UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q (Mark One) x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended September 30, 1998 OR TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 0-16817 Krupp Insured Plus-II Limited Partnership Massachusetts 04-2955007 (State or other jurisdiction of (IRS employer incorporation or organization) identification no.) 470 Atlantic Avenue, Boston, Massachusetts 02210 (Address of principal executive offices) (Zip Code) (617) 423-2233 (Registrant's telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No PART I. FINANCIAL INFORMATION Item 1. FINANCIAL STATEMENTS This Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Actual results could differ materially from those projected in the forward-looking statements as a result of a number of factors, including those identified herein. KRUPP INSURED PLUS-II LIMITED PARTNERSHIP BALANCE SHEETS ASSETS September 30, December 31, 1998 1997 Participating Insured Mortgages ("PIMs") (Note 2) $ 89,445,563 $122,048,053 Mortgage-Backed Securities and multi-family insured mortgages("MBS") (Note 3) 38,256,874 44,727,693 Total mortgage investments 127,702,437 166,775,746 Cash and cash equivalents 8,692,114 9,052,480 Interest receivable and other assets 860,325 1,180,660 Prepaid acquisition fees and expenses, net of accumulated amortization of $6,975,500 and $8,293,080, respectively 1,250,454 2,481,160 Prepaid participation servicing fees, net of accumulated amortization of $2,251,632 and $2,707,314, respectively 292,191 636,931 Total assets $138,797,521 $180,126,977 LIABILITIES AND PARTNERS' EQUITY Liabilities 26,364 25,588 Partners' equity (deficit) (Note 4): Limited Partners 137,366,345 178,597,484 (14,655,512 Limited Partner interests outstanding) General Partners (310,063) (265,315) Unrealized gain on MBS 1,714,875 1,769,220 Total Partners' equity 138,771,157 180,101,389 Total liabilities and partners' equity $138,797,521 $180,126,977 The accompanying notes are an integral part of the financial statements. KRUPP INSURED PLUS-II LIMITED PARTNERSHIP STATEMENTS OF INCOME For the Three Months For the Nine Months Ended September 30, Ended September 30, 1998 1997 1998 1997 Revenues: Interest income - PIMs: Base interest $1,702,648 $2,792,679 $5,817,579 $8,727,433 Participation interest 252,416 465,023 2,400,673 1,248,218 Interest income - MBS 723,304 743,120 2,594,608 2,342,258 Other interest income 202,494 106,415 778,994 335,207 Total revenues 2,880,862 4,107,237 11,591,854 12,653,116 Expenses: Asset management fee to an affiliate 239,030 340,155 779,026 1,047,368 Expense reimbursements to affiliates 24,426 42,576 33,022 119,693 Amortization of prepaid expenses and fees 286,770 464,218 1,575,446 1,455,134 General and administrative 54,586 30,278 189,767 186,184 Total expenses 604,812 877,227 2,577,261 2,808,379 Net income $2,276,050 $3,230,010 $9,014,593 $ 9,844,737 Allocation of net income (Note 4): Limited Partners $2,207,768 $3,133,109 $8,744,155 $ 9,549,394 Average net income per Limited Partner interest (14,655,512 Limited Partner interests outstanding) $ .15 $ .21 $ .60 $ .65 General Partners $ 68,282 $ 96,901 $ 270,438 $ 295,343 The accompanying notes are an integral part of the financial statements. KRUPP INSURED PLUS-II LIMITED PARTNERSHIP STATEMENTS OF CASH FLOWS For the Nine Months Ended September 30, 1998 1997 Operating activities: Net income $ 9,014,593 $ 9,844,737 Adjustments to reconcile net income to net cash provided by operating activities: Shared appreciation interest and prepayment premiums (1,471,582) (334,250) Amortization of prepaid expenses and fees 1,575,446 1,455,134 Changes in assets and liabilities: Increase (decrease) in interest receivable And other assets 320,335 334,447 Increase (decrease) in liabilities 776 (777) Net cash provided by operating activities 9,439,568 11,299,291 Investing activities: Principal collections on PIMs including shared appreciation income and prepayment premiums of $1,335,952 in 1998 and $334,250 in 1997 33,938,442 11,207,017 Principal collections on MBS including prepayment premiums of $135,630 in 1998 6,552,104 3,699,264 Net cash provided by investing activities 40,490,546 14,906,281 Financing activities Special distributions (37,664,665) (10,405,413) Quarterly distributions (12,625,815) (12,641,944) Net cash used for financing activities (50,290,480) 23,047,357) Net (decrease) increase in cash and cash equivalents (360,366) 3,158,215 Cash and cash equivalents, beginning of period 9,052,480 7,921,270 Cash and cash equivalents, end of period $ 8,692,114 $11,079,485 Supplemental disclosure of non-cash investing activities: Reclassification of investment in PIM to an MBS $ - $11,850,469 The accompanying notes are an integral part of the financial statements. KRUPP INSURED PLUS-II LIMITED PARTNERSHIP NOTES TO FINANCIAL STATEMENTS 1. Accounting Policies Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted in this report on Form 10-Q pursuant to the Rules and Regulations of the Securities and Exchange Commission. However, in the opinion of the general partners, Krupp Plus Corporation and Mortgage Services Partners Limited Partnership, (collectively the "General Partners") of Krupp Insured Plus-II Limited Partnership (the "Partnership"), the disclosures contained in this report are adequate to make the information presented not misleading. See Notes to Financial Statements included in the Partnership's Form 10-K for the year ended December 31, 1997 for additional information relevant to significant accounting policies followed by the Partnership. In the opinion of the General Partners of the Partnership, the accompanying unaudited financial statements reflect all adjustments (consisting of only normal recurring accruals) necessary to present fairly the Partnership's financial position as of September 30, 1998, its results of operations for the three and nine months ended September 30, 1998 and 1997 and its cash flows for the nine months ended September 30, 1998 and 1997. The results of operations for the three and nine months ended September 30, 1998 are not necessarily indicative of the results which may be expected for the full year. See Management's Discussion and Analysis of Financial Condition and Results of Operations included in this report. 2. PIMs During the second quarter of 1998, the Partnership received prepayments of the Harbor House and Longwood Villas Apartments PIMs. The Partnership received the outstanding principal balance of $12,146,408 and shared appreciation income of $750,000 from the Harbor House PIM and the outstanding principal balance of $6,261,587 from the Longwood Villas PIM. During the first quarter of 1998, the Partnership received a prepayment penalty of $62,616 from the Longwood Villas PIM. The Partnership made a special distribution of $.43 per Limited Partner interest relating to the Longwood Villas Apartments PIM on July 17, 1998 and a special distribution of $.88 per Limited Partner interest for the Harbor House Apartment PIM prepayment was made on July 24, 1998. During the first quarter of 1998, the Partnership received prepayments of the Westbrook Manor, Fallwood and Greenbrier Apartment PIMs in the amounts of $4,841,446, $6,505,922, and $2,196,031, respectively. In addition to the prepayments, the Partnership received $416,810 of Shared Appreciation Interest and $632,002 of Minimum Additional Interest and Shared Income Interest. On March 27, 1998, the Partnership made a special distribution to the investors of $.94 per Limited Partner interest. On October 19, 1998, the Partnership received a prepayment on the Walden Village Apartment's PIM of approximately $6,990,000. On September 30, 1998, Shared Appreciation interest of $106,526 was received by the Partnership. At September 30, 1998, the Partnership's PIM portfolio has a fair value of $89,952,644 and gross unrealized gains of $507,081. The Partnership's PIMs have maturities ranging from 2009 to 2031. At September 30, 1998 there are no insured mortgage loans within the Partnership's portfolio that are delinquent with respect to principal or interest payments. continued KRUPP INSURED PLUS-II LIMITED PARTNERSHIP NOTES TO FINANCIAL STATEMENTS 3. MBS On June 19, 1998, the Partnership received a prepayment of the Brookside insured mortgage in the amount of $4,605,549, representing the outstanding principal balance, and a prepayment penalty of $18,300. The Partnership made a special distribution of $.32 per limited partner interest on July 24, 1998. On October 15, 1998, the Partnership received a repayment on the Lily Flagg MBS of approximately $11,722,000. A prepayment penalty of $117,330 was received on September 17, 1998. At September 30, 1998, the Partnership's MBS portfolio has an amortized cost of $36,541,999 and gross unrealized gains of $1,714,875. The Partnership's MBS have maturities ranging from 2007 to 2033. In June 1997, Statement of Financial Accounting Standards No. 130, 'Reporting Comprehensive Income' (FASB 130), was issued establishing standards for reporting and displaying comprehensive income and its components effective January 1, 1998. FASB 130 requires comprehensive income and its components, as recognized under accounting standards, to be displayed in a financial statement with the same prominence as other financial statements, if material. FASB 130 had no material effect on the Partnership's financial position or results of operations. 4. Changes in Partners' Equity A summary of changes in Partners' Equity for the nine months ended September 30, 1998 is as follows: Total Limited General Unrealized Partners= Partners Partners Gain (Loss) Equity Balance at December 31, 1997 $178,597,484 $(265,315) $ 1,769,220 $180,101,389 Net income 8,744,155 270,438 - 9,014,593 Quarterly distributions (12,310,629) (315,186) - (12,625,815) Special distributions (37,664,665) - - (37,664,665) Change in unrealized gain On MBS - - (54,345) (54,345) Balance at September 30,1998 $137,366,345 $(310,063) $1,714,875 $138,771,157 Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Management's Discussion and Analysis of Financial Condition and Results of Operations contains forward-looking statements including those concerning Management's expectations regarding the future financial performance and future events. These forward-looking statements involve significant risk and uncertainties, including those described herein. Actual results may differ materially from those anticipated by such forward-looking statements. The General Partners of the Partnership have conducted an assessment of the Partnership's core internal and external computer information systems and have taken the further necessary steps to understand the nature and extent of the work required to make its systems Year 2000 ready in those situations in which it is required to do so. The Year 2000 readiness issue concerns the inability of computerized information systems to accurately calculate, store or use a date after 1999. This could result in a system failure or miscalculations causing disruptions of operations. The Year 2000 issue affects virtually all companies and all organizations. In this regard, the General Partners of the Partnership, along with certain affiliates, began a computer systems project in 1997 to significantly upgrade its existing hardware and software. The General Partners completed the testing and conversion of the financial accounting operating systems in February 1998. As a result, the General Partners have generated operating efficiencies and believe their financial accounting operating systems are Year 2000 ready. The Partnership incurred hardware costs as well as consulting and other expenses related to the infrastructure and facilities enhancements necessary to complete the upgrade and prepare for the Year 2000. There are no other systems or software that the Partnership is using at the present time. The General Partners of the Partnership are in the process of evaluating the potential adverse impact that could result from the failure of material third- party service providers (including but not limited to its banks and telecommunications providers) and significant vendors to be Year 2000 ready. No estimate can be made at this time as to the impact of the readiness of such third parties. Liquidity and Capital Resources The most significant demands on the Partnership's liquidity are regular quarterly distributions paid to investors of approximately $4.2 million. Funds used for investor distributions are generated from interest income received on the PIMs, MBS, cash and short-term investments, and the principal collections received on the PIMs and MBS. The Partnership funds a portion of the distribution from principal collections causing the capital resources of the Partnership to continually decrease. As a result of this decrease, the total cash inflows to the Partnership will also decrease, which will result in periodic downward adjustments to the distributions paid to investors. As a result of the five PIM prepayments (Fallwood, Greenbrier, Westbrook Manor, Harbor House and Longwood Villas) and Brookside insured mortgage, the Partnership made special distributions totalling $2.57 per unit from the payoff proceeds. In addition, the Partnership will be making an additional special distribution of approximately $1.29 per unit from the payoff proceeds of the Lily Flagg MBS and Walden Village Apartment PIM. Consequently, the Partnership's capital resources and its future cash flows will be lower. However, at this time the General Partners have determined that the Partnership can maintain its current dividend rate of $1.12 per unit per year for the near future. The General Partners periodically review the distribution rate to determine whether an adjustment is necessary based on projected future cash flows. In general, the General Partners try to set a distribution rate that provides for level quarterly distributions of cash available for distribution. To the extent quarterly distributions differ from cash available for distribution, the General Partners may adjust the distribution rate or distribute funds through a special distribution. In the event of additional PIM prepayments the Partnership would be required to distribute any proceeds from the prepayments as a special distribution which may cause an adjustment to the distribution rate to reflect the anticipated future cash inflows from the remaining mortgage investments. During the second quarter of 1998, the Partnership was notified of potential payoffs on the Le Couer du Monde, Carlyle Court, Hillside Court and Waterford Court Apartments PIMs. If any of these transactions take place, the Partnership would receive unpaid participation interest earned on prior years operations and either its share of any increase in the properties' value or a prepayment penalty. Any repayment proceeds, Shared Appreciation Income and prepayment penalties would be distributed to the Limited Partners through a special distribution. The Partnership has the option to call certain PIMs by accelerating their maturity if the loans are not prepaid by the tenth year after permanent funding. The Partnership will determine the merits of exercising the call option for each PIM as economic conditions warrant. Such factors as the condition of the asset, local market conditions, interest rates and available financing will have an impact on this decision. Assessment of Credit Risk The Partnership's investments in mortgages are guaranteed or insured by the Government National Mortgage Association (AGNMA@), Fannie Mae, the Federal Home Loan Mortgage Corporation (AFHLMC@) or the United States Department of Housing and Urban Development (AHUD@) and therefore the certainty of their cash flows and the risk of material loss of the amounts invested depends on the creditworthiness of these entities. Fannie Mae is a federally chartered private corporation that guarantees obligations originated under its programs. FHLMC is a federally chartered corporation that guarantees obligations originated under its programs and is wholly-owned by the twelve Federal Home Loan Banks. These obligations are not guaranteed by the U.S. Government or the Federal Home Loan Bank Board. GNMA guarantees the timely payment of principal and basic interest on the securities it issues, which represents interest in pooled mortgages insured by HUD. Obligations insured by HUD, an agency of the U.S. Government, are backed by the full faith and credit of the U.S. Government. Operations The following discussion relates to the operation of the Partnership during the three and nine months ended September 30, 1998 and 1997. Net income decreased for the three months ended September 30, 1998 as compared to the same period in 1997. This decrease was due primarily to lower base interest on PIMs and participation interest. This was partially offset by an increase in interest income on cash and cash equivalents and a decrease in asset management fees and amortization expense. The significant decrease in base interest on PIMs was caused by the prepayments of the Westbrook, Fallwood, Greenhouse, Harbor House and Longwood Villas PIMs during the first six months of 1998 and Colonial Park and Pine Ridge PIMs during the fourth quarter of 1997. The decrease in participation interest is due to the Partnership receiving a lower amount of Shared Interest Income for the three months ended September 30, 1998 as compared to the same period in 1997. Interest income on cash and cash equivalents increased due to the Partnership having higher average short-term investment balances during the three months ended September 30, 1998 as compared to the same period in 1997. The decrease in asset management fees was a result of the PIM prepayments mentioned above that reduced the asset base. The decrease in amortization expense was a result of the Partnership fully amortizing the costs associated with the PIM's that were prepaid in the third quarter of 1997. Net income decreased for the nine months ended September 30, 1998 as compared to the same period in 1997. This decrease was due primarily to significantly lower base interest on PIMs and an increase in amortization expense. This was partially offset by increases in participation interest, interest income on MBS, interest income on cash and cash equivalents and decreases in asset management fees and expense reimbursements. The significant decrease in base interest on PIMs was caused by the prepayments of the Westbrook Manor, Fallwood, Greenhouse, Harbor House and Longwood Villas PIMs during the first six months of 1998 and Lakeside, Colonial Park and Pine Ridge PIMs during 1997. In addition, base interest on PIMs decreased and interest on MBS increased due to the conversion of the Lily Flagg PIM to a multi-family insured mortgage during the fourth quarter of 1997. The Partnership realized a significant increase in participation income due primarily to Shared Appreciation Income realized from the 1998 PIM prepayments of the Harbor House, Westbrook Manor, Fallwood and Greenbrier Apartment PIMs, as compared to the 1997 Lakeside PIM prepayment. The Partnership realized additional participation income from the Stanford, Carlyle, Waterford and Walden Village Apartment PIMs and the Brookside and Lily Flagg MBS' which exceeded the amount of participation income realized during the same period of 1997. Interest income on cash and cash equivalents increased due to the Partnership having higher average short-term investment balances as a result of the prepayments mentioned above during the nine months ended September 30, 1998 as compared to the same period in 1997. The decrease in asset management fees was a result of the 1998 PIM prepayments mentioned above that reduced the asset base. The Partnership received a rebate for expense reimbursements related to 1997 during the second quarter of 1998, helping to offset the decrease in net income for the nine months ended September 30, 1998. The increase in amortization expense is because the Partnership fully amortized the remaining balances of prepaid fees and expenses associated with the Fallwood, Westbrook Manor, Greenbrier, Harbor House, Longwood Villa's Apartment PIMs Brookside MBS prepayments during 1998. Interest income on PIMs and MBS will continue to decline as principal collections reduce the outstanding balance of the portfolios. The Partnership funds a portion of distributions with MBS and PIM principal collections, which reduces the invested assets generating income for the Partnership. As the invested assets decline so will interest income on MBS, base interest income on PIMs and other interest income. KRUPP INSURED PLUS-II LIMITED PARTNERSHIP PART II - OTHER INFORMATION Item 1. Legal Proceedings Response: None Item 2. Changes in Securities Response: None Item 3. Defaults upon Senior Securities Response: None Item 4. Submission of Matters to a Vote Security Holders Response: None Item 5. Other information Response: None Item 6. Exhibits and Reports on Form 8-K Response: None SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Krupp Insured Plus-II Limited Partnership (Registrant) BY: /s/Robert A. Barrows Robert A. Barrows Treasurer and Chief Accounting Officer of Krupp Plus Corporation, a General Partner. Date: October 28, 1998