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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 SEPTEMBER 30, 2002
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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 SEPTEMBER 30, 2002
Page
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
Balance Sheets
- September 30, 2002 and December 31, 2001.................... 1
Statements of Operations and Accumulated Losses
- for the three and nine months ended September 30, 2002
and 2001................................................... 2
Statements of Cash Flows
- for the nine months ended September 30, 2002 and 2001....... 3
Notes to Financial Statements
- September 30, 2002 and 2001................................. 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 3. Defaults Upon Senior Securities.................................. 14
Item 5. Other Information................................................ 14
Item 6. Exhibits and Reports on Form 8-K................................. 15
Signature................................................................. 16
Certifications of Quarterly Report Pursuant to 18 U.S.C. Section 1350..... 17
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
--------------------
CAPITAL REALTY INVESTORS-II LIMITED PARTNERSHIP
BALANCE SHEETS
ASSETS
September 30, December 31,
2002 2001
------------ ------------
(Unaudited)
Investments in and advances to partnerships ............................................ $ 1,297,833 $ 1,308,952
Investment in partnership held for sale or transfer .................................... 7,577 15,154
Cash and cash equivalents .............................................................. 6,331,172 3,242,912
Acquisition fees, principally paid to related parties,
net of accumulated amortization of $229,340 and $259,959, respectively ............... 135,851 170,029
Property purchase costs,
net of accumulated amortization of $241,009 and $243,162, respectively ............... 149,510 167,124
Other assets ........................................................................... 254 108
------------ ------------
Total assets ........................................................................ $ 7,922,197 $ 4,904,279
============ ============
LIABILITIES AND PARTNERS' CAPITAL (DEFICIT)
Due on investments in partnerships ..................................................... $ 1,900,000 $ 1,900,000
Accrued interest payable ............................................................... 2,620,002 3,052,897
Accounts payable and accrued expenses .................................................. 89,606 78,568
------------ ------------
Total liabilities ................................................................... 4,609,608 5,031,465
------------ ------------
Commitments and contingencies
Partners' capital (deficit):
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 .............................................. (11,013,494) (10,814,009)
Offering costs ..................................................................... (5,278,980) (5,278,980)
Accumulated losses ................................................................. (30,411,937) (34,051,197)
------------ ------------
Total partners' capital (deficit) ................................................ 3,312,589 (127,186)
------------ ------------
Total liabilities and partners' capital (deficit) ................................ $ 7,922,197 $ 4,904,279
============ ============
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 nine months ended
September 30, September 30,
---------------------------- ----------------------------
2002 2001 2002 2001
------------ ------------ ------------ ------------
Share of income from partnerships .................. $ 187,753 $ 341,357 $ 1,136,937 $ 1,085,183
------------ ------------ ------------ ------------
Other revenue and expenses:
Revenue:
Gain from extinguishment of debt ............... -- -- 599,123 9,665,289
Interest ....................................... 13,685 25,804 36,213 149,833
------------ ------------ ------------ ------------
13,685 25,804 635,336 9,815,122
------------ ------------ ------------ ------------
Expenses:
Interest ....................................... 57,935 70,044 173,805 350,147
Management fee ................................. 62,499 62,499 187,497 187,497
General and administrative ..................... 70,642 52,446 186,895 167,171
Professional fees .............................. 22,250 21,512 66,750 63,287
Amortization of deferred costs ................. 6,532 7,002 20,067 21,007
------------ ------------ ------------ ------------
219,858 213,503 635,014 789,109
------------ ------------ ------------ ------------
Total other revenue and expenses ............. (206,173) (187,699) 322 9,026,013
------------ ------------ ------------ ------------
(Loss) income before gain (loss) on disposition
of investments in partnerships ................... (18,420) 153,658 1,137,259 10,111,196
Gain (loss) on disposition
of investments in partnerships ................... 2,502,001 -- 2,502,001 (56,217)
------------ ------------ ------------ ------------
Net income ......................................... 2,483,581 153,658 3,639,260 10,054,979
Accumulated losses, beginning of period ............ (32,895,518) (34,180,271) (34,051,197) (44,081,592)
------------ ------------ ------------ ------------
Accumulated losses, end of period .................. $(30,411,937) $(34,026,613) $(30,411,937) $(34,026,613)
============ ============ ============ ============
Net income allocated
to General Partners (1.51%) ...................... $ 37,502 $ 2,320 $ 54,953 $ 151,830
============ ============ ============ ============
Net income allocated
to Initial and Special Limited Partners (1.49%) .. $ 37,005 $ 2,290 $ 54,225 $ 149,819
============ ============ ============ ============
Net income allocated
to Additional Limited Partners (97%) ............. $ 2,409,074 $ 149,048 $ 3,530,082 $ 9,753,330
============ ============ ============ ============
Net income per unit of Additional Limited
Partner Interest based on 50,000 units outstanding $ 48.18 $ 2.98 $ 70.60 $ 195.07
============ ============ ============ ============
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 nine months ended
September 30,
----------------------------
2002 2001
------------ ------------
Cash flows from operating activities:
Net income .................................................................. $ 3,639,260 $ 10,054,979
Adjustments to reconcile net income to net cash used in operating activities:
Share of income from partnerships ......................................... (1,136,937) (1,085,183)
Gain from extinguishment of debt .......................................... (599,123) (9,665,289)
Amortization of deferred costs ............................................ 20,067 21,007
(Gain) loss on disposition of investments in partnerships ................. (2,502,001) 56,217
Changes in assets and liabilities:
Increase in advances to partnerships .................................... (1,118) --
(Increase) decrease in other assets ..................................... (146) 1,811
Increase in accrued interest payable .................................... 173,805 350,147
Increase (decrease) in accounts payable and accrued expenses ............ 11,038 (82,747)
------------ ------------
Net cash used in operating activities ................................. (395,155) (349,058)
------------ ------------
Cash flows from investing activities:
Receipt of distributions from partnerships .................................. 1,149,175 883,504
Proceeds from disposition of investment in partnership, net ................. 2,533,725 --
Additional investment in partnership ........................................ -- (198,241)
------------ ------------
Net cash provided by investing activities ............................. 3,682,900 685,263
------------ ------------
Cash flows from financing activities:
Distribution to General Partners and Initial and Special Limited Partners ... (199,485) --
Distribution to Additional Limited Partners ................................. -- (3,244,150)
------------ ------------
Net cash used in financing activities ................................. (199,485) (3,244,150)
------------ ------------
Net increase (decrease) in cash and cash equivalents .......................... 3,088,260 (2,907,945)
Cash and cash equivalents, beginning of period ................................ 3,242,912 6,292,654
------------ ------------
Cash and cash equivalents, end of period ...................................... $ 6,331,172 $ 3,384,709
============ ============
The accompanying notes are an
integral part of these
financial statements.
-3-
CAPITAL REALTY INVESTORS-II LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS
September 30, 2002 and 2001
(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 September 30, 2002, and the results of its operations for the three and nine
months ended September 30, 2002 and 2001, and its cash flows for the nine months
ended September 30, 2002 and 2001. The results of operations for the interim
period ended September 30, 2002, 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, 2001.
In April 2002, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 145 (the Statement), "Recission of FASB
Statements No. 4, 44, and 64, ...." The Statement rescinds Statement of
Financial Accounting Standards No. 4, which required all gains and losses from
extinguishment of debt to be aggregated and, if material, classified as an
extraordinary item. Accordingly, gain from extinguishment of debt previously
reported as extraordinary for the nine months ended September 30, 2001, have
been reclassified in the accompanying statement of operations at that date to
conform to the presentation required by the Statement.
2. INVESTMENTS IN AND ADVANCES TO PARTNERSHIPS
a. Due on investments in partnerships and accrued interest payable
---------------------------------------------------------------
Purchase money notes
--------------------
The Partnership's obligations with respect to its investments in Local
Partnerships, in the form of nonrecourse purchase money notes having an
aggregate principal balance of $1,900,000 plus aggregate accrued interest of
$2,620,002 as of September 30, 2002, are payable in full upon the earliest of:
(i) sale or refinancing of the respective Local Partnership's rental property;
(ii) payment in full of the respective Local Partnership's permanent loan; or
(iii) maturity.
The purchase money notes, which are nonrecourse to the Partnership, are
generally secured by the Partnership's interest in the respective Local
Partnerships. There is no assurance that the underlying properties will have
sufficient appreciation and equity to enable the Partnership to pay the purchase
money notes' principal and accrued interest when due. If a 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
the respective Local Partnership.
-4-
CAPITAL REALTY INVESTORS-II LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS
September 30, 2002 and 2001
(Unaudited)
2. INVESTMENTS IN AND ADVANCES TO PARTNERSHIPS - Continued
The Partnership's inability to pay certain of the purchase money note
principal and accrued interest balances when due, and the resulting uncertainty
regarding the Partnership's continued ownership interest in the related Local
Partnerships, does not adversely impact the Partnership's financial condition
because the purchase money notes are nonrecourse and secured solely by the
Partnership's interest in the related Local Partnerships. Therefore, should the
investment in any of the Local Partnerships with maturing purchase money notes
not produce sufficient value to satisfy the related purchase money notes, the
Partnership's exposure to loss is limited because the amount of the nonrecourse
indebtedness of each of the maturing purchase money notes exceeds the carrying
amount of the investment in, and advances to, each of the related Local
Partnerships. Thus, even a complete loss of the Partnership's interest in one of
these Local Partnerships would not have a material adverse impact on the
financial condition of the Partnership.
The Managing General Partner is continuing to investigate possible
alternatives to reduce the Partnership's debt obligations. These alternatives
include, among others, retaining the cash available for distribution to meet the
purchase money note requirements, paying off certain purchase money notes at a
discounted price, extending the due dates of certain purchase money notes,
refinancing the respective properties' underlying debt or selling the underlying
real estate and using the Partnership's share of the proceeds to pay or buy down
certain purchase money note obligations. Although the Managing General Partner
has had some success applying these strategies in the past, the Managing General
Partner cannot assure that these strategies will be successful in the future. If
the Managing General Partner is unable to negotiate an extension or discounted
payoff, in the event that the purchase money notes remain unpaid upon maturity,
the noteholders may have the right to foreclose on the Partnership's interest in
the related Local Partnerships. In the event of a foreclosure, the excess of the
nonrecourse indebtedness over the carrying amount of the Partnership's
investment in the related Local Partnership would be deemed cancellation of
indebtedness income, which would be taxable to Limited Partners at a federal tax
rate of up to 38.6%. Additionally, in the event of a foreclosure, the
Partnership would lose its investment in the Local Partnership and, likewise,
its share of any future cash flow distributed by the Local Partnership from
rental operations, mortgage debt refinancings, or the sale of the real estate.
The Managing General Partner continues to address the maturity of its debt
obligations and to seek solutions that will provide the most favorable outcome
to the limited partners. However, there can be no assurance that these
strategies will be successful.
Interest expense on the Partnership's purchase money notes for the three
and nine month periods ended September 30, 2002, was $57,935 and $173,805,
respectively, and $70,044 and $350,147 for the three and nine month periods
ended September 30, 2001, respectively. The accrued interest payable on the
purchase money notes of $2,620,002 and $3,052,897 as of September 30, 2002 and
December 31, 2001, 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.
-5-
CAPITAL REALTY INVESTORS-II LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS
September 30, 2002 and 2001
(Unaudited)
2. INVESTMENTS IN AND ADVANCES TO PARTNERSHIPS - Continued
Frenchman's Wharf II
--------------------
The Partnership defaulted on its purchase money note related to Frenchman's
Wharf Associates II Limited Partnership (Frenchman's Wharf II) on June 1, 1998
when the note matured and was not paid. The default amount included principal
and accrued interest of $3,150,000 and $5,071,731, respectively. As of June 22,
2001, principal and accrued interest totaling $3,150,000 and $6,131,166,
respectively, were due. The purchase money note was initially due to mature on
June 1, 1988, but was extended to mature on June 1, 1998.
In January 2001, the Local Partnership entered into a contract to sell the
property. However, the purchaser was unable to consummate the purchase. As a
result, in accordance with the forbearance agreement, on June 22, 2001, the
property was transferred by deed-in-lieu of foreclosure to an assignee of the
mortgagee. The transfer of the property and resulting loss of the Partnership's
interest in Frenchman's Wharf II resulted in gain from extinguishment of debt of
$9,281,166 and loss on disposition of investment in partnership of $56,217 for
financial statement purposes in 2001, and a total gain of $16,450,868 for
federal tax purposes in 2001.
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 can exercise its option to acquire the final portion
of the Partnership's interest between January 1, 2003 and June 30, 2003.
Therefore, the Partnership has selected the earliest maturity date of the
purchase money note to be January 1, 2003.
On April 30, 2002, pursuant to the option agreement, the noteholder
purchased half of the Partnership's 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
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.
-6-
CAPITAL REALTY INVESTORS-II LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS
September 30, 2002 and 2001
(Unaudited)
2. INVESTMENTS IN AND ADVANCES TO PARTNERSHIPS - Continued
Due to the impending and likely transfer of the remainder of the
Partnership's investment in Princeton, the net unamortized amounts of
acquisition fees and property purchase costs related to Princeton, which totaled
$7,577 as of September 30, 2002 and $15,154 as of December 31, 2001, have been
reclassified to investment in partnerships held for sale or transfer in the
accompanying balance sheets.
Westgate
--------
The purchase money note related to Westgate Tower Limited Dividend Housing
Association (Westgate) matures on September 1, 2003 (as previously extended). As
of November 6, 2002, principal and accrued interest of $1,400,000 and
$2,481,276, respectively, were due. The Managing General Partner will begin
discussions with the purchase money noteholder prior to or upon maturity of the
Westgate purchase money note to investigate the alternatives available.
b. Advance to Local Partnership
----------------------------
To cover a tax liability incurred in 2001 by Troy Apartments Ltd. (Troy
Manor), the Partnership advanced funds of $1,118 during the quarter ended March
31, 2002. This advance is payable from cash flow of Troy Manor. For financial
reporting purposes, this advance has been reduced to zero by the Partnership as
a result of losses at the Local Partnership level.
c. Property matters
----------------
Country Place II
----------------
The Section 8 Housing Assistance Payments (HAP) contract for the property
owned by Second Blackburn Ltd. Partnership (Country Place II) originally expired
August 29, 2000. The Section 8 HAP contract covered 20% of the property's
apartment units. The Local Partnership caused the Section 8 HAP contract to be
renewed periodically, but when the current renewal period expired in June 2002,
the Local Partnership opted out of the HAP program.
Orangewood Plaza
----------------
The 1983 construction loan (Note) related to Orangewood Plaza, a 40-unit
apartment complex in Orange Cove, California, was never formally converted to a
permanent loan. During 2002, the local managing general partner and the lender
signed a loan modification agreement to reflect that, effective January 1, 2002,
interest shall accrue on the amount owed under the Note at the rate of zero
percent instead of nine percent per annum, and that the Note and related
construction and permanent deed of trust, dated June 29, 1983, shall remain
unaffected, unchanged, and unimpaired.
In 1983, the Partnership pledged its interest in the Local Partnership as
security on an acquisition note, in the amount of $170,000, made by the Local
Partnership. The note matured on July 28, 1998 and was not paid when due. On May
7, 2001, the Partnership made a capital contribution of $198,241 to the Local
Partnership, which amount was used to pay in full the principal and accrued
interest on the acquisition note.
-7-
CAPITAL REALTY INVESTORS-II LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS
September 30, 2002 and 2001
(Unaudited)
2. INVESTMENTS IN AND ADVANCES TO PARTNERSHIPS - Continued
Rock Glen
---------
In September 2002, the Rock Glen Limited Partnership (Rock Glen) property
was sold. The sale resulted in gain on disposition of investment in partnership
of $2,502,001 for financial statement purposes and $4,713,274 for federal income
tax purposes in 2002. In September 2002, the Managing General Partner was paid a
disposition fee of $128,000 relating to the sale.
d. Summarized financial information
--------------------------------
Combined statements of operations for the 13 and 14 Local Partnerships in
which the Partnership was invested as of September 30, 2002 and 2001,
respectively, follow. The combined statements have been compiled from
information supplied by the management agents of the projects and are unaudited.
The combined statement of operations for the nine months ended September 30,
2001, includes information for Frenchman's Wharf II through date of transfer in
June 2001; the combined statements of operations for the three and nine months
ended September 30, 2002, include information for Rock Glen through date of sale
in September 2002.
COMBINED STATEMENTS OF OPERATIONS
(Unaudited)
For the three months ended For the nine months ended
September 30, September 30,
--------------------------- ---------------------------
2002 2001 2002 2001
----------- ----------- ----------- -----------
Revenue:
Rental $ 4,758,068 $ 5,178,159 $14,295,948 $14,900,954
Other 291,152 204,742 859,313 640,459
----------- ----------- ----------- -----------
Total revenue 5,049,220 5,382,901 15,155,261 15,541,413
----------- ----------- ----------- -----------
Expenses:
Operating 2,875,401 3,117,492 8,780,823 8,758,010
Interest 1,267,744 1,278,124 3,803,230 4,134,503
Depreciation and amortization 819,014 813,057 2,457,046 2,634,343
----------- ----------- ----------- -----------
Total expenses 4,962,159 5,208,673 15,041,099 15,526,856
----------- ----------- ----------- -----------
Net income $ 87,061 $ 174,228 $ 114,162 $ 14,557
=========== =========== =========== ===========
As of September 30, 2002 and 2001, the Partnership's share of cumulative
losses to date for eight of the 13 and 14 Local Partnerships exceeded the amount
of the Partnership's investments in and advances to those Local Partnerships by
$21,229,715 and $20,871,755, 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
September 30, 2002 and 2001
(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 $44,030 and
$138,568 for the three and nine month periods ended September 30, 2002,
respectively, and $34,254 and $123,502 for the three and nine month periods
ended September 30, 2001, 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 September 30, 2002 and 2001, and $187,497
for each of the nine month periods ended September 30, 2002 and 2001.
In September 2002, the Managing General Partner was paid a disposition fee
of $128,000 relating to the sale of Rock Glen.
# # #
-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 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.
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;
however, 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
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 will
receive increased cash flow as the limited dividend will be increased in an
amount equal to the increase in gross revenues.
Country Place II had a Section 8 HAP contract which covered 20% of the
property's apartment units. The current renewal period of the Section 8 HAP
contract expired in June 2002, at which time the Local Partnership opted out of
the HAP program.
As of September 30, 2002, there were no properties with Section 8 HAP
contracts expiring in the next 12 months.
The Managing General Partner continues to seek strategies to deal with
affordable housing policy. Where opportunities exist, the Managing General
Partner will continue to work with the Local Partnerships to develop strategies
that make economic sense.
Financial Condition/Liquidity
-----------------------------
The Partnership's liquidity, with unrestricted cash resources of $6,331,172
as of September 30, 2002, 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 November 6, 2002, there were no material
commitments for capital expenditures.
The Partnership's obligations with respect to its investments in Local
Partnerships, in the form of nonrecourse purchase money notes having an
aggregate principal balance of $1,900,000 plus aggregate accrued interest of
$2,620,002 as of September 30, 2002, are payable in full upon the earliest of:
(i) sale or refinancing of the respective Local Partnership's rental property;
(ii) payment in full of the respective Local Partnership's permanent loan; or
(iii) maturity. See Note 2.a. of the notes to financial statements contained in
Part I, Item 1, hereof, for information concerning purchase money notes.
The purchase money notes, which are nonrecourse to the Partnership, are
generally secured by the Partnership's interest in the respective Local
Partnerships. There is no assurance that the underlying properties will have
sufficient appreciation and equity to enable the Partnership to pay the purchase
money notes' principal and accrued interest when due. If a 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
the respective Local Partnership.
-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 certain of the purchase money note
principal and accrued interest balances when due, and the resulting uncertainty
regarding the Partnership's continued ownership interest in the related Local
Partnerships, does not adversely impact the Partnership's financial condition
because the purchase money notes are nonrecourse and secured solely by the
Partnership's interest in the related Local Partnerships. Therefore, should the
investment in any of the Local Partnerships with maturing purchase money notes
not produce sufficient value to satisfy the related purchase money notes, the
Partnership's exposure to loss is limited because the amount of the nonrecourse
indebtedness of each of the maturing purchase money notes exceeds the carrying
amount of the investment in, and advances to, each of the related Local
Partnerships. Thus, even a complete loss of the Partnership's interest in one of
these Local Partnerships would not have a material adverse impact on the
financial condition of the Partnership.
The Managing General Partner is continuing to investigate possible
alternatives to reduce the Partnership's debt obligations. These alternatives
include, among others, retaining the cash available for distribution to meet the
purchase money note requirements, paying off certain purchase money notes at a
discounted price, extending the due dates of certain purchase money notes,
refinancing the respective properties' underlying debt or selling the underlying
real estate and using the Partnership's share of the proceeds to pay or buy down
certain purchase money note obligations. Although the Managing General Partner
has had some success applying these strategies in the past, the Managing General
Partner cannot assure that these strategies will be successful in the future. If
the Managing General Partner is unable to negotiate an extension or discounted
payoff, in the event that the purchase money notes remain unpaid upon maturity,
the noteholders may have the right to foreclose on the Partnership's interest in
the related Local Partnerships. In the event of a foreclosure, the excess of the
nonrecourse indebtedness over the carrying amount of the Partnership's
investment in the related Local Partnership would be deemed cancellation of
indebtedness income, which would be taxable to Limited Partners at a federal tax
rate of up to 38.6%. Additionally, in the event of a foreclosure, the
Partnership would lose its investment in the Local Partnership and, likewise,
its share of any future cash flow distributed by the Local Partnership from
rental operations, mortgage debt refinancings, or the sale of the real estate.
The Managing General Partner continues to address the maturity of its debt
obligations and to seek solutions that will provide the most favorable outcome
to the limited partners. However, there can be no assurance that these
strategies will be successful.
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 nine month periods ended September 30, 2002 and 2001, the receipt of
distributions from Local Partnerships was adequate to support operating cash
requirements. Cash and cash equivalents increased during the nine month period
ended September 30, 2002, as the receipt of distributions from Local
Partnerships and proceeds from disposition of investment in partnership exceeded
net cash used in operating activities, and cash distributed to General Partners
and Initial and Special Limited Partners.
On September 11, 2002, the Partnership made a cash distribution of $199,485
to the General Partners and Initial and Special Limited Partners from cash
resources accumulated from operations, distributions from Local Partnerships and
sales of three properties. A review of the Partnership Agreement revealed that
these amounts should have been distributed in prior years when distributions had
been made only to the Additional Limited Partners. On October 31, 2002, the
Managing General Partner approved a cash distribution of $1,350,000 to all
partners who were holders of record as of November 1, 2002; the distribution is
from proceeds received from the Local Partnership as a result of the sale of the
Rock Glen property. On October 31, 2002, the Managing General Partner also
approved a cash distribution of $1,546,392 to Additional Limited Partners who
were holders of record as of November 1, 2002; the distribution is from cash
-12-
PART I. FINANCIAL INFORMATION
Item 2. Management's Discussion Analysis of Financial Condition
-------------------------------------------------------
and Results of Operations - Continued
-------------------------
resources accumulated from operations and distributions from Local Partnerships.
Both distributions will be paid in November 2002. The Managing General Partner
currently intends to retain all of the Partnership's remaining undistributed
cash for the possible repayment, prepayment or retirement of the Partnership's
outstanding purchase money notes related to the Local Partnerships, and for
operating cash reserves.
Results of Operations
---------------------
The Partnership's net income for the three month period ended September 30,
2002, increased from the corresponding period in 2001 primarily due to gain on
disposition of investments in partnerships related to the sale of the property
owned by Rock Glen Limited Partnership (Rock Glen). Contributing to the increase
in the Partnership's net income was a decrease in interest expense due to a
lower purchase money note balance during the 2002 period. Partially offsetting
the increase in the Partnership's net income were a decrease in share of income
from Partnerships related to a one-time lump-sum retroactive payment received
from the U. S. Department of Housing and Urban Development during the 2001
period, a decrease in interest revenue related to lower interest rates in 2002,
and an increase in general and administrative expenses related to higher
reimbursed payroll costs.
The Partnership's net income for the nine month period ended September 30,
2002, decreased from the corresponding period in 2001 primarily due to a
decrease in gain from extinguishment of debt related to the loss of the
Partnership's interest in Frenchman's Wharf Associates II Limited Partnership
(Frenchman's Wharf II) in 2001. Contributing to the decrease was a decrease in
interest revenue and an increase in general and administrative expenses, both as
discussed above, and a slight increase in professional fees. Partially
offsetting the decrease in the Partnership's net income were an increase in gain
on disposition of investments in partnerships related to the sale of the Rock
Glen property, an increase in share of income from partnerships due to the
Partnership's additional investment in one property during 2001, but not in
2002, and a decrease in interest expense as discussed above.
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
nine month periods ended September 30, 2002 did not include losses of $274,103
and $822,306, respectively, compared to excluded losses of $232,887 and $756,672
for the three and nine month periods ended September 30, 2001, respectively.
No other significant changes in the Partnership's operations have taken
place during the nine month period ended September 30, 2002.
Item 3. Controls and Procedures
-----------------------
In October 2002, 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 timely alert
them 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.
-13-
PART II. OTHER INFORMATION
Item 3. Defaults upon Senior Securities
-------------------------------
See Note 2.a. of the notes to financial statements contained in Part I,
Item 1, hereof, for information concerning the Partnership's defaults on
purchase money notes.
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.
Tender offers
-------------
On March 13, 2001, Bond Purchase, L.L.C. (Bond) initiated an unregistered
tender offer to purchase approximately 2,475 of the outstanding Units in the
Partnership at a price of $53 per Unit; the offer expired April 30, 2001. Bond
is unaffiliated with the Partnership or the Managing General Partner. The price
offered was determined solely at the discretion of Bond 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 Bond offer for the purchase of Units described above.
On or about May 10, 2001, Limited Partners in the Partnership may have
received an unregistered tender offer from Peachtree Partners (Peachtree) to
purchase their units of Limited Partner interest for the cost of the $100
transfer fee. On August 27, 2002, Peachtree initiated an unregistered tender
offer to purchase no more than 4.9% (including 1,965 Units, or 3.93%, already
owned by affiliates) of the outstanding Units in the Partnership at a price of
$40 per Unit; the offer expired October 15, 2002. Peachtree is unaffiliated with
the Partnership or the Managing General Partner. The prices offered were
determined solely at the discretion of Peachtree and do not necessarily
represent the fair market value of each Unit.
The Managing General Partner recommended that Limited Partners reject the
2001 Peachtree offer because it concluded that the tender offer was inadequate
and not in the best interests of the Limited Partners. The Managing General
Partner did not express any opinion and remained neutral toward the 2002
Peachtree offer for the purchase of Units described above.
On June 22, 2001, Equity Resources Lexington Fund Limited Partnership
(Lexington) initiated a registered tender offer to purchase up to 10,000 of the
outstanding Units in the Partnership at a price of $100 per Unit; the offer
expired July 23, 2001. On November 19, 2001, Lexington initiated a registered
tender offer to purchase up to 10,000 of the outstanding Units in the
Partnership at a price of $100 per Unit; the offer expired December 19, 2001. On
May 10, 2002, Lexington initiated a registered tender offer to purchase up to
5,000 of the outstanding Units in the Partnership at a price of $100 per Unit;
the offer expired June 10, 2002. Lexington is unaffiliated with the Partnership
or the Managing General Partner. The prices offered were determined solely at
the discretion of Lexington and do not necessarily represent the fair market
value of each Unit.
In response to the Lexington registered tender offers, on July 5, 2001,
December 3, 2001 and May 20, 2002, the Managing General Partner filed Schedules
14D-9. In those filings, the Managing General Partner recommended that Limited
Partners reject the Lexington offers because it viewed the offer prices as
inadequate.
-14-
PART II. OTHER INFORMATION
Item 5. Other Information - Continued
-----------------
During 2001, a number of investors sold their Units in the Partnership to
other investors as a result of the tender offers described above. If more than
five percent of the total outstanding Units in the Partnership are transferred
due to sale in any one calendar year (not counting certain exempt transfers),
the Partnership could be taxed as a "publicly traded partnership," with
potentially severe tax implications for the Partnership and its investors.
Specifically, the Partnership could be taxed as a corporation and, if so, the
income and losses from the Partnership would no longer be considered a passive
activity. From January 1, 2001, through August 13, 2001, the Partnership
received sale transfer requests for approximately 4.9% of the total outstanding
Units. Accordingly, to remain within the five percent safe harbor, effective
August 13, 2001, the Managing General Partner halted recognition of any
transfers that would exceed the safe harbor limit through December 31, 2001. As
a result, transfers of Units due to sales transactions were not being recognized
by the Partnership between August 14, 2001 and December 31, 2001. The halt was
lifted effective January 1, 2002. For the calendar year 2002 to November 6,
2002, Units transferred have not exceeded 4.9% of the total outstanding Units;
therefore, the Partnership has not halted recognition of transfers.
Cash distribution
-----------------
On September 11, 2002, the Partnership made a cash distribution of $199,485
to the General Partners and Initial and Special Limited Partners from cash
resources accumulated from operations, distributions from Local Partnerships and
sales of three properties. A review of the Partnership Agreement revealed that
these amounts should have been distributed in prior years when distributions had
been made only to the Additional Limited Partners. On October 31, 2002, the
Managing General Partner approved a cash distribution of $1,350,000 to all
partners who were holders of record as of November 1, 2002; the distribution is
from proceeds received from the Local Partnership as a result of the sale of the
Rock Glen property. On October 31, 2002, the Managing General Partner also
approved a cash distribution of $1,546,392 to Additional Limited Partners who
were holders of record as of November 1, 2002; the distribution is from cash
resources accumulated from operations and distributions from Local Partnerships.
Both distributions will be paid in November 2002.
On May 2, 2001, the Partnership made a cash distribution of $3,244,150
($65.00 per Unit) to Additional Limited Partners who were holders of record as
of April 1, 2001.
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 September 30, 2002.
All other Items are not applicable.
-15-
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
November 6, 2002 by: /s/ Michael J. Tuszka
- ---------------- -----------------------------------------
DATE Michael J. Tuszka
Vice President
and Chief Accounting Officer
(Principal Financial Officer
and Principal Accounting Officer)
-16-
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 officers and I are
responsible for establishing and maintaining disclosure
controls and procedures (as defined in Exchange Act Rules
13a-14 and 15d-14) for the registrant and have:
a) designed such disclosure controls and procedures to ensure
that material information relating to the registrant,
including its consolidated subsidiaries, is made known to us
by others within those entities, particularly during the
period in which this quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to
the filing date of this quarterly report (the "Evaluation
Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based
on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have
disclosed, based on our most recent evaluation, to the
registrant's auditors and the audit committee of 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
-17-
6. The registrant's other certifying officers and I have
indicated in this quarterly report whether or not there were
significant changes in internal controls or in other factors
that could significantly affect internal controls subsequent
to the date of our most recent evaluation, including any
corrective actions with regard to significant deficiencies and
material weaknesses.
CAPITAL REALTY INVESTORS-II
LIMITED PARTNERSHIP
(Issuer)
by: C.R.I., Inc.
------------------------------------------------
Managing General Partner
November 6, 2002 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.
-18-
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 officers and I are
responsible for establishing and maintaining disclosure
controls and procedures (as defined in Exchange Act Rules
13a-14 and 15d-14) for the registrant and 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 officers 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
-19-
6. The registrant's other certifying officers and I have
indicated in this quarterly report whether or not there were
significant changes in internal controls or in other factors
that could significantly affect internal controls subsequent
to the date of our most recent evaluation, including any
corrective actions with regard to significant deficiencies and
material weaknesses.
CAPITAL REALTY INVESTORS-II
LIMITED PARTNERSHIP
(Issuer)
by: C.R.I., Inc.
---------------------------------------
Managing General Partner
November 6, 2002 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.
-20-