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U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-QSB
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2003
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Commission file number 0-11973
CAPITAL REALTY INVESTORS-II LIMITED PARTNERSHIP
Organized pursuant to the Laws of the State of Maryland
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Internal Revenue Service - Employer Identification No. 52-1321492
11200 Rockville Pike, Rockville, Maryland 20852
(301) 468-9200
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Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the registrant was required to file such reports) and (2) has been
subject to such filing requirements for the past 90 days. Yes |X| No o
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CAPITAL REALTY INVESTORS-II LIMITED PARTNERSHIP
INDEX TO FORM 10-QSB
FOR THE QUARTER ENDED JUNE 30, 2003
Page
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Part I - FINANCIAL INFORMATION
Item 1. Financial Statements
Balance Sheets
- June 30, 2003 and December 31, 2002........................... 1
Statements of Operations and Accumulated Losses
- for the three and six months ended June 30, 2003 and 2002..... 2
Statements of Cash Flows
- for the six months ended June 30, 2003 and 2002............... 3
Notes to Financial Statements
- June 30, 2003 and 2002........................................ 4
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations....................................... 10
Item 3. Controls and Procedures........................................... 13
Part II - OTHER INFORMATION
Item 5. Other Information................................................. 13
Item 6. Exhibits and Reports on Form 8-K.................................. 14
Signature.................................................................. 15
Certifications of Quarterly Report Pursuant to 18 U.S.C. Section 1350...... 16
Part I. FINANCIAL INFORMATION
Item 1. Financial Statements
--------------------
CAPITAL REALTY INVESTORS-II LIMITED PARTNERSHIP
BALANCE SHEETS
ASSETS
June 30, December 31,
2003 2002
------------ ------------
(Unaudited)
Investments in and advances to partnerships ....................................... $ 1,422,628 $ 1,360,493
Investment in partnership held for transfer ....................................... -- 7,577
Cash and cash equivalents ......................................................... 4,373,354 3,420,489
Acquisition fees, principally paid to related parties,
net of accumulated amortization of $238,650 and $232,563, respectively .......... 126,541 132,628
Property purchase costs,
net of accumulated amortization of $250,827 and $244,318, respectively .......... 139,692 146,200
Other assets ...................................................................... 71 335,845
------------ ------------
Total assets ................................................................... $ 6,062,286 $ 5,403,232
============ ============
LIABILITIES AND PARTNERS' CAPITAL
Due on investments in partnerships ................................................ $ 1,400,000 $ 1,900,000
Accrued interest payable .......................................................... 2,563,262 2,677,938
Accounts payable and accrued expenses ............................................. 92,925 113,301
------------ ------------
Total liabilities .............................................................. 4,056,187 4,691,239
------------ ------------
Commitments and contingencies
Partners' capital:
Capital paid in:
General Partners .............................................................. 2,000 2,000
Limited Partners .............................................................. 50,015,000 50,015,000
------------ ------------
50,017,000 50,017,000
Less:
Accumulated distributions to partners ......................................... (13,904,726) (13,904,726)
Offering costs ................................................................ (5,278,980) (5,278,980)
Accumulated losses ............................................................ (28,827,195) (30,121,301)
------------ ------------
Total partners' capital ..................................................... 2,006,099 711,993
------------ ------------
Total liabilities and partners' capital ..................................... $ 6,062,286 $ 5,403,232
============ ============
The accompanying notes are an
integral part of these
financial statements.
-1-
Part I. FINANCIAL INFORMATION
Item 1. Financial Statements
--------------------
CAPITAL REALTY INVESTORS-II LIMITED PARTNERSHIP
STATEMENTS OF OPERATIONS
AND ACCUMULATED LOSSES
(Unaudited)
For the three months ended For the six months ended
June 30, June 30,
---------------------------- ----------------------------
2003 2002 2003 2002
------------ ------------ ------------ ------------
Share of income from partnerships ............... $ 595,893 $ 333,403 $ 1,005,613 $ 949,184
------------ ------------ ------------ ------------
Other revenue and expenses:
Revenue:
Interest .................................... 8,696 12,444 16,157 22,529
Gain from extinguishment of debt ............ -- 599,123 670,099 599,123
------------ ------------ ------------ ------------
8,696 611,567 686,256 621,652
------------ ------------ ------------ ------------
Expenses:
Interest .................................... 31,500 57,935 63,000 115,870
Management fee .............................. 62,499 62,499 124,998 124,998
General and administrative .................. 63,554 52,578 140,670 116,254
Professional fees ........................... 33,250 22,250 56,500 44,500
Amortization of deferred costs .............. 6,298 6,532 12,595 13,535
------------ ------------ ------------ ------------
197,101 201,794 397,763 415,157
------------ ------------ ------------ ------------
Total other revenue and expenses .......... (188,405) 409,773 288,493 206,495
------------ ------------ ------------ ------------
Net income ...................................... 407,488 743,176 1,294,106 1,155,679
Accumulated losses, beginning of period ......... (29,234,683) (33,638,694) (30,121,301) (34,051,197)
------------ ------------ ------------ ------------
Accumulated losses, end of period ............... $(28,827,195) $(32,895,518) $(28,827,195) $(32,895,518)
============ ============ ============ ============
Net income allocated
to General Partners (1.51%) ................... $ 6,153 $ 11,222 $ 19,541 $ 17,451
============ ============ ============ ============
Net income allocated
to Initial and Special Limited Partners (1.49%) $ 6,072 $ 11,073 $ 19,282 $ 17,220
============ ============ ============ ============
Net income allocated
to Additional Limited Partners (97%) .......... $ 395,263 $ 720,881 $ 1,255,283 $ 1,121,008
============ ============ ============ ============
Net income per unit of Additional Limited Partner
Interest, based on 50,000 units outstanding ... $ 7.91 $ 14.42 $ 25.11 $ 22.42
============ ============ ============ ============
The accompanying notes are an
integral part of these
financial statements.
-2-
Part I. FINANCIAL INFORMATION
Item 1. Financial Statements
--------------------
CAPITAL REALTY INVESTORS-II LIMITED PARTNERSHIP
STATEMENTS OF CASH FLOWS
(Unaudited)
For the six months ended
June 30,
--------------------------
2003 2002
----------- -----------
Cash flows from operating activities:
Net income .......................................................... $ 1,294,106 $ 1,155,679
Adjustments to reconcile net income to net cash provided by (used in)
operating activities:
Share of income from partnerships ................................. (1,005,613) (949,184)
Gain from extinguishment of debt .................................. (670,099) (599,123)
Amortization of deferred costs .................................... 12,595 13,535
Changes in assets and liabilities:
Increase in advances to partnerships ............................ -- (1,118)
Decrease (increase) in other assets ............................. 335,774 (353)
Increase in accrued interest payable ............................ 63,000 115,870
Decrease in accounts payable and accrued expenses ............... (20,376) (6,687)
----------- -----------
Net cash provided by (used in) operating activities ........... 9,387 (271,381)
----------- -----------
Cash flows from investing activities:
Receipt of distributions from partnerships .......................... 942,435 1,079,335
Additional proceeds from disposition of investment in partnership ... 1,043 --
----------- -----------
Net cash provided by investing activities ..................... 943,478 1,079,335
----------- -----------
Net increase in cash and cash equivalents ............................. 952,865 807,954
Cash and cash equivalents, beginning of period ........................ 3,420,489 3,242,912
----------- -----------
Cash and cash equivalents, end of period .............................. $ 4,373,354 $ 4,050,866
=========== ===========
The accompanying notes are an
integral part of these
financial statements.
-3-
CAPITAL REALTY INVESTORS-II LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS
June 30, 2003 and 2002
(Unaudited)
1. BASIS OF PRESENTATION
In the opinion of C.R.I., Inc. (CRI), the Managing General Partner, the
accompanying unaudited financial statements reflect all adjustments, consisting
of normal recurring accruals, necessary for a fair presentation of the financial
position of Capital Realty Investors-II Limited Partnership (the Partnership) as
of June 30, 2003, and the results of its operations for the three and six months
ended June 30, 2003 and 2002, and its cash flows for the six months ended June
30, 2003 and 2002. The results of operations for the interim period ended June
30, 2003, are not necessarily indicative of the results to be expected for the
full year.
The accompanying unaudited financial statements have been prepared in
conformity with accounting principles generally accepted in the United States of
America and with the instructions to Form 10-QSB. Certain information and
accounting policies and footnote disclosures normally included in financial
statements prepared in conformity with accounting principles generally accepted
in the United States of America have been condensed or omitted pursuant to such
instructions. These condensed financial statements should be read in conjunction
with the financial statements and notes thereto included in the Partnership's
annual report on Form 10-KSB at December 31, 2002.
In January 2003, the Financial Accounting Standards Board issued FASB
Interpretation No. 46 (FIN 46), Consolidation of Variable Interest Entities. FIN
46 clarifies the application of Accounting Research Bulletin 51, Consolidated
Financial Statements, for certain entities that do not have sufficient equity at
risk for the entity to finance its activities without additional subordinated
financial support from other parties or in which equity investors do not have
the characteristics of a controlling financial interest ("variable interest
entities"). Variable interest entities within the scope of FIN 46 will be
required to be consolidated by their primary beneficiary. The primary
beneficiary of a variable interest entity is determined to be the party that
absorbs a majority of the entity's expected losses, receives a majority of its
expected returns, or both. FIN 46 applies in the first fiscal year or interim
period beginning after June 15, 2003, to variable interest entities in which an
enterprise holds a variable interest that it acquired before February 1, 2003.
The Managing General Partner is in the process of determining what impact, if
any, the adoption of the provisions of FIN 46 will have upon the Partnership's
financial condition and results of operations related to the Partnership's
investments in Local Partnerships, and has complied with the disclosure
requirements of FIN 46 in these financial statements. As of June 30, 2003, the
Partnership's maximum loss exposure related to its investments in and advances
to partnerships is limited to the remaining balance of $1,422,628.
2. INVESTMENTS IN AND ADVANCES TO PARTNERSHIPS
a. Due on investments in partnerships and accrued interest payable
---------------------------------------------------------------
Purchase money note
-------------------
The Partnership's remaining obligation with respect to its investment in
Local Partnerships, in the form of a nonrecourse purchase money note having a
principal balance of $1,400,000 plus accrued interest of $2,563,262 as of June
30, 2003, is payable in full at maturity on September 1, 2003. The purchase
money note, which is nonrecourse to the Partnership, is secured by the
Partnership's interest in the related Local Partnership, Westgate Tower Limited
Dividend Housing Association (Westgate). There is no assurance that the
underlying property will have sufficient appreciation and equity to enable the
Partnership to pay the purchase money note's principal and accrued interest when
due. If the purchase money note is not paid in accordance with its terms, the
Partnership will either have to renegotiate the terms of repayment or risk
losing its partnership interest in Westgate. In the event that the purchase
money note remains unpaid upon maturity, the noteholder may have the right to
foreclose on the Partnership's interest in Westgate.
-4-
CAPITAL REALTY INVESTORS-II LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS
June 30, 2003 and 2002
(Unaudited)
2. INVESTMENTS IN AND ADVANCES TO PARTNERSHIPS - Continued
The Partnership's inability to pay the purchase money note principal and
accrued interest balance when due, and the resulting uncertainty regarding the
Partnership's continued ownership interest in Westgate, does not adversely
impact the Partnership's financial condition because the purchase money note is
nonrecourse and secured solely by the Partnership's interest in Westgate.
Therefore, should the investment in Westgate not produce sufficient value to
satisfy the related purchase money note, the Partnership's exposure to loss is
limited because the amount of the nonrecourse indebtedness of the maturing
purchase money note exceeds the carrying amount of the investment in Westgate.
Thus, even a complete loss of the Partnership's interest in Westgate would not
have a material adverse impact on the financial condition of the Partnership. In
the event of a foreclosure, the excess of the nonrecourse indebtedness over the
carrying amount of the Partnership's investment in Westgate would be deemed
cancellation of indebtedness income, which would be taxable to Limited Partners
at a federal tax rate of up to 35.0%. Additionally, in the event of a
foreclosure, the Partnership would lose its investment in Westgate and,
likewise, its share of any future cash flow distributed by Westgate from rental
operations, mortgage debt refinancings, or the sale of the real estate.
Interest expense on the Partnership's purchase money notes for the three
and six month periods ended June 30, 2003, was $31,500 and $63,000,
respectively, and $57,935 and $115,870 for the three and six month periods ended
June 30, 2002, respectively. The accrued interest payable on the purchase money
notes of $2,563,262 and $2,677,938 as of June 30, 2003 and December 31, 2002,
respectively, is due on the respective maturity dates of the purchase money
notes or earlier, in some instances, if (and to the extent of a portion thereof)
the related Local Partnership has distributable net cash flow, as defined in the
relevant Local Partnership agreement.
Princeton
---------
The Partnership defaulted on its purchase money note related to Princeton
Community Village Associates (Princeton) on January 1, 1999 when the note
matured and was not paid. The default amount included principal and accrued
interest of $500,000 and $1,422,064, respectively. On August 9, 1999, the
noteholder filed a complaint seeking declaratory judgment that the Partnership
had forfeited its interest in Princeton to the noteholder. The litigation was
settled effective January 1, 2000, when the Managing General Partner entered
into an agreement with the noteholder which granted the noteholder four options
to purchase the Partnership's 98.99% limited partner interest in Princeton over
a three and one-half year period, in exchange for the cancellation of pro-rata
portions of the then outstanding balance of the purchase money note. As part of
the agreement, the noteholder extended the maturity date of the purchase money
note to January 1, 2004, and the Partnership made a payment to the noteholder on
April 21, 2000, which was applied against accrued interest payable on the
purchase money note. However, pursuant to the option agreement with the
noteholder, the noteholder could exercise its option to acquire the final
portion of the Partnership's interest between January 1, 2003 and June 30, 2003.
-5-
CAPITAL REALTY INVESTORS-II LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS
June 30, 2003 and 2002
(Unaudited)
2. INVESTMENTS IN AND ADVANCES TO PARTNERSHIPS - Continued
On January 1, 2003, pursuant to the option agreement, the noteholder
purchased the Partnership's remaining limited partner interest in Princeton, the
consideration for which was the cancellation of the remaining $677,676 of
purchase money note principal and accrued interest. The purchase resulted in
gain on extinguishment of debt of $670,099 for financial statement purposes and
a total gain of $1,854,098 for federal tax purposes in 2003. On April 30, 2002,
pursuant to the option agreement, the noteholder purchased one-half of the
Partnership's then- remaining limited partner interest in Princeton, the
consideration for which was the cancellation of $606,700 of purchase money note
accrued interest. The purchase resulted in gain on extinguishment of debt of
$599,123 for financial statement purposes and a total gain of $1,783,122 for
federal tax purposes in 2002. On both June 1, 2001 and May 31, 2000, pursuant to
the option agreement, the noteholder purchased 26% of the Partnership's original
limited partner interest in Princeton, the consideration for which was the
cancellation of a like percentage of the then- outstanding purchase money note
accrued interest of $392,333 and $493,027, respectively, resulting in gain from
extinguishment of debt of $384,123 and $484,862 for financial statement purposes
in 2001 and 2000, respectively, and in a total gain of $1,583,512 and $1,921,910
for federal tax purposes in 2001 and 2000, respectively.
Due to the subsequent transfer of the Partnership's remaining interest in
Princeton, the Partnership's basis in the Local Partnership, along with the net
unamortized acquisition fees and property purchase costs, which totaled $7,577
as of December 31, 2002, was reclassified to investment in partnership held for
transfer in the accompanying balance sheet at that date.
Westgate
--------
The purchase money note, in the principal amount of $1,400,000, related to
Westgate matures on September 1, 2003 (as previously extended). The Managing
General Partner will begin discussions with the purchase money noteholder prior
to the maturity of the Westgate purchase money note to investigate possible
alternatives concerning this debt obligation. There can be no assurance about
what course of action will be chosen, or whether it will be successful, or
whether the Partnership will retain its interest in Westgate.
-6-
CAPITAL REALTY INVESTORS-II LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS
June 30, 2003 and 2002
(Unaudited)
2. INVESTMENTS IN AND ADVANCES TO PARTNERSHIPS - Continued
b. Summarized financial information
--------------------------------
Combined statements of operations for the 12 and 14 Local Partnerships in
which the Partnership is invested as of June 30, 2003 and 2002, respectively,
follow. The combined statements have been compiled from information supplied by
the management agents of the projects and are unaudited. The information for
each of the periods is presented separately for those Local Partnerships which
have investment basis (equity method), and for those Local Partnerships for
which the Partnership's carrying value is zero (equity method suspended).
Appended after the combined statements is information concerning the
Partnership's share of income from partnerships related to cash distributions
recorded as income, and related to the Partnership's share of income from Local
Partnerships.
COMBINED STATEMENTS OF OPERATIONS
(Unaudited)
For the three months ended
June 30,
-------------------------------------------------------------
2003 2002
-------------------------- ---------------------------
Equity Equity
Method Suspended Method Suspended
---------- ---------- ---------- ----------
Revenue:
Rental $1,479,329 $2,477,768 $1,415,668 $3,305,346
Other 34,961 102,654 41,243 244,458
---------- ---------- ---------- ----------
Total revenue 1,514,290 2,580,422 1,456,911 3,549,804
---------- ---------- ---------- ----------
Expenses:
Operating 765,142 1,510,770 935,465 2,065,765
Interest 216,195 942,107 239,444 1,028,295
Depreciation and amortization 200,139 439,379 199,819 619,198
---------- ---------- ---------- ----------
Total expenses 1,181,476 2,892,256 1,374,728 3,713,258
---------- ---------- ---------- ----------
Net income (loss) $ 332,814 $ (311,834) $ 82,183 $ (163,454)
========== ========== ========== ==========
Cash distributions $ 680,502 $ 40,490 $ 691,169 $ 41,722
========== ========== ========== ==========
Cash distributions recorded
as reduction in investment $ 458,190 $ -- $ 479,718 $ --
========== ========== ========== ==========
Cash distributions recorded
as income $ 222,312 $ 40,490 $ 211,451 $ 41,722
Partnership's share of Local
Partnership net income 332,255 -- 80,230 --
Miscellaneous -- 836 -- --
-------------------------- --------------------------
Share of income from partnerships $595,89 $333,403
======= ========
-7-
CAPITAL REALTY INVESTORS-II LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS
June 30, 2003 and 2002
(Unaudited)
2. INVESTMENTS IN AND ADVANCES TO PARTNERSHIPS - Continued
For the six months ended
June 30,
------------------------------------------------------------
2003 2002
-------------------------- --------------------------
Equity Equity
Method Suspended Method Suspended
---------- ---------- ---------- ----------
Revenue:
Rental $2,903,809 $4,955,539 $2,927,189 $6,610,691
Other 67,539 205,308 79,245 488,916
---------- ---------- ---------- ----------
Total revenue 2,971,348 5,160,847 3,006,434 7,099,607
---------- ---------- ---------- ----------
Expenses:
Operating 1,616,059 3,021,540 1,773,894 4,131,528
Interest 432,391 1,884,215 478,891 2,056,595
Depreciation and amortization 400,278 878,758 399,639 1,238,393
---------- ---------- ---------- ----------
Total expenses 2,448,728 5,784,513 2,652,424 7,426,516
---------- ---------- ---------- ----------
Net income (loss) $ 522,620 $ (623,666) $ 354,010 $ (326,909)
========== ========== ========== ==========
Cash distributions $ 680,502 $ 261,933 $ 691,169 $ 388,166
========== ========== ========== ==========
Cash distributions recorded
as reduction in investment $ 458,190 $ -- $ 479,718 $ --
========== ========== ========== ==========
Cash distributions recorded
as income $ 222,312 $ 261,933 $ 211,451 $ 388,166
Partnership's share of Local
Partnership net income 520,325 -- 350,684 --
Miscellaneous -- 1,043 -- (1,117)
-------------------------- --------------------------
Share of income from partnerships $1,005,613 $949,184
========== ========
All of the cash distributions recorded as income are included in share of
income from partnerships on the statements of operations for the respective
periods, and are recorded as cash receipts on the respective balance sheets. As
of June 30, 2003 and 2002, the Partnership's share of cumulative losses to date
for eight and ten of the 12 and 14 Local Partnerships exceeded the amount of the
Partnership's investments in and advances to those Local Partnerships by
$19,521,290 and $21,277,888, respectively. As the Partnership has no further
obligation to advance funds or provide financing to these Local Partnerships,
the excess losses have not been reflected in the accompanying financial
statements.
-8-
CAPITAL REALTY INVESTORS-II LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS
June 30, 2003 and 2002
(Unaudited)
3. RELATED PARTY TRANSACTIONS
In accordance with the terms of the Partnership Agreement, the Partnership
is obligated to reimburse the Managing General Partner for its direct expenses
in connection with managing the Partnership. The Partnership paid $60,939 and
$119,153 for the three and six month periods ended June 30, 2003, respectively,
and $34,571 and $94,537 for the three and six month periods ended June 30, 2002,
respectively, to the Managing General Partner as direct reimbursement of
expenses incurred on behalf of the Partnership. Such expenses are included in
the accompanying statements of operations as general and administrative
expenses.
In accordance with the terms of the Partnership Agreement, the Partnership
is obligated to pay the Managing General Partner an annual incentive management
fee (Management Fee) after all other expenses of the Partnership are paid. The
Partnership paid the Managing General Partner a Management Fee of $62,499 for
each of the three month periods ended June 30, 2003 and 2002, and $124,998 for
each of the six month periods ended June 30, 2003 and 2002.
# # #
-9-
Part I. FINANCIAL INFORMATION
Item 2. Management's Discussion Analysis of Financial Condition
-------------------------------------------------------
and Results of Operations
-------------------------
Capital Realty Investors-II Limited Partnership's (the Partnership)
Management's Discussion and Analysis of Financial Condition and Results of
Operations section is based on the financial statements, and contains
information that may be considered forward looking, including statements
regarding the effect of governmental regulations. Actual results may differ
materially from those described in the forward looking statements and will be
affected by a variety of factors including national and local economic
conditions, the general level of interest rates, governmental regulations
affecting the Partnership and interpretations of those regulations, the
competitive environment in which the Partnership operates, and the availability
of working capital.
Critical Accounting Policies
----------------------------
The Partnership has disclosed its selection and application of significant
accounting policies in Note 1 of the notes to financial statements included in
the Partnership's annual report on Form 10-KSB at December 31, 2002. The
Partnership accounts for its investments in partnerships (Local Partnerships) by
the equity method because the Partnership is a limited partner in the Local
Partnerships. As such the Partnership has no control over the selection and
application of accounting policies, or the use of estimates, by the Local
Partnerships.
General
-------
Some of the rental properties owned by the Local Partnerships are financed
by state housing agencies. The Managing General Partner has sold or refinanced,
and will continue to sell or refinance, certain properties pursuant to programs
developed by these agencies. These programs may include opportunities to sell a
property to a qualifying purchaser who would agree to maintain the property as
low to moderate income housing, or to refinance a property, or to obtain
supplemental financing. The Managing General Partner continues to monitor
certain state housing agency programs, and/or programs provided by certain
lenders, to ascertain whether the properties would qualify within the parameters
of a given program and whether these programs would provide an appropriate
economic benefit to the limited partners of the Partnership.
Some of the rental properties owned by the Local Partnerships are dependent
on the receipt of project-based Section 8 Rental Housing Assistance Payments
(HAP) provided by the U.S. Department of Housing and Urban Development (HUD)
pursuant to Section 8 HAP contracts. Current legislation allows all expired
Section 8 HAP contracts with rents at less than 100% of fair market rents to be
renewed for up to one year. Expiring Section 8 HAP contracts with rents that
exceed 100% of fair market rents could be renewed for up to one year, but at
rents reduced to 100% of fair market rents (Mark-to-Market). All expiring
Section 8 HAP contracts with rents exceeding comparable market rents, and
properties with mortgage loans insured by the Federal Housing Administration
(FHA), became subject to the Mark-to-Market legislation.
Mark-to-Market (M2M) implementation will reduce rental income at properties
that are currently subsidized at higher-than-market rental rates, and will
therefore lower cash flow available to meet mortgage payments and operating
expenses. In some instances, a property will be able to meet its existing debt
service payments after the reduction in rental income. In this case, the
property may enter the M2M "Lite" program, which would not require a debt
restructuring. In the remaining instances, the affected property may undergo
debt restructuring according to terms determined by an individual property and
operations evaluation. This would involve reducing the first mortgage loan
balance to an amount supportable by the property's operations, taking into
account the property's operating expenses and reduced income. The balance of the
amount written down from the first mortgage loan would be converted to a non-
performing but accruing (soft) second mortgage loan. When the existing first
mortgage loan is bifurcated into a first and second mortgage loan, the newly
created second mortgage loan will accrue interest at a below-market rate. The
Internal Revenue Service issued a ruling in July 1998 that concluded that the
below-market rate of interest would not generate additional ordinary income.
Each property subject to M2M will be affected in a different manner, and it is
very difficult to predict the exact form of restructuring, or potential tax
liabilities to the limited partners, at this time. All properties, upon entering
the M2M program (excluding M2M Lite), are required to enter into an agreement
restricting the property's use to affordable housing for 30 years.
-10-
Part I. FINANCIAL INFORMATION
Item 2. Management's Discussion Analysis of Financial Condition
-------------------------------------------------------
and Results of Operations - Continued
-------------------------
Finally, under HUD's "Mark-up-to-Market" program, properties with expiring
Section 8 HAP contracts that are located in high-rent areas as defined by HUD
are eligible for rent increases which would be necessary to bring Section 8 HAP
contract rents in line with market rate rents. For properties that enter the
program and have interest rate subsidized FHA loans, the rents are adjusted to
take into account the benefits the property is already receiving from the below-
market interest rate by means of a HUD-determined adjustment factor. The purpose
of this program is to provide incentives to owners of properties with expiring
Section 8 HAP contracts not to convert these properties to market rate housing.
In return for receiving market rate rents under Mark-up-to-Market, the
property owner must enter into a five year conditional Section 8 HAP contract
with HUD, subject to the annual availability of funding by Congress. In
addition, property owners who enter into the Mark-up-to- Market program may
receive increased cash flow as the limited dividend will be increased in an
amount equal to the increase in gross rental revenues.
As of June 30, 2003, the carrying amount of the Partnership's investments
in and advances to Local Partnerships with Section 8 HAP contracts expiring in
the next 12 months was $0.
The Managing General Partner continues to seek strategies to deal with
affordable housing policy. While the Managing General Partner cannot predict the
outcome for any particular property at this time, the Managing General Partner
will continue to work with the Local Partnerships to develop strategies that
maximize the benefits to investors.
Financial Condition/Liquidity
-----------------------------
The Partnership's liquidity, with unrestricted cash resources of $4,373,354
as of June 30, 2003, along with anticipated future cash distributions from the
Local Partnerships, is expected to be adequate to meet its current and
anticipated operating cash needs. As of August 5, 2003, there were no material
commitments for capital expenditures.
The Partnership's remaining obligation with respect to its investment in
Local Partnerships, in the form of a nonrecourse purchase money note having a
principal balance of $1,400,000 plus accrued interest of $2,563,262 as of June
30, 2003, is payable in full at maturity on September 1, 2003. The purchase
money note, which is nonrecourse to the Partnership, is secured by the
Partnership's interest in the related Local Partnership, Westgate Tower Limited
Dividend Housing Association (Westgate). There is no assurance that the
underlying property will have sufficient appreciation and equity to enable the
Partnership to pay the purchase money note's principal and accrued interest when
due. If the purchase money note is not paid in accordance with its terms, the
Partnership will either have to renegotiate the terms of repayment or risk
losing its partnership interest in Westgate. In the event that the purchase
money note remains unpaid upon maturity, the noteholder may have the right to
foreclose on the Partnership's interest in Westgate.
-11-
Part I. FINANCIAL INFORMATION
Item 2. Management's Discussion Analysis of Financial Condition
-------------------------------------------------------
and Results of Operations - Continued
-------------------------
The Partnership's inability to pay the purchase money note principal and
accrued interest balance when due, and the resulting uncertainty regarding the
Partnership's continued ownership interest in Westgate, does not adversely
impact the Partnership's financial condition because the purchase money note is
nonrecourse and secured solely by the Partnership's interest in Westgate.
Therefore, should the investment in Westgate not produce sufficient value to
satisfy the related purchase money note, the Partnership's exposure to loss is
limited because the amount of the nonrecourse indebtedness of the maturing
purchase money note exceeds the carrying amount of the investment in Westgate.
Thus, even a complete loss of the Partnership's interest in Westgate would not
have a material adverse impact on the financial condition of the Partnership. In
the event of a foreclosure, the excess of the nonrecourse indebtedness over the
carrying amount of the Partnership's investment in Westgate would be deemed
cancellation of indebtedness income, which would be taxable to Limited Partners
at a federal tax rate of up to 35.0%. Additionally, in the event of a
foreclosure, the Partnership would lose its investment in Westgate and,
likewise, its share of any future cash flow distributed by Westgate from rental
operations, mortgage debt refinancings, or the sale of the real estate. The
Partnership received no cash distributions from Westgate during 2002 and 2001;
thus, in the event of a foreclosure, there would be no material adverse impact
on the cash liquidity of the Partnership.
The sale of the Partnership's interest in Princeton Community Village
Associates (Princeton) over a four year period did not affect the Partnership's
cash liquidity, since the only consideration received was the cancellation of
portions of purchase money note principal and accrued interest. The Partnership
did not receive any cash distributions from Princeton during this four year
period.
The Partnership closely monitors its cash flow and liquidity position in an
effort to ensure that sufficient cash is available for operating requirements.
For the six month period ended June 30, 2003, operating activities provided
positive cash flow. Cash and cash equivalents increased during the six month
period ended June 30, 2003, primarily as a result of distributions received from
Local Partnerships. Approximately 28% of the distributions received for the six
month period ended June 30, 2003, were from Local Partnerships for which the
Partnership's carrying value is zero (equity method suspended). The Partnership
expects to receive a lower amount of distributions from these Local Partnerships
in future years as more Section 8 HAP contracts approach expiration, should the
related properties enter the Mark-to-Market program, with the resulting
reduction in rental revenue.
Results of Operations
---------------------
The Partnership's net income for the three month period ended June 30,
2003, decreased $336,000 from the corresponding period in 2002 primarily due to
gain from extinguishment of debt recognized during the 2002 period, an increase
in professional fees related to the sale of Rock Glen, an increase in general
and administrative expenses related to higher reimbursed payroll costs, and a
nominal decrease in interest revenue. Partially offsetting the decrease in net
income was an increase in share of income from partnerships, and a decrease in
interest expense due to lower purchase money note balances. The increase in
share of income from partnerships was the result of rental increases at three
properties and improved occupancy at two properties, and a decrease in utility
and maintenance costs at one property and a decrease in insurance and
maintenance costs at another property. The Partnership is not able to predict
whether the improvement in property operating results will continue.
-12-
Part I. FINANCIAL INFORMATION
Item 2. Management's Discussion Analysis of Financial Condition
-------------------------------------------------------
and Results of Operations - Continued
-------------------------
The Partnership's net income for the six month period ended June 30, 2003,
increased $138,000 from the corresponding period in 2002, primarily due to a
higher gain from extinguishment of debt related to the transfer of the
Partnership's remaining interest in Princeton to the noteholder. Contributing to
the increase in the Partnership's net income was an increase in share of income
from partnerships, and a decrease in interest expense as discussed above.
Partially offsetting the increase in net income was an increase in general and
administrative expenses related to higher reimbursed payroll costs and an
accrual for state business taxes, an increase in professional fees as discussed
above, and a decrease in interest revenue due to declining rates. The increase
in share of income from partnerships was primarily the result of decreased
property operating costs as discussed above. The Partnership is not able to
predict whether the improvement in property operating results will continue.
Partially offsetting the increase in share of income from partnerships was a
decrease in cash distributions recorded as income (equity method suspended).
This decrease is not expected to continue as it was primarily related to the
timing of the receipt of the annual cash distribution from one property.
For financial reporting purposes, the Partnership, as a limited partner in
the Local Partnerships, does not record losses from the Local Partnerships in
excess of its investment to the extent that the Partnership has no further
obligation to advance funds or provide financing to the Local Partnerships. As a
result, the Partnership's share of income from partnerships for the three and
six month periods ended June 30, 2003 did not include losses of $314,831 and
$629,660, respectively, compared to excluded losses of $272,922 and $548,203 for
the three and six month periods ended June 30, 2002, respectively.
No other significant changes in the Partnership's operations have taken
place during the three month period ended June 30, 2003. The increase in share
of income from partnerships was the result of an increase in cash distributions
received from partnerships with zero basis.
Item 3. Controls and Procedures
-----------------------
In July 2003, representatives of the Managing General Partner of the
Partnership carried out an evaluation of the effectiveness of the design and
operation of the Partnership's disclosure controls and procedures, pursuant to
Exchange Act Rules 13a-14 and 15d-14. Based on that evaluation, the Principal
Executive Officer and Principal Financial Officer concluded that the
Partnership's disclosure controls and procedures are effective to alert them in
a timely manner to any material information relating to the Partnership that
must be included in the Partnership's periodic SEC filings. In addition, there
have been no significant changes in the Partnership's internal controls or in
other factors that could significantly affect internal controls subsequent to
the date of the most recent evaluation.
Part II. OTHER INFORMATION
Item 5. Other Information
-----------------
There is no established market for the purchase and sale of units of
additional limited partner interest (Units) in the Partnership, although various
informal secondary market services exist. Due to the limited markets, however,
investors may be unable to sell or otherwise dispose of their Units.
Unregistered Tender Offers
--------------------------
On May 23, 2003, Equity Resource Fund XXII (Equity) initiated an
unregistered tender offer to purchase up to 1,200 of the outstanding Units in
the Partnership at a price of $120 per Unit; the offer expired June 23, 2003. On
April 11, 2003, Equity initiated an unregistered tender offer to purchase up to
1,200 of the outstanding Units in the Partnership at a price of $120 per Unit;
the offer expired May 12, 2003. Equity is not affiliated with the Partnership or
the Managing General Partner. The prices offered were determined solely at the
discretion of Equity and do not necessarily represent the fair market value of
each Unit.
-13-
Part II. OTHER INFORMATION
Item 5. Other Information - Continued
-----------------
On March 14, 2003, Peachtree Partners (Peachtree) initiated an unregistered
tender offer to purchase an unspecified number of the outstanding Units in the
Partnership at a price of $100 per Unit; the offer expired April 18, 2003.
Peachtree is not affiliated with the Partnership or the Managing General
Partner. The price offered was determined solely at the discretion of Peachtree
and does not necessarily represent the fair market value of each Unit.
The Managing General Partner did not express any opinion and remained
neutral toward the unregistered tender offers for the purchase of Units
described above.
Item 6. Exhibits and Reports on Form 8-K
--------------------------------
a. Exhibits
Exhibit No. Description
----------- -----------
99 Certification of Periodic Financial Report
Pursuant to 18 U.S.C. Section 1350
b. No reports on Form 8-K were filed with the Commission during the
quarter ended June 30, 2003.
All other Items are not applicable.
-14-
SIGNATURE
In accordance with the requirements of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
CAPITAL REALTY INVESTORS-II LIMITED
PARTNERSHIP
----------------------------------------------
(Registrant)
by: C.R.I., Inc.
-----------------------------------------
Managing General Partner
August 5, 2003 by: /s/ Michael J. Tuszka
- -------------- -------------------------------------
DATE Michael J. Tuszka
Vice President
and Chief Accounting Officer
(Principal Financial Officer
and Principal Accounting Officer)
-15-
CERTIFICATION OF QUARTERLY REPORT
Pursuant to 18 U.S.C. Section 1350,
as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
I, Michael J. Tuszka, certify that:
1. I have reviewed this quarterly report on Form 10-QSB of
CAPITAL REALTY INVESTORS-II LIMITED PARTNERSHIP;
2. Based on my knowledge, this quarterly report does not contain
any untrue statement of a material fact or omit to state a
material fact necessary to make the statements made, in light
of the circumstances under which such statements were made,
not misleading with respect to the period covered by this
quarterly report;
3. Based on my knowledge, the financial statements, and other
financial information included in this quarterly report,
fairly present in all material respects the financial
condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officer and I are
responsible for establishing and maintaining disclosure
controls and procedures (as defined in Exchange Act Rules
13a-14 and 15d-14) for the registrant and have:
a) designed such disclosure controls and procedures to ensure
that material information relating to the registrant,
including its consolidated subsidiaries, is made known to us
by others within those entities, particularly during the
period in which this quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to
the filing date of this quarterly report (the "Evaluation
Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based
on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officer and I have
disclosed, based on our most recent evaluation, to the
registrant's auditors and the audit committee of the
registrant's board of directors (or persons performing the
equivalent functions):
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the
registrant's ability to record, process, summarize and report
financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management
or other employees who have a significant role in the
registrant's internal controls; and
-16-
6. The registrant's other certifying officer and I have indicated
in this quarterly report whether there were significant
changes in internal controls or in other factors that could
significantly affect internal controls subsequent to the date
of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material
weaknesses.
CAPITAL REALTY INVESTORS-II
LIMITED PARTNERSHIP
--------------------------------------------
(Issuer)
by: C.R.I., Inc.
---------------------------------------
Managing General Partner
August 5, 2003 by: /s/ Michael J. Tuszka
- -------------- ----------------------------------
DATE Michael J. Tuszka,
Vice President
and Chief Accounting Officer
(Principal Financial Officer)
This certification is made solely for purpose of 18 U.S.C. Section 1350,
subject to the knowledge standard contained therein, and not for any other
purpose.
-17-
CERTIFICATION OF QUARTERLY REPORT
Pursuant to 18 U.S.C. Section 1350,
as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
I, William B. Dockser, certify that:
1. I have reviewed this quarterly report on Form 10-QSB of
CAPITAL REALTY INVESTORS-II LIMITED PARTNERSHIP;
2. Based on my knowledge, this quarterly report does not contain
any untrue statement of a material fact or omit to state a
material fact necessary to make the statements made, in light
of the circumstances under which such statements were made,
not misleading with respect to the period covered by this
quarterly report;
3. Based on my knowledge, the financial statements, and other
financial information included in this quarterly report,
fairly present in all material respects the financial
condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officer and I are
responsible for establishing and maintaining disclosure
controls and procedures (as defined in Exchange Act Rules
13a-14 and 15d-14) for the registrant and have:
a) designed such disclosure controls and procedures to ensure
that material information relating to the registrant,
including its consolidated subsidiaries, is made known to us
by others within those entities, particularly during the
period in which the periodic reports are being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to
the filing date of this quarterly report (the "Evaluation
Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based
on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officer and I have
disclosed, based on our most recent evaluation, to the
registrant's auditors and the audit committee of the
registrant's board of directors (or persons performing the
equivalent functions):
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the
registrant's ability to record, process, summarize and report
financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management
or other employees who have a significant role in the
registrant's internal controls; and
-18-
6. The registrant's other certifying officer and I have indicated
in this quarterly report whether there were significant
changes in internal controls or in other factors that could
significantly affect internal controls subsequent to the date
of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material
weaknesses.
CAPITAL REALTY INVESTORS-II
LIMITED PARTNERSHIP
--------------------------------------------
(Issuer)
by: C.R.I., Inc.
---------------------------------------
Managing General Partner
August 5, 2003 by: /s/ William B. Dockser
- -------------- ----------------------------------
DATE William B. Dockser,
Director, Chairman of the Board,
and Treasurer
(Principal Executive Officer)
This certification is made solely for purpose of 18 U.S.C. Section 1350,
subject to the knowledge standard contained therein, and not for any other
purpose.
-19-