | (2,743) | |||||||
Equity income (losses)/interest income | - | 249 | 249 | ||||||||
Purchases, issuances and settlements | 1,329 | (268 | ) | 1,061 | |||||||
Ending balance @ 3/31/10 | $ | 165,400 | $ | 10,312 | $ | 175,712 | |||||
Unrealized gains (losses) for the period relating to level 3 assets still held at the reporting date | $ | (3,029 | ) | $ | 286 | $ | (2,743) | ||||
(in 000’s)
Fair value measurements using significant unobservable inputs
for the three months ending March 31, 2009
(Level 3)
| Real estate and improvements | Real estate and partnerships and preferred equity investments | Total | |||||||||
Beginning balance @ 1/1/09 | $ | 221,196 | $ | 11,797 | $ | 232,993 | |||||
Net gains (losses) realized/unrealized included in earnings (or changes in net assets) | (25,138 | ) | (1,190 | ) | (26,328) | ||||||
Equity income (losses)/interest income | - | 271 | 271 | ||||||||
Purchases, issuances and settlements | 442 | (267 | ) | 175 | |||||||
Ending balance @ 3/31/09 | $ | 196,500 | $ | 10,611 | $ | 207,111 | |||||
Unrealized gains (losses) for the period relating to level 3 assets still held at the reporting date | $ | (25,138 | ) | $ | (1,190 | ) | $ | (26,328) | |||
23
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS OF
THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY PARTNERSHIP
March 31, 2010 and December 31, 2009
Note 4: Investment Level Debt
Investment level debt includes mortgage loans payable on wholly owned properties and consolidated partnerships and is stated at the principal amount of the obligations outstanding. At times the Partnership may assume debt in connection with the purchase of real estate. For debt assumed, the Partnership allocates a portion of the purchase price to the below/above market debt and amortizes the premium/discount over the remaining life of the debt.
Based on borrowing rates available to the Partnership at March 31, 2010 for loans with similar terms and average maturities, the Partnership’s mortgages on wholly owned properties and consolidated partnerships have an estimated fair value of approximately $31 million, and a carrying value of $31 million. Different assumptions or changes in future market conditions could significantly affect estimated fair value.
Note 5: Risk
| A. | Valuation Risk |
Recent disruptions in the global capital, credit and real estate markets have led to, among other things, decline in the volume of transaction activity, in the fair value of many real estate and real estate related investments, and a contraction in short-term and long-term debt and equity funding sources. The decline in liquidity and prices of real estate and real estate related investments, as well as the availability of observable transaction data and inputs, may have made it more difficult to determine the fair value of such investments. As a result, these estimated fair values may vary significantly from the prices at which the real estate investments would sell, since market prices of real estate investments can only be determined by negotiation between a willing buyer and seller. These differences could be material to the financial statements. Although the estimated fair values represent subjective estimates, management believes that these estimated fair values are reasonable approximations of market prices and the aggregate estimated value of investments in real estate are fairly presented as of March 31, 2010 and December 31, 2009.
| B. | Financing, Covenant, and Repayment Risks |
In the normal course of business, the Partnership enters into loan agreements with certain lenders to finance its real estate investment transactions. Unfavorable economic conditions could increase related borrowing costs, limit access to the capital markets or result in a decision by lenders not to extend credit to the Partnership. There is no guarantee that the Partnership’s borrowing arrangements or ability to obtain leverage will continue to be available, or if available, will be available on terms and conditions acceptable to the Partnership. Further, these loan agreements contain, among other conditions, events of default and various covenants and representations. In the normal course of business, the Partnership may be in the process of renegotiating terms for loans outstanding that have passed their maturity dates. At March 31, 2010 the Partnership had no outstanding matured loans.
A decline in market value of the Partnership’s assets may also have particular adverse consequences in instances where the Partnership borrowed money based on the fair value of specific assets. A decrease in market value of these assets may result in the lender requiring the Partnership to post additional collateral or otherwise repay these loans.
In the event the Partnership’s current portfolio and investment obligations are not refinanced or extended when they become due and/or the Partnership is required to repay such borrowings and obligations, management anticipates that the repayment of these obligations, will be provided by operating cash flow, new debt refinancing, and real estate investment sales.
24
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS OF
THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY PARTNERSHIP
March 31, 2010 and December 31, 2009
Note 6: Commitments and Contingencies
The Partnership is subject to various legal proceedings and claims arising in the ordinary course of business. These matters are generally covered by insurance. In the opinion of Partnership’s management, the outcome of such matters will not have a significant effect on the financial position of the Partnership.
Note 7: Related Party Transactions
Pursuant to an investment management agreement, Prudential Investment Management, Inc. (“PIM”), which is an indirectly owned subsidiary of Prudential Financial Inc., charges the Partnership a daily investment management fee at an annual rate of 1.25% of the average daily gross asset valuation of the Partnership. For the period ended March 31, 2010 and March 31, 2009, management fees incurred by the Partnership were $575,677 and $725,937, respectively. The Partnership also reimburses PIM for certain administrative services rendered by PIM. The amounts incurred for the three months ended March 31, 2010 and March 31, 2009, were $13,407 and $13,407; respectively, and are classified as administrative expenses in the Consolidated Statements of Operations.
25
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS OF
THE PRUDENTIAL VARIABLE CONTRACT REAL PROPERTY PARTNERSHIP
March 31, 2010 and December 31, 2009
Note 8: Financial Highlights
| For The Three Months Ended March 31, | |||||||||||||||
| 2010 | 2009 | 2008 | 2007 | 2006 | |||||||||||
Per Share(Unit) Operating Performance: | |||||||||||||||
Net Asset Value attributable to general partners’ controlling interest, beginning of period | $ | 25.88 | $ | 31.65 | $ | 36.55 | $ | 33.87 | $ | 29.59 | |||||
Income From Investment Operations: | |||||||||||||||
Net investment income attributable to general partners’ controlling interest, before management fee | 0.37 | 0.42 | 0.61 | 0.52 | 0.50 | ||||||||||
Investment Management fee attributable to general partners’ controlling interest | (0.09) | (0.11) | (0.13) | (0.12) | (0.11) | ||||||||||
Net realized and unrealized gain (loss) on investments attributable to general partners’ controlling interest | (0.45) | (3.74) | (0.10) | 0.33 | 0.95 | ||||||||||
Net Increase/(Decrease) in Net Assets Resulting from Operations attributable to general partners’ controlling interest | (0.17) | (3.43) | 0.38 | 0.73 | 1.34 | ||||||||||
Net Asset Value attributable to general partners’ controlling interest, end of period | $ | 25.71 | $ | 28.22 | $ | 36.93 | $ | 34.60 | $ | 30.93 | |||||
Total Return attributable to general partners’ controlling interest, before Management Fee: | -0.29% | -10.50% | 1.38% | 2.53% | 4.89% | ||||||||||
Total Return attributable to general partners’ controlling interest, after Management Fee (a): | -0.63% | -10.83% | 1.03% | 2.17% | 4.53% | ||||||||||
Ratios/Supplemental Data: | |||||||||||||||
Net Assets attributable to general partners’ controlling interest, end of period (in millions) | $ | 166 | $ | 191 | $ | 250 | $ | 234 | $ | 215 | |||||
Ratios to average net assets for the period ended (b): | |||||||||||||||
Total Portfolio Level Expenses | 0.39% | 0.32% | 0.35% | 0.38% | 0.36% | ||||||||||
Net Investment Income, before Management Fee | 1.38% | 1.25% | 1.66% | 1.53% | 1.68% | ||||||||||
| (a) | Total Return, after management fee is calculated by geometrically linking quarterly returns which are calculated using the formula below : |
| Net Investment Income + Net Realized and Unrealized Gains/(Losses) | ||
| Beg. Net Asset Value + Time Weighted Contributions - Time Weighted Distributions | ||
(b) | Average net assets are based on beginning of quarter net assets. | |||
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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
All of the assets of the Real Property Account, or the “Account”, are invested in the Partnership. Accordingly, the liquidity and capital resources and results of operations for the Account are contingent upon those of the Partnership. Therefore, this management’s discussion and analysis addresses these items at the Partnership level. The partners in the Partnership are Prudential, Pruco Life Insurance Company, and Pruco Life Insurance Company of New Jersey, or collectively, the “Partners”.
The following discussion and analysis of the liquidity and capital resources and results of operations of the Partnership should be read in conjunction with the unaudited Consolidated Financial Statements of the Account and the Partnership and the related Notes included in this filing.
(a) Liquidity and Capital Resources
As of March 31, 2010, the Partnership’s liquid assets, consisting of cash and cash equivalents, were approximately $25.6 million, an increase of approximately $1.1 million from $24.5 million at December 31, 2009. The increase was primarily due to cash flows received from the Partnership’s operating activities. Partially offsetting this increase were capital expenditures to existing properties. Sources of liquidity included net cash flow from property operations, and interest from short-term investments. The Partnership uses cash for its real estate investment activities and for its distributions to its partners. As of March 31, 2010, approximately 12.6% of the Partnership’s total assets consisted of cash and cash equivalents.
The Partnership did not have any dispositions or acquisitions for the quarter ended March 31, 2010.
During the quarter ended March 31, 2010, the Partnership spent approximately $1.3 million on capital improvements to various existing properties. Approximately $1.1 million was associated with leasing expenses and capital upgrades at the office property in Brentwood, Tennessee. The remaining $0.2 million was associated with minor capital improvements and transaction costs associated with leasing expenses of various other properties.
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(b) Results of Operations
The following is a comparison of the Partnership’s results of operations for the quarter ended March 31, 2010, and 2009.
Net Investment Income Overview
The Partnership’s net investment income attributable to the general partners’ controlling interest for the quarter ended March 31, 2010 was approximately $1.8 million, a decrease of approximately $0.3 million from the prior year period. The decrease in net investment income attributable to the general partners’ controlling interest resulted primarily from a decline of approximately $0.3 million in net investment income for each of the retail and office sector investments from the prior year period. This decrease was slightly offset by increases in net investment income attributable to the general partners’ controlling interest of $0.2 million and $0.1 million in the apartment sector and other income, respectively. The components of this net investment income and/or loss attributable to the general partners’ controlling interest are discussed below by investment type.
Valuation Overview
The Partnership recorded a net unrealized loss attributable to the general partners’ controlling interest of approximately $2.9 million for the quarter ended March 31, 2010, compared with a net unrealized loss attributable to the general partners’ controlling interest of approximately $25.3 million for the prior year period. The net unrealized loss attributable to the general partners’ controlling interest for quarter ended March 31, 2010 was due to property valuation declines across all property sectors caused by weakened property fundamentals.
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The following table presents a comparison of the Partnership’s sources of net investment income attributable to the general partners’ controlling interest, and realized and unrealized gains or losses attributable to the general partners’ controlling interest by investment type for the quarters ended March 31, 2010 and 2009.
| Three Months Ended March 31, | ||||||
| 2010 | 2009 | |||||
Net Investment Income: | ||||||
Office properties | $ | 566,456 | $ | 826,250 | ||
Apartment properties | 833,305 | 599,924 | ||||
Retail properties | 1,075,752 | 1,346,827 | ||||
Hotel property | 29,730 | 63,705 | ||||
Other (including interest income, investment mgt fee, etc.) | (669,878) | (750,884) | ||||
Total Net Investment Income | $ | 1,835,365 | $ | 2,085,822 | ||
| Net Unrealized Gain (Loss) on Real Estate Investments: | ||||||
Office properties | $ | (1,130,237) | $ | (6,195,849) | ||
Apartment properties | (131,805) | (8,422,433) | ||||
Retail properties | (1,623,544) | (9,159,625) | ||||
Hotel property | (2,515) | (1,495,551) | ||||
| Net Unrealized Gain (Loss) on Real Estate Investments | $ | (2,888,101) | $ | (25,273,458) | ||
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OFFICE PROPERTIES
Three Months Ended March 31, | Net Investment Income/(Loss) 2010 | Net Investment Income/(Loss) 2009 | Unrealized Gain/(Loss) 2010 | Unrealized Gain/(Loss) 2009 | Occupancy 2010 | Occupancy 2009 | ||||||||||||
Property | ||||||||||||||||||
Lisle, IL | $ | 53,026 | $ | 69,384 | $ | 349,559 | $ | (1,053,615) | 48 | % | 32 | % | ||||||
Brentwood, TN | (117,634) | 177,435 | (489,575) | (2,641,311) | 70 | % | 78 | % | ||||||||||
Beaverton, OR | 317,433 | 297,485 | (987,100) | (1,400,000) | 88 | % | 88 | % | ||||||||||
Brentwood, TN | 313,631 | 281,946 | (3,121) | (1,100,923) | 100 | % | 100 | % | ||||||||||
| $ | 566,456 | $ | 826,250 | $ | (1,130,237) | $ | (6,195,849) | |||||||||||
Net Investment Income
Net investment income attributable to the general partners’ controlling interest for the Partnership’s office properties was approximately $0.6 million for the quarter ended March 31, 2010, a decrease of approximately $0.3 million from the prior year period. The decrease was primarily due to decreased rental income at the property in Brentwood, Tennessee due to free rent given to the building’s largest tenant as part of a renewal of the tenant’s lease.
Unrealized Gain/(Loss)
The office properties owned by the Partnership recorded a net unrealized loss attributable to the general partners’ controlling interest of approximately $1.1 million during the quarter ended March 31, 2010, compared with a net unrealized loss attributable to the general partners’ controlling interest of approximately $6.2 million for the prior year period. The net unrealized loss attributable to the general partners’ controlling interest for the quarter ended March 31, 2010 was primarily due to valuation declines caused by (a) reduced market rents and a large amount of short-term rollover risk at the property in Beaverton, Oregon; and (b) leasing costs related to the renewal of the largest tenant at the property in Brentwood, Tennessee.
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APARTMENT PROPERTIES
| Three Months Ended March 31, | Net Investment Income/(Loss) 2010 | Net Investment Income/(Loss) 2009 | Unrealized Gain/(Loss) 2010 | Unrealized Gain/(Loss) 2009 | Occupancy 2010 | Occupancy 2009 | ||||||||||||
Property | ||||||||||||||||||
Atlanta, GA | $ | 202,511 | $ | 116,017 | $ | 112,262 | $ | (1,768,577) | 95 | % | 92 | % | ||||||
Raleigh, NC | 190,010 | 989 | (214,388) | (1,621,098) | 96 | % | 90 | % | ||||||||||
Austin, TX | 310,978 | 341,989 | (640) | (4,203,628) | 94 | % | 90 | % | ||||||||||
Charlotte, NC | 129,806 | 140,929 | (29,039) | (829,130) | 91 | % | 91 | % | ||||||||||
| $ | 833,305 | $ | 599,924 | $ | (131,805) | $ | (8,422,433) | |||||||||||
Net Investment Income
Net investment income attributable to the general partners’ controlling interest for the Partnership’s apartment properties was approximately $0.8 million for the quarter ended March 31, 2010, an increase of approximately $0.2 million from the prior year period. The increase in net investment income attributable to the general partners’ controlling interest for the quarter ended March 31, 2010 was primarily due to the write-off of accrued receivables at the property in Raleigh, North Carolina in the prior year period and decreased concessions and vacancy at the property in Atlanta, Georgia caused by increased demand.
Unrealized Gain/(Loss)
The apartment properties owned by the Partnership recorded a net unrealized loss attributable to the general partners’ controlling interest of approximately $0.1 million for the quarter ended March 31, 2010, compared with a net unrealized loss attributable to the general partners’ controlling interest of approximately $8.4 million for the prior year period. The net unrealized loss attributable to the general partners’ controlling interest for the quarter ended March 31, 2010 was primarily due to valuation declines at the property in Raleigh, North Carolina caused by increased projected operating expenses. This loss was partially offset by a net unrealized gain attributable to the general partners’ controlling interest at the property in Atlanta, Georgia due to a valuation increase caused by decreased investment rates. Investment rates include direct and terminal capitalization rates, and discount rates, which reflect investors’ yield requirements on investments.
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RETAIL PROPERTIES
Three Months Ended March 31, | Net Investment Income/(Loss) 2010 | Net Investment Income/(Loss) 2009 | Unrealized Gain/(Loss) 2010 | Unrealized Gain/(Loss) 2009 | Occupancy 2010 | Occupancy 2009 | |||||||||||
Property | |||||||||||||||||
Roswell, GA(1) | $ | - | $ | 209,258 | $ | - | $ | (4,107,732) | N/A | 38% | |||||||
Kansas City, KS(2) | - | 22,334 | - | - | N/A | N/A | |||||||||||
Hampton, VA | 232,579 | 262,751 | (1,910,800 | ) | (1,404,744) | 94% | 89% | ||||||||||
Ocean City, MD | 243,174 | 280,981 | 110,955 | (738,746) | 96% | 95% | |||||||||||
Westminster, MD | 281,771 | 293,815 | (100,634 | ) | (1,700,000) | 100% | 100% | ||||||||||
Dunn, NC(3) | 71,119 | 30,989 | (8,784 | ) | (17,903) | 36% | 35% | ||||||||||
CARS Preferred Equity | 247,109 | 246,699 | 285,719 | (1,190,500) | N/A | N/A | |||||||||||
| $ | 1,075,752 | $ | 1,346,827 | $ | (1,623,544) | $ | (9,159,625) | ||||||||||
(1) | The Roswell, Georgia retail property was sold on May 1, 2009. | |||
(2) | The Kansas City, Kansas retail property was sold on June 29, 2007 but certain post-closing adjustments were recognized during the three months ended March 31, 2009. | |||
(3) | A portion of the Dunn, North Carolina retail property was sold on November 12, 2009. |
Net Investment Income
Net investment income attributable to the general partners’ controlling interest for the Partnership’s retail properties was approximately $1.1 million for the quarter ended March 31, 2010, a decrease of approximately $0.3 million from the prior year period. The decrease in net investment income attributable to the general partners’ controlling interest for the quarter ended March 31, 2010 was largely due to (a) the loss of income related to the disposition of the Roswell, Georgia property; and (b) increased rent relief at the properties in Hampton, Virginia, Ocean City, Maryland, and Westminster, Maryland.
Unrealized Gain/(Loss)
The retail properties owned by the Partnership recorded a net unrealized loss attributable to the general partners’ controlling interest of approximately $1.6 million for the quarter ended March 31, 2010, compared with a net unrealized loss attributable to the general partners’ controlling interest of approximately $9.2 million for the prior year period. The unrealized loss attributable to the general partners’ controlling interest for the quarter ended March 31, 2010 was primarily due to a valuation decline of $1.9 million at the property in Hampton, Virginia caused by a large amount of short-term tenant rollover. This loss was partially offset by a net unrealized gain attributable to the general partners’ controlling interest of approximately $0.3 million in the Capital Automotive Real Estate Services, or “CARS”, preferred equity investment due to a reduction in the expected remaining term of the investment, effectively increasing the probability of repayment.
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HOTEL PROPERTY
Three Months Ended March 31, | Net Investment Income/(Loss) 2010 | Net Investment Income/(Loss) 2009 | Unrealized Gain/(Loss) 2010 | Unrealized Gain/(Loss) 2009 | Occupancy 2010 | Occupancy 2009 | ||||||||||||
Property | ||||||||||||||||||
Lake Oswego, OR | $ | 29,730 | $ | 63,705 | $ | (2,515 | ) | $ | (1,495,551 | ) | 55% | 54% | ||||||
Net Investment Income
Net investment income attributable to the general partners’ controlling interest for the Partnership’s hotel property was relatively unchanged from the prior year period for the quarter ended March 31, 2010.
Unrealized Gain/(Loss)
The Partnership’s hotel property recorded no unrealized gain or loss attributable to the general partners’ controlling interest for the quarter ended March 31, 2010, compared with an unrealized loss attributable to the general partners’ controlling interest of approximately $1.5 million for the prior year period.
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Other
Other net investment loss attributable to the general partners’ controlling interest decreased approximately $0.1 million for the quarter ended March 31, 2010 over the prior year period. Other net investment includes interest income from short-term investments, investment management fees, and portfolio level expenses.
(c) Inflation
A majority of the Partnership’s leases with its commercial tenants provide for recoveries of expenses based upon the tenant’s proportionate share of, and/or increases in, real estate taxes and certain operating costs, which may partially reduce the Partnership’s exposure to increases in operating costs resulting from inflation.
Critical Accounting Policies
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America, or “U.S. GAAP”, requires the application of accounting policies that often involve a significant degree of judgment. Management reviews critical estimates and assumptions on an ongoing basis. If management determines, as a result of its consideration of facts and circumstances, that modifications in assumptions and estimates are appropriate, results of operations and financial position as reported in the unaudited Consolidated Financial Statements of the Account and the Partnership may change significantly.
The following sections discuss those critical accounting policies applied in preparing the unaudited Consolidated Financial Statements of the Account and the Partnership that are most dependent on the application of estimates and assumptions.
Accounting Pronouncements Adopted
See Note 1B to our Consolidated Financial Statements for a discussion of recently adopted accounting pronouncements.
Valuation of Investments
Real Estate Investments - Real estate investments are carried at fair value. Properties owned are initially recorded at the purchase price plus closing costs. Development costs and major renovations are capitalized as a component of cost, and routine maintenance and repairs are charged to expense as incurred. Real estate costs include the cost of acquired property, including all the tangible and intangible assets. Tangible assets include the value of all land, building and tenant improvements at the time of acquisition. Intangible assets include the value of any above and below market leases, in-place leases, and tenant relationships at the time of acquisition.
In general fair value estimates are based upon property appraisal reports prepared by independent real estate appraisers (members of the Appraisal Institute or an equivalent organization) within a reasonable amount of time following acquisition of the real estate and no less frequently than annually thereafter. The Chief Real Estate Appraiser of Prudential Investment Management, Inc. (“PIM”), which is an indirectly owned subsidiary of Prudential Financial, Inc., is responsible to assure that the valuation process provides independent and reasonable property fair value estimates. An unaffiliated third party has been appointed by PIM to assist the Chief Real Estate Appraiser in maintaining and monitoring the independence and the accuracy of the appraisal process. The fair value of real estate investments does not reflect the transaction sale costs, which may be incurred upon dispostion of the real esate investments.
The purpose of an appraisal is to estimate the fair value of real estate as of a specific date. In accordance with the FASB authoritative guidance on fair value measurements and disclosures, fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The estimate of fair value is based on the conventional approaches to value, all of which require the exercise of subjective judgment. The three approaches are: (1) current cost of reproducing the real estate less deterioration and functional and economic obsolescence; (2) discounting a series of income streams and reversion at a specific yield or by directly capitalizing a single year income estimate by an appropriate factor; and (3) value indicated by recent sales of comparable real estate in the market. In the reconciliation of these three approaches, the independent appraiser uses one or a combination of them, to come up with the approximated value for the type of real estate in the market.
Other Estimates
The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the unaudited Consolidated Financial Statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
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ITEM 3. Quantitative and Qualitative Disclosures about Market Risk
Interest Rate Risk – The Partnership’s exposure to market rate risk for changes in interest rates relates to approximately 33.89% of the general partners’ controlling interest net assets as of March 31, 2010, which consists primarily of short-term commercial paper and fixed and variable interest rate debt. The Partnership does not use derivative financial instruments. As a matter of policy, the Partnership places its investments with high quality debt security issuers, limits the amount of credit exposure to any one issuer, limits duration by restricting the term, and holds investments to maturity except under unusual circumstances.
The table below presents the amounts and related weighted interest rates of the Partnership’s cash equivalents and short-term investments at March 31, 2010:
| Maturity | Estimated Market Value (millions) | Average Interest Rate | ||||
Cash and Cash equivalents | 0-3 months | $25.6 | 1.52% |
The table below discloses the Partnership’s debt as of March 31, 2010. The fair value of the Partnership’s long-term debt is affected by changes in market interest rates. The following table presents principal cash flows based upon maturity dates of the debt obligations and the related weighted-average interest rates by expected maturity dates for the debt.
| Investment level debt (in $ thousands), | Estimated | |||||||||||||||||
including current portion | 2010 | 2011 | 2012 | 2013 | 2014 | Thereafter | Total | Fair Value | ||||||||||
Weighted Average Fixed Interest Rate | 6.75% | 6.75% | 6.75% | 6.75% | 6.75% | 6.75% | 6.75% | |||||||||||
Fixed Rate | $427 | $604 | $646 | $691 | $739 | $3,510 | $6,617 | $6,610 | ||||||||||
Variable Rate | - | $15,071 | - | $9,000 | - | - | $24,071 | $24,014 | ||||||||||
Premium/(Discount) on Investment Level Debt | ($2 | ) | - | - | - | - | - | ($2 | ) | - | ||||||||
Total Investment Level Debt | $425 | $15,675 | $646 | $9,691 | $739 | $3,510 | $30,686 | $30,624 | ||||||||||
The Partnership is exposed to market risk from tenants. While the Partnership has not experienced any significant credit losses, in the event of significant increases in interest rates and/or an economic downturn, delinquencies could increase and result in losses to the Partnership and the Account that could adversely affect its operating results and liquidity.
Item 4. Controls and Procedures
In order to ensure that the information we must disclose in our filings with the Securities and Exchange Commission, or “SEC,” is recorded, processed, summarized, and reported on a timely basis, the Company’s management, including our Chief Executive Officer and Chief Financial Officer, have reviewed and evaluated the effectiveness of our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e), under the Securities Exchange Act of 1934, as amended, as of March 31, 2010. Based on such evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that, as of March 31, 2010, our disclosure controls and procedures were effective. No change in our internal control over financial reporting, as defined in Exchange Act Rules 13a-15(f) and 15d-15(e) occurred during the quarter ended March 31, 2010, that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
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PART II – OTHER INFORMATION
You should carefully consider the risks described under “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2009. These risks could materially affect our business, results of operations or financial condition or cause our actual results to differ materially from those expected or those expressed in any forward looking statements made by or on behalf of the Partnership. These risks are not exclusive, and additional risks to which we are subject include, but are not limited to, the factors mentioned under “Forward-Looking Statements” above and the risks of our businesses described elsewhere in this Quarterly Report on Form 10-Q.
31.1 | Section 302 Certification of the Chief Executive Officer. | |
31.2 | Section 302 Certification of the Chief Financial Officer. | |
32.1 | Section 906 Certification of the Chief Executive Officer. | |
32.2 | Section 906 Certification of the Chief Financial Officer. | |
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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.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
in respect of
The Prudential Variable
Contract Real Property Account
(Registrant)
Date: May 14, 2010
| By: | /s/ Richard J. Carbone | |
| Richard J. Carbone | ||
| Executive Vice President and Chief Financial Officer | ||
| (Authorized Signatory and Principal Financial Officer) |
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