1
=================================================================
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
[ x ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1999
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 1-12486
Associated Estates Realty Corporation
(Exact name of registrant as specified in its charter)
Ohio 34-1747603
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification
Number)
5025 Swetland Court, Richmond Hts., Ohio 44143-1467
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (216) 261-5000
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 [ ]
Number of shares outstanding as of August 12, 1999:
21,540,375 shares
==========================================================================
2
ASSOCIATED ESTATES REALTY CORPORATION
INDEX
PART I - FINANCIAL INFORMATION Page
----
ITEM 1 Condensed Financial Statements
Consolidated Balance Sheets as of
June 30, 1999 and December 31, 1998 3
Consolidated Statements of Income for the three and
six month periods ended June 30, 1999 and 1998 4
Consolidated Statements of Cash Flows for the six
month periods ended June 30, 1999 and 1998 5
Notes to Financial Statements 6
ITEM 2 Management's Discussion and Analysis of Financial
Condition and Results of Operations 21
PART II - OTHER INFORMATION
ITEM 4 Submission of Matters to a Vote of Security-Holders 42
ITEM 6 Exhibits and Reports on Form 8-K 43
SIGNATURES 46
3
ASSOCIATED ESTATES REALTY CORPORATION
CONSOLIDATED BALANCE SHEETS
June 30, December 31,
1999 1998
ASSETS (Unaudited)
------------- ------------
Real estate assets:
Land $ 91,380,383 $ 92,675,356
Buildings and improvements 782,516,008 778,450,807
Furniture and fixtures 32,553,819 30,804,870
----------- -----------
906,450,210 901,931,033
Less: accumulated depreciation (166,627,445) (153,941,702)
----------- -----------
739,822,765 747,989,331
Construction in progress 51,290,146 53,740,292
----------- -----------
Real estate, net 791,112,911 801,729,623
Property held for sale, net 15,837,111 -
Cash and cash equivalents 25,575,954 1,034,655
Restricted cash 22,629,401 6,718,863
Accounts and notes receivable
Rents 3,345,010 2,801,835
Affiliates and joint ventures 9,006,902 13,113,400
Other 2,630,631 2,293,007
Intangible and other assets, net 16,275,332 13,093,972
------------ ------------
$886,413,252 $840,785,355
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Secured debt $369,227,076 $ 80,042,667
Unsecured debt 197,447,703 423,862,468
----------- -----------
Total indebtedness 566,674,779 503,905,135
Accounts payable and accrued expenses 23,367,410 21,525,517
Dividends payable 8,073,422 10,507,586
Resident security deposits 5,802,961 5,960,971
Funds held on behalf of managed properties
Affiliates and joint ventures 2,938,578 5,353,394
Other 2,277,030 4,128,298
Accrued interest 5,554,491 5,501,634
Accumulated losses and distributions of joint ventures
in excess of investment and advances 12,409,549 12,679,793
----------- -----------
Total liabilities 627,098,220 569,562,328
Operating partnership minority interest 11,988,535 12,034,880
Commitments and contingencies - -
Shareholders' equity
Preferred shares, Class A cumulative, without par value;
3,000,000 authorized; 225,000 issued and outstanding 56,250,000 56,250,000
Common shares, without par value, $.10 stated value;
50,000,000 authorized; 22,641,726 and 22,621,958 issued
and outstanding at June 30, 1999 and December 31, 1998,
respectively 2,264,172 2,262,195
Paid-in capital 277,134,892 277,134,988
Accumulated dividends in excess of net income (77,740,200) (75,991,638)
Accumulated other comprehensive income (875) (875)
Less: Treasury shares, at cost, 922,600 and 25,000 shares
at June 30, 1999 and December 31, 1998, respectively (10,581,492) (466,523)
----------- -----------
Total shareholders' equity 247,326,497 259,188,147
------------ -----------
$886,413,252 $840,785,355
============ ============
The accompanying notes are an integral part
of these financial statements
4
ASSOCIATED ESTATES REALTY CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
For the three months ended For the six months ended
June 30, June 30,
1999 1998 1999 1998
----------- -------------- ----------- -----------
Revenues
Rental $36,100,421 $ 30,886,103 $71,491,076 $59,990,715
Property management fees 1,329,357 881,208 2,625,095 1,830,046
Asset management fees 588,292 - 1,174,127 -
Asset acquisition fees 121,680 - 121,680 -
Asset disposition fees 5,042 - 5,042 -
Painting services 449,062 372,429 736,105 720,984
Other 720,136 706,497 1,226,916 1,013,295
---------- ---------- ---------- ----------
39,313,990 32,846,237 77,380,041 63,555,040
Expenses and charges
Property operating and maintenance 16,457,654 12,918,625 31,965,731 25,218,738
Depreciation and amortization 8,328,860 5,707,884 16,604,908 11,022,479
Painting services 407,874 394,002 715,275 731,941
General and administrative 4,767,213 1,799,001 8,562,232 3,634,966
Charge for funds advanced to non-owned property 150,000 - 150,000 -
Interest expense 9,105,415 7,112,892 17,356,147 13,544,559
---------- ---------- ---------- ----------
Total expenses and charges 39,217,016 27,932,404 75,354,293 54,152,683
Income before gain on sale of properties, equity
in net income of joint ventures, minority
interest, extraordinary item and cumulative
effect of a change in accounting principle 96,974 4,913,833 2,025,748 9,402,357
Gain on sale of properties 12,830,328 - 12,830,328 -
Equity in net income of joint ventures 264,106 170,665 237,370 206,887
Minority interest in operating partnership 32,362 - 64,521 -
---------- --------- --------- --------
Income before extraordinary item and cumulative
effect of a change in accounting principle 13,159,046 5,084,498 15,028,925 9,609,244
Extraordinary item-extinguishment of debt (1,808,742) (124,895) (1,808,742) (124,895)
Cumulative effect of a change in accounting
principle - - 4,319,162 -
----------- ------------ ----------- -----------
Net income $11,350,304 $ 4,959,603 $17,539,345 $ 9,484,349
=========== ============ =========== ===========
Net income applicable to common shares $ 9,979,199 $ 3,588,498 $14,797,135 $ 6,742,139
=========== ============ =========== ===========
Earnings per common share - basic:
Income before extraordinary item and cumulative
effect of a change in accounting principle $ .53 $ .22 $ .54 $ .40
=========== ============ =========== ===========
Extraordinary item $ (.08) $ (.01) $ (.08) $ (.01)
=========== ============ =========== ===========
Cumulative effect of a change in accounting
principle $ - $ - $ .19 $ -
=========== ============ =========== ===========
Net income $ .45 $ .21 $ .65 $ .39
=========== ============ =========== ===========
Earnings per common share - diluted:
Income before extraordinary item and cumulative
effect of a change in accounting principle $ .53 $ .22 $ .54 $ .40
=========== ============ =========== ===========
Extraordinary item $ (.08) $ (.01) $ (.08) $ (.01)
=========== ============ =========== ===========
Cumulative effect of a change in accounting
principle $ - $ - $ .19 $ -
=========== ============ =========== ===========
Net income $ .45 $ .21 $ .65 $ .39
=========== ============ =========== ===========
Pro forma amounts assuming the new
capitalization policy is applied retroactively:
Net income $11,350,304 $ 5,148,603 $13,220,183 $ 9,807,651
=========== ============ =========== ===========
Net income applicable to common shares $ 9,979,199 $ 3,777,498 $10,477,973 $ 7,065,441
=========== ============ =========== ===========
Earnings per common share - basic:
Net income applicable to common shares $ .45 $ .22 $ .47 $ .41
=========== ============ =========== ===========
Earnings per common share - diluted:
Net income applicable to common shares $ .45 $ .22 $ .47 $ .41
=========== ============ =========== ===========
Dividends paid per common share $ .375 $ .465 $ .75 $ .93
=========== ============ =========== ===========
Weighted average number of common
shares outstanding - Basic 22,359,480 17,133,185 22,516,237 17,102,729
=========== ============ =========== ===========
- Diluted 22,359,480 17,133,185 22,519,253 17,102,729
=========== ============ =========== ===========
The accompanying notes are an integral part
of these financial statements
5
ASSOCIATED ESTATES REALTY CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTH PERIOD ENDED JUNE 30,
(UNAUDITED)
1999 1998
------------- -------------
Cash flow from operating activities:
Net income $ 17,539,345 $ 9,484,349
Adjustments to reconcile net income to net cash provided by operating
activities:
Depreciation and amortization 16,604,908 11,022,479
Cumulative effect of a change in accounting principle (4,319,162) -
Minority interest in operating partnership 64,521 -
Loss on extinguishment of debt 1,808,742 124,895
Gain on sale of operating properties (12,830,328) -
Equity in net income of joint ventures (237,370) (206,886)
Earnings distributed from joint ventures 417,696 298,607
Net change in assets and liabilities
(net of effect of the MIGRA merger for
1998 amounts) - Accounts and notes receivable (880,799) (276,420)
- Accounts and notes receivable of affiliates and
joint ventures 4,106,498 2,452,693
- Accounts payable and accrued expenses 5,116,575 (4,372,186)
- Other operating assets and liabilities (319,281) (365,808)
- Restricted cash (2,553,261) 1,783,404
- Funds held for non-owned managed properties (1,851,268) 3,129,887
- Funds held for non-owned managed properties
of affiliates and joint ventures (2,414,816) 257,454
---------- ----------
Total adjustments 2,712,655 13,848,119
---------- ----------
Net cash flow provided by operations 20,252,000 23,332,468
Cash flow from investing activities:
Real estate acquired or developed (net of liabilities assumed) (20,575,616) (104,110,880)
Fixed asset additions (376,692) (739,418)
Net proceeds received from sale of operating properties 13,357,277 -
Net proceeds received from sale of operating properties held in escrow (13,357,277) -
Distributions from joint ventures 75,197 145,131
----------- ------------
Net cash flow used for investing activities (20,877,111) (104,705,167)
Cash flow from financing activities:
Principal payments on secured debt (725,591) (8,658,305)
Proceeds from secured debt 289,910,000 -
Proceeds from senior and medium-term notes - 20,000,000
Term loan borrowings - 45,000,000
Line of Credit borrowings 310,200,000 313,000,000
Line of Credit repayments (536,646,565) (268,000,000)
Deferred financing costs (5,734,394) (1,796,625)
Common share dividends paid (18,979,858) (15,878,833)
Preferred share dividends paid (2,742,213) (2,742,210)
Purchase of treasury shares (10,114,969) -
---------- ----------
Net cash flow provided by financing activities 25,166,410 80,924,027
---------- ----------
Increase (decrease) in cash and cash equivalents 24,541,299 (448,672)
Cash and cash equivalents, beginning of period 1,034,655 2,251,819
------------- ------------
Cash and cash equivalents, end of period $ 25,575,954 $ 1,803,147
============= ============
Supplemental disclosure of cash flow information:
Issuance of common shares in connection with the acquisition of MIG
REIT properties and the MIGRA merger $ - $105,782,635
Issuance of operating partnership units in connection with the
acquisition of the development property - 10,863,204
Assumption of liabilities in connection with the acquisition of - 15,013,771
properties
Assumption of mortgage debt in connection with the acquisition of
properties - 5,342,371
Dividends declared but not paid 8,073,422 10,513,686
Cash paid for interest (including capitalized interest) 18,258,876 13,659,390
The accompanying notes are an integral part
of these financial statements
6
ASSOCIATED ESTATES REALTY CORPORATION
NOTES TO FINANCIAL STATEMENTS
UNAUDITED
1. BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES
Business
Associated Estates Realty Corporation (the "Company") is a
self-administered and self-managed real estate investment trust
("REIT") which specializes in the acquisition, development,
ownership and management of multifamily properties. In
connection with the merger of MIG Realty Advisors, Inc. ( MIGRA )
on June 30, 1998, the Company also acquired the property and
advisory management businesses of several of MIGRA's affiliates
and the right to receive certain asset management fees, including
disposition and incentive fees, that would have otherwise been
received by MIGRA upon the sale of certain of the properties
owned by institutions advised by MIGRA. MIG II Realty Advisors,
Inc. ("MIG"), MIGRA's successor, is a registered investment
advisor and also functions as a mortgage banker and as a real
estate advisor to pension funds. MIG recognizes revenue
primarily from its clients' real estate acquisitions and
dispositions, loan origination and consultation, debt servicing,
asset and property management and construction lending
activities. MIG earns the majority of its debt servicing fee
revenue from two of its pension fund clients. MIG's asset
management, property management, investment advisory and mortgage
servicing operations, including those of the prior MIG
affiliates, are collectively referred to herein as the "MIGRA
Operations".
At June 30, 1999, the Company owned directly or indirectly,
or was a joint venture partner in 97 multifamily properties
containing 21,068 units. Of these properties, 71 were located in
Ohio, 11 in Michigan, two in Florida, two in Georgia, three in
Maryland, one in North Carolina, one in Texas, one in Arizona,
three in Indiana, one in California and one in Pennsylvania.
Additionally, the Company managed 54 non-owned properties, 48 of
which were multifamily properties consisting of 11,555 units (17
of which are owned by various institutional investors consisting
of 5,991 units) and six of which were commercial properties
containing an aggregate of approximately 621,000 square feet of
gross leasable area. Through affiliates, collectively referred
to as the "Service Companies", the Company provides property and
asset management, investment advisory, painting and computer
services as well as mortgage origination and servicing to both
owned and non-owned properties.
Principles of Consolidation
The accompanying consolidated financial statements include
the accounts of the Company, all subsidiaries, the Service
Companies and the operating partnership. In connection with the
project specific, nonrecourse mortgage refinancing as described
in Note 5, separate legal entities, which are qualified REIT
subsidiaries of the Company, were formed which are included in
the Company's consolidated financial statements. These qualified
REIT subsidiaries are separate legal entities and maintain
separate records, books of account and bank accounts separate and
apart from any other person or entity. The Company holds
preferred share interests in the Service Companies, which
entitles it to receive 95% of the economic benefits from
operations and which is convertible into a majority interest in
the voting common shares. The outstanding voting common shares
of these Service Companies are held by an executive officer of
the Company. The Service Companies are consolidated because,
from a financial reporting perspective, the Company is entitled
to virtually all economic benefits and has operating control.
The preferred share interests are not an impermissible investment
for purposes of the Company's REIT qualification test.
The Company entered into an operating partnership structured
as a DownREIT of which an aggregate 20% is owned by limited
partners. Interests held by limited partners in real estate
partnerships controlled by the Company are reflected as
"Operating partnership minority interest" in the Consolidated
Balance Sheets. Capital contributions, distributions and profits
and losses are allocated to minority interests in accordance with
the terms of the operating partnership agreement. In conjunction
with the acquisition of the operating partnership, the Company
issued a total of 522,032 operating partnership units ("OP
units") which consist of 84,630 Class A OP units, 36,530 Class B
7
OP units, 115,124 Class C OP units, 62,313 Class D OP units, and
223,435 Class E OP units. These OP units may, under certain
circumstances, become exchangeable into common shares of the
Company on a one-for-one basis. The Class A unitholders are
entitled to receive distributions per OP unit equal to the per
share distributions on the Company's common shares. At June 30,
1999, the Company charged $64,521 to minority interest in
operating partnership in the Consolidated Statements of Income
relating to the Class A unitholders allocated share of net
income. At June 30, 1999, the Class B, Class C, Class D and
Class E unitholders were not entitled to receive an allocation of
net income and did not receive any cash distributions from the
operating partnership.
One property included in the financial statements is 33-1/3%
owned by third party investors. As this property has an
accumulated deficit, no recognition of the third party interest
is reflected in the financial statements since it is the
Company's policy to recognize minority interest only to the
extent that the third party's investment and accumulated share of
income exceeds distributions and its share of accumulated losses.
Investments in joint ventures, that are 50% or less owned by the
Company, are presented using the equity method of accounting.
Since the Company intends to fulfill its obligations as a partner
in the joint ventures, the Company has recognized its share of
losses and distributions in excess of its investment.
All significant intercompany balances and transactions have
been eliminated in consolidation.
Basis of Presentation
The accompanying unaudited financial statements have been
prepared by the Company's management in accordance with generally
accepted accounting principles for interim financial information
and applicable rules and regulations of the Securities and
Exchange Commission. Accordingly, they do not include all of the
information and footnotes required by generally accepted
accounting principles for complete financial statements. In the
opinion of management, all adjustments (consisting only of
normally recurring adjustments) considered necessary for a fair
presentation have been included. The reported results of
operations are not necessarily indicative of the results that may
be expected for the full year. The results of operations for the
six month period ended June 30, 1999 include the cumulative
effect of a change in accounting principle related to the Company
changing its capitalization policy on certain replacements and
improvements (See Note 12). These financial statements should be
read in conjunction with the Company's audited financial
statements and notes thereto included in the Associated Estates
Realty Corporation Annual Report on Form 10-K for the year ended
December 31, 1998.
Change in Estimates
During the first quarter, the Company refined certain cutoff
procedures and its estimation process for the accumulation of
property operating expense accrual adjustments. This refinement
was facilitated, in part, by the migration to the
decentralization of certain functions to the properties and also
by the upgrading of the Company's information systems. This
refinement had the one time effect of reducing net income by
approximately $632,000 for the six month period ended June 30,
1999. In addition, in connection with the Company's adoption of
the change in its policy for capitalizing certain replacements
(Note 12), the Company reassessed its remaining useful lives of
certain appliances and floor covering it had capitalized upon the
acquisition of a property. This change in useful lives together
with the reduction in the estimated useful lives of certain
software from 10 to 7 years had the effect of reducing income by
approximately $545,600 for the six month period ended June 30,
1999. Also, the Company had determined in December 1998 that it
would replace certain of its software during 1999. Commencing
January 1, 1999, the Company began amortizing the remaining net
book value over its revised estimated useful life of one year.
This change had the effect of reducing net income by
approximately $474,000 for the six month period ended June 30,
1999.
Use of Estimates
The preparation of financial statements in accordance with
generally accepted accounting principles requires management to
make estimates and assumptions that affect the reported amounts
of assets and liabilities, disclosure of contingent assets and
8
liabilities at the date of the financial statements and reported
amounts of revenues and expenses during the reporting periods.
Actual results could differ from these estimates.
Reclassifications
Certain reclassifications have been made to the 1998
financial statements to conform to the 1999 presentation.
Recent Accounting Pronouncements
Effective December 31, 1998, the Company implemented
Statement of Financial Accounting Standards ( SFAS ) No. 130 -
Reporting Comprehensive Income. At June 30, 1999, the Company
had no items of other comprehensive income requiring additional
disclosure. Effective December 31, 1998, the Company implemented
SFAS No. 131 - Disclosures about Segments of an Enterprise and
Related Information. All periods have been presented on the same
basis.
In June 1998, the FASB issued SFAS No. 133, Accounting for
Derivative Instruments and Hedging Activities. The provisions of
this statement require that derivative instruments be carried at
fair value on the balance sheet. The statement continues to
allow derivative instruments to be used to hedge various risks
and sets forth specific criteria to be used to determine when
hedge accounting can be used. The statement also provides for
offsetting changes in fair value or cash flows of both the
derivative and the hedged asset or liability to be recognized in
earnings in the same period; however, any changes in fair value
or cash flow that represent the ineffective portion of a hedge
are required to be recognized in earnings and cannot be deferred.
For derivative instruments not accounted for as hedges, changes
in fair value are required to be recognized in earnings. The
provisions of this statement become effective for quarterly and
annual reporting beginning June 15, 2000. Although the statement
allows for early adoption in any quarterly period after June
1998, the Company has no plans to adopt the provisions of SFAS
No. 133 prior to the effective date. The impact of adopting the
provisions of this statement on the Company's financial position,
results of operations and cash flow subsequent to the effective
date is not currently estimable and will depend on the financial
position of the Company and the nature and purpose of the
derivative instruments in use by management at that time.
Effective January 1, 1999, the Company adopted Statement of
Position No. 98-5 - Reporting on the Cost of Start-Up Activities.
At June 30, 1999, there was no material impact of adoption on the
provisions of this statement on the Company's financial position,
results of operations or cash flow.
2. DEVELOPMENT AND DISPOSITION ACTIVITY
Development Activity
Construction in progress, including the cost of land, for
the development of multifamily properties was $51,290,146 and
$53,740,292 at June 30, 1999 and December 31, 1998, respectively.
The Company capitalizes interest costs on funds used in
construction, real estate taxes and insurance from the
commencement of development activity through the time the
property is available for leasing. Capitalized interest, real
estate taxes and insurance aggregated approximately $2,106,885
and $747,930 during the six month periods ended June 30, 1999 and
1998, respectively. For the six month period ended June 30,
1999, the construction and leasing of 204 units at two properties
were completed at a total cost of $16.0 million. The following
schedule details construction in progress at June 30, 1999:
9
Placed in
(dollars in thousands) Number Costs Service June 30, 1999 Estimated
of Incurred through Land Building Scheduled
Property Units to Date 6/30/99 Cost Cost Completion
------------------------------ ----- -------- --------- ------- -------- ----------
ANN ARBOR, MICHIGAN
Arbor Landings Apartments II 160 $10,855 $10,198 $ 32 $ 625 1999
ATLANTA, GEORGIA
Boggs Road 535 4,185 - 3,955 230 TBD
BATTLE CREEK, MICHIGAN
The Landings at the Preserve 90 326 - 266 60 TBD
ORLANDO, FLORIDA
Windsor at Kirkman Apts. 460 44,416 11,117 2,438 30,861 1999
AVON, OHIO
Village at Avon 312 9,646 - 2,158 7,488 2000
Other - 3,178 - 1,251 1,927
----- ------- ------- ------- ---------
1,557 $72,606 $21,315(1) $10,100 $ 41,191
===== ======= ======= ======= =========
(1) Including land of $1,396.
Disposition Activity
In June 1999, the Company sold five operating properties for
net cash proceeds of $13.4 million, resulting in a gain of $12.8
million. The net cash proceeds were placed in a trust which
restricts the Company's use of these funds for the exclusive
purchase of other property of like-kind and qualifying use.
These funds are presented in the Consolidated Balance Sheet as
restricted cash. The like-kind exchange must occur prior to
December 3, 1999.
3. PROPERTY HELD FOR SALE
The Company has entered into a contract to sell one of its
Market-rate properties. This property is located in California.
The Company anticipates that this asset will be sold during 1999.
The net real estate assets of this property is presented in the
Consolidated Balance Sheet as property held for sale.
4. SHAREHOLDERS' EQUITY
The following table summarizes the changes in shareholders'
equity since December 31, 1998:
Class A Common
Cumulative Shares
Preferred (at $.10 Paid-In
Shares stated value) Capital
------------ ------------- -------------
Balance, Dec. 31, 1998 $ 56,250,000 $ 2,262,195 $ 277,134,988
Net income - - -
Issuance of 21,000
restricted common shares - 2,100 (2,100)
Retired 1,232 restricted
common shares - (123) 123
Purchase of treasury shares
(897,600 shares) - - -
Deferred compensation - - 1,881
Common share
dividends declared - - -
Preferred share
dividends declared - - -
------------ ------------ -------------
Balance, June 30, 1999 $ 56,250,000 $ 2,264,172 $ 277,134,892
============ ============ =============
Accumulated Accumulated
Dividends Other Treasury
In Excess Of Comprehensive Shares
Net Income Income (at cost) Total
------------- -------------- ----------- -------------
Balance, Dec. 31, 1998 $ (75,991,638) $ (875) $ (466,523) $ 259,188,147
Net income 17,539,345 - - 17,539,345
Issuance of 21,000
restricted common shares - - - -
Retired 1,232 restricted
common shares - - - -
Purchase of treasury shares
(897,600 shares) - - (10,114,969) (10,114,969)
Deferred compensation - - - 1,881
Common share
dividends declared (16,545,694) - - (16,545,694)
Preferred share
dividends declared (2,742,213) - - (2,742,213)
-------------- ------------ ------------- -------------
Balance, June 30, 1999 $ (77,740,200) $ (875) $(10,581,492) $ 247,326,497
============== ============= ============= =============
10
5. SECURED DEBT
Conventional Mortgage Debt
Conventional mortgages payable are comprised of 30 and six
loans at June 30, 1999 and December 31, 1998, respectively, each
of which is collateralized by the respective real estate and
resident leases. These nonrecourse project specific loans accrue
interest at a fixed rate with the exception of one mortgage note
which accrues interest at a variable rate. Mortgages payable are
generally due in monthly installments of principal and/or
interest and mature at various dates through March 2024. The
balance of the conventional mortgages was $341.6 million and
$52.2 million at June 30, 1999 and December 31, 1998,
respectively.
As of June 30, 1999, the Company received gross proceeds of
$289.9 million from project specific, nonrecourse mortgage loans
collateralized by 24 properties owned by qualified REIT
subsidiaries, having a net book value of $350.9 million. These
qualified REIT subsidiaries are separate legal entities and
maintain records, books of accounts and bank accounts separate
and apart from any other person or entity. The proceeds from
these loans were used to pay down the Company s floating rate
unsecured line of credit facility and to increase the Company's
cash balances which will be used to fund construction in
progress, fund joint venture opportunities with pension fund
clients, and buy back limited quantities of the Company's stock
as authorized by the Board of Directors. Proceeds may also be
used to repurchase a portion of the Company's senior unsecured
debt. These mortgage loan documents require escrow deposits
for taxes and replacement of project assets. The weighted
average maturity of the loans is 9.86 years, and the weighted
average interest rate is 7.54%.
Federally Insured Mortgage Debt
Federally insured mortgage debt which encumbered seven of
the properties at June 30, 1999 and December 31, 1998 (including
one property which is funded through Industrial Development
Bonds), is insured by HUD pursuant to one of the mortgage
insurance programs administered under the National Housing Act of
1934. These government-insured loans are nonrecourse to the
Company. Payments of principal, interest and HUD mortgage
insurance premiums are made in equal monthly installments and
mature at various dates through March 1, 2024. The balance of
the federally insured mortgages was $27.6 million and $27.9
million at June 30, 1999 and December 31, 1998, respectively.
Six of the seven federally insured mortgages have a fixed rate
and the remaining mortgage ($1.8 million) has a variable rate.
Under certain of the mortgage agreements, the Company is
required to make escrow deposits for taxes, insurance and
replacement of project assets. The variable rate mortgage is
secured by a letter of credit which is renewed annually.
6. UNSECURED DEBT
Senior Notes
The Senior Notes were issued during 1995 in the principal
amounts of $75 million and $10 million and accrue interest at
8.38% and 7.10%, respectively, and mature in 2000 and 2002,
respectively. The balance of the $75 million Senior Note, net of
unamortized discounts, was $74.9 million at June 30, 1999 and
December 31, 1998.
Medium-Term Notes Program
The Company had 11 Medium-Term Notes (the "MTN's")
outstanding having an aggregate balance of $112.5 million at June
30, 1999 and December 31, 1998. The principal amounts of these
MTN's range from $2.5 million to $20 million and bear interest
from 6.18% to 7.93% over terms ranging from two to 30 years, with
11
a stated weighted average maturity of 8.77 years at June 30,
1999. The holders of two MTN's with stated terms of 30 years
each have a right to repayment in five and seven years from the
issue date of the respective MTN. If these holders exercised
their right to prepayment, the weighted average maturity of the
MTN's would be 4.41 years.
The Company's current MTN Program provides for the issuance,
from time to time, of up to $102.5 million of MTN's due nine
months or more from the date of issue and may be subject to
redemption at the option of the Company or repayment at the
option of the holder prior to the stated maturity date. These
MTN's may bear interest at fixed rates or at floating rates and
can be issued in minimum denominations of $1,000. At June 30,
1999, there was $62.5 million of additional MTN borrowings
available under the program. However, the Company may no longer
be in a position to access public unsecured debt markets due to
revised credit ratings.
From time to time, the Company may enter into hedge
agreements to minimize its exposure to interest rate risks.
There are no interest rate protection agreements outstanding as
of June 30, 1999.
Line of Credit
Prior to its termination in May 1999, the Company had
available a $250 million revolving credit facility (the "Line of
Credit") which contained various restrictive covenants. At
December 31, 1998, $226.0 million was outstanding under this
facility. The weighted average interest rate on borrowings
outstanding under the Line of Credit was 6.88% at December 31,
1998, representing a variable rate based on the prime rate or
LIBOR plus a specified spread, depending on the Company's long
term senior unsecured debt rating from Standard and Poor's and
Moody's Investors Service. An annual commitment fee of 15 basis
points on the maximum commitment, as defined in the agreement,
was payable annually in advance on each anniversary date. In May
1999, the Company repaid all outstanding obligations under this
Line of Credit through proceeds received from financing project
specific, nonrecourse mortgage loans (Note 5) and terminated the
facility. The Company recognized an extraordinary charge of
$1,808,742 which represents a $750,000 facility fee charge,
$126,559 breakage fee, and a $932,183 write off of deferred
finance costs related to the termination of the unsecured line of
credit facility.
MIGRA maintained a $500,000 Line of Credit facility ( MIGRA
Line of Credit Facility ) which the Company assumed at the time
of the merger. On February 10, 1999, the Company paid off the
$446,565 outstanding MIGRA Line of Credit Facility and terminated
this facility.
7. TRANSACTIONS WITH AFFILIATES AND JOINT VENTURES
Management and Other Services
The Company provides management and other services to (and
is reimbursed for certain expenses incurred on behalf of) certain
non-owned properties in which the Company's Chief Executive
Officer and/or other related parties have varying ownership
interests. The entities which own these properties, as well as
other related parties, are referred to as "affiliates". The
Company also provides similar services to joint venture
properties.
12
Summarized affiliate and joint venture transaction activity
follows:
Three months ended Six months ended
June 30, June 30,
-------------------- ------------------------
1999 1998 1999 1998
-------- -------- ---------- -----------
Property management fee and
other miscellaneous service
revenues - affiliates $605,868 $459,005 $ 1,101,000 $ 1,042,936
- joint ventures 228,191 236,609 451,557 463,554
Painting service revenues - affiliates 223,243 82,439 299,105 182,351
- joint ventures 36,883 119,065 64,625 212,966
Expenses incurred on behalf
of and reimbursed by(1) - affiliates 1,297,349 1,011,478 2,013,417 2,156,436
- joint ventures 364,348 640,937 1,383,329 1,282,578
Interest income - affiliates 2,502 210,701 77,370 378,685
Interest expense - affiliates (33,181) (83,751) (82,579) (213,130)
- joint ventures (6,883) (12,227) (12,627) (24,037)
<FN>
(1) Primarily payroll and employee benefits, reimbursed at cost.
</FN>
Property management fees and other miscellaneous receivables
due from affiliates and joint venture properties aggregated
$6,246,737 and $6,677,611 at June 30, 1999 and December 31, 1998,
respectively. There were no payables due to affiliates and joint
venture properties at June 30, 1999 and December 31, 1998.
Advances to Affiliates and Joint Ventures
In the normal course of business, the Company advances funds
on behalf of, or holds funds for the benefit of, affiliates and
joint ventures. Funds advanced to affiliates and joint ventures
aggregated $1,231,825 and $1,714,132 at June 30, 1999,
respectively, and $5,555,732 and $880,057 at December 31, 1998,
respectively. Except for insignificant amounts, advances to
affiliates bear interest; the weighted average rate charged was
8.3% during the periods ending June 30, 1999 and 1998. The
Company held funds for the benefit of affiliates and joint
ventures in the aggregate amount of $1,682,190 and $1,256,388 at
June 30, 1999, respectively, and $3,174,898 and $2,178,496 at
December 31, 1998, respectively.
During 1999, the Company provided an additional reserve of
$150,000 with respect to a receivable from a managed but non-
owned property. This reserve is reflected as a charge for funds
advanced to non-owned properties in the Consolidated Statements
of Income, but has been established primarily to cover the
potential legal costs related to collection.
In February 1998, certain affiliated entities which owed the
Company a substantial amount of the advances described above,
made capital calls to their partners for the purpose of effecting
repayment of such advances. Thereafter, approximately $4.0
million of advances were repaid pursuant to such capital calls.
However, a corporation (the "Corporation") owned by a member of
the Company's Board of Directors, and his siblings (including the
wife of the Company's Chairman and Chief Executive Officer) which
serves as general partner of certain affiliated entities, had
informed the Company that the Corporation has caused the
commencement of a review of approximately $2.9 million in
expenditures relating to certain HUD subsidized properties. The
Company believed that all expenditures were appropriate and that
the ultimate outcome of any disagreement would not have a
material adverse effect on the Company's financial position,
results of operations or cash flows.
On March 11, 1999, the Company, the Corporation, certain
shareholders of the Corporation and others entered into a
settlement agreement which resolved all disputes concerning the
aforementioned expenditures and other issues concerning the
management by the Company or one of its Service Companies of
various properties owned by entities in which the Corporation was
13
a general partner. Pursuant to that settlement agreement, the
Corporation and other affiliates funded all outstanding advances
made by the Company. At December 31, 1998, amounts outstanding
which were subsequently funded in the first quarter of 1999
pursuant to the settlement agreement were $4.7 million.
Notes Receivable
At June 30, 1999, two notes of equal amounts were receivable
from the Company's Chief Executive Officer aggregating $3,342,000
(included in "Accounts and notes receivables-affiliates and joint
ventures"). One of the notes is partially secured by 150,000 of
the Company's common shares; the other note is unsecured. For
the six months ended June 30, 1999, the interest rate charged on
this note was approximately 6.5%, with principal due May 1, 2002.
The Company recognized interest income of $109,106 for the period
ending June 30, 1999 relating to these notes.
8. RAINBOW TERRACE APARTMENTS
On February 9, 1998, HUD notified the Company that Rainbow
Terrace Apartments, Inc. ("RTA"), the Company's subsidiary
corporation that owns Rainbow Terrace Apartments, was in default
under the terms of the Regulatory Agreement and Housing
Assistance Payments Contract ("HAP Contract") pertaining to this
property. Among other matters, HUD alleged that the property was
poorly managed and that RTA had failed to complete certain
physical improvements to the property. Moreover, HUD claimed
that the owner was not in compliance with numerous technical
regulations concerning whether certain expenses were properly
chargeable to the property. As provided in the Regulatory
Agreement and HAP Contract, in the event of a default, HUD has
the right to exercise various remedies including terminating
future payments under the HAP Contract and foreclosing the
government-insured mortgage encumbering the property.
This controversy arose out of a Comprehensive Management
Review of the property initiated by HUD in the Spring of 1997,
which included a complete physical inspection of the property.
In a series of written responses to HUD, the Company stated its
belief that it had corrected the management deficiencies cited by
HUD in the Comprehensive Management Review (other than the
completion of certain physical improvements to the property) and
justified the expenditures questioned by HUD as being properly
chargeable to the property in accordance with HUD's regulations.
Moreover, the Company stated its belief that it had repaired any
physical deficiencies noted by HUD in its Comprehensive
Management Review that might pose a threat to the life and safety
of its residents.
In June 1998, HUD notified the Company that all future
Housing Assistance Payments ("HAP") for RTA were abated and
instructed the lender to accelerate the balance due under the
mortgage. Subsequent to the notification of the HAP abatements
and the acceleration of the mortgage, the lender advised the
Company that the acceleration notification had been rescinded
pursuant to HUD's instruction. HUD then notified the Company
that the HAP payments would be reinstated and that HUD was
reviewing further information concerning RTA provided by the
Company. The Company has received the monthly HAP payments for
RTA.
In June 1998, the Company filed a lawsuit against HUD
seeking to compel HUD to review certain budget based rent
increases submitted to HUD by the Company in 1995.
From June 1998 through March 1999, the Company was involved
in ongoing negotiations with HUD for the purpose of resolving
these and other disputes concerning other properties managed or
formerly managed by the Company or one of the Service Companies,
which were similarly the subject of Comprehensive Management
Reviews initiated by HUD in the Spring of 1997.
On March 12, 1999, the Company, Associated Estates
Management Company ("AEMC"), RTA, PVA Limited Partnership
("PVA"), the owner of Park Village Apartments, and HUD, entered
into a comprehensive settlement agreement (the "Settlement
Agreement") for the purpose of resolving certain disputes
14
concerning property operations at Rainbow Terrace Apartments,
Park Village Apartments ("Park Village"), Longwood Apartments
("Longwood") and Vanguard Apartments ("Vanguard"). Longwood was
managed by the Company until January 13, 1999. Park Village is
managed by the Company. Vanguard was managed by AEMC until
December 1997. All four properties are encumbered by HUD insured
mortgages, governed by HUD imposed regulatory agreements and
subsidized by Section 8 Housing Assistance Payments.
Under the terms of the Settlement Agreement, HUD has agreed
to pay RTA a retroactive rent increase totaling $1,784,467, which
represents the outstanding receivable recorded at June 30, 1999
and December 31, 1998. HUD has further agreed to release the
Company, AEMC, RTA and the owners and principals of PVA, Longwood
and Vanguard from all claims (other than tax or criminal fraud
claims) regarding the ownership or operation of Rainbow Terrace
Apartments, Park Village, Longwood and Vanguard. Moreover, HUD
has agreed not to issue a limited denial of participation,
debarment or suspension, program fraud civil remedy action or
civil money penalty, resulting from the ownership or management
of any of these projects, or to deny eligibility to any of their
owners, management agents or affiliates for participation in any
HUD program on such basis.
HUD's obligations under the Settlement Agreement are
conditioned upon the performance by the Company, RTA and PVA of
certain obligations, the most significant of which is the
obligation to identify, on or before April 11, 1999, prospective
purchasers for both Rainbow Terrace Apartments and Park Village
who are acceptable to HUD, and upon HUD's approval, convey those
projects to such purchasers. Alternatively, if RTA and PVA are
unable to identify prospective purchasers acceptable to HUD, then
RTA and PVA have agreed to convey both projects to HUD pursuant
to deeds in lieu of foreclosure. In either case (conveyance to a
HUD approved purchaser or deed in lieu of foreclosure), no
remuneration will be received by either RTA or PVA in return,
except for the $1,784,467 retroactive rent increase payable to
RTA mentioned above. At June 30, 1999 and December 31, 1998, the
Company had receivables of $1,784,467 related to the 1995 and
1998 retroactive rental increase requests. At June 30, 1999, RTA
had net assets of approximately $1,827,319, including the
retroactive rental receivable of $1,784,467 due from HUD, and a
remaining amount due under the mortgage of approximately
$1,935,123. The transfer of RTA to a purchaser which is
acceptable to HUD or the direct transfer of RTA to HUD is not
expected to have a material impact on the results of operations
or cash flows of the Company. The Company has excluded RTA's
results of operations from its Consolidated Statement of Income
for 1999. RTA and PVA requested HUD to extend the April 11, 1999
deadline for identification of potential purchasers. HUD granted
that request and the deadline was extended to May 31, 1999. The
Company believes that RTA and PVA have satisfied their obligation
to identify prospective purchasers for those properties.
9. PREFERRED AND COMMON SHARES
Common Shares
In June and July 1998, the Company issued 408,314 and
5,139,387 common shares relating to the Company's merger of MIGRA
and the related acquisition of eight multifamily properties,
respectively.
Treasury Shares
On June 21, 1999, the Company's Board of Directors amended
the Company's stock repurchase plan by authorizing an additional
2,000,000 common shares to be repurchased by the Company at
market prices. The timing of stock purchases are made at the
discretion of management. During 1999 and 1998, 897,600 and
25,000 shares were repurchased at an aggregate cost of
$10,114,969 and $466,523, respectively, which was funded
primarily from operating cash flows and financing proceeds.
Preferred Shares
At June 30, 1999, 2,250,000 Depositary Shares were
outstanding, each representing 1/10 of a share of the Company's
9.75% Class A Cumulative Redeemable Preferred Shares (the
"Perpetual Preferred Shares"). Dividends on the Perpetual
Preferred Shares are cumulative from the date of issue and are
payable quarterly. Except in certain circumstances relating to
the preservation of the Company's status as a REIT, the Perpetual
15
Preferred Shares are not redeemable prior to July 25, 2000. On
and after July 25, 2000, the Perpetual Preferred Shares will be
redeemable for cash at the option of the Company.
The Company is authorized to issue 3,000,000 Class B
Cumulative Preferred Shares, without par value, and 3,000,000
Noncumulative Preferred Shares, without par value. There are no
Noncumulative Preferred Shares issued or outstanding at June 30,
1999 or December 31, 1998.
Shareholder Rights Plan
During January 1999, the Company adopted a Shareholder
Rights Plan. To implement the Plan, the Board of Directors
declared a distribution of one Right for each of the Company's
outstanding common shares. Each Right entitles the holder to
purchase from the Company 1/1,000th of a Class B Series I
Cumulative Preferred Share (a "Preferred Share") at a purchase
price of $40 per Right, subject to adjustment. One one-
thousandth of a Preferred Share is intended to be approximately
the economic equivalent of one common share. The Rights will
expire on January 6, 2009, unless redeemed by the Company as
described below.
The Rights are not currently exercisable and trade with the
Company's common shares. The Rights will become exercisable if a
person or group becomes the beneficial owner of 15% or more of
the then outstanding common shares of the Company or announces an
offer to acquire 15% or more of the Company's then outstanding
common shares.
If a person or group acquires 15% or more of the Company's
outstanding common shares, then each Right not owned by the
acquiring person or its affiliates will entitle its holder to
purchase, at the Right's then-current exercise price, fractional
preferred shares that are approximately the economic equivalent
of common shares (or, in certain circumstances, common shares,
cash, property or other securities of the Company) having a
market value equal to twice the then-current exercise price. In
addition, if, after the Rights become exercisable, the Company is
acquired in a merger or other business combination transaction
with an acquiring person or its affiliates or sells 50% or more
of its assets or earnings power to an acquiring person or its
affiliates, each Right will entitle its holder to purchase, at
the Right's then-current exercise price, a number of the
acquiring Company's common shares having a market value of twice
the Right's exercise price. The Board of Directors may redeem
the Rights, in whole, but not in part, at a price of $.01 per
Right.
The distribution was made on January 29, 1999 to
shareholders of record on that date. The initial distribution of
Rights is not taxable to shareholders.
10. EARNINGS PER SHARE
Earnings per share ("EPS") has been computed pursuant to the
provisions of SFAS No. 128. The following table provides a
reconciliation of both income before cumulative effect of a
change in accounting principle and the number of common shares
used in the computation of basic EPS, which utilizes the weighted
average number of common shares outstanding without regard to
dilutive potential common shares, and diluted EPS, which includes
all such shares.
16
For the three months For the six months
ended June 30, ended June 30,
1999 1998 1999 1998
----------- ----------- ----------- ----------
Basic Earnings Per Share:
Income before extraordinary item and
cumulative effect of a change in accounting
principle $ 13,159,046 $ 5,084,498 $ 15,028,925 $ 9,609,244
Less: Preferred share dividends 1,371,105 1,371,105 2,742,210 2,742,210
------------ ----------- ------------ ----------
Income before extraordinary item and
cumulative effect of a change in accounting
principle applicable to common shares 11,787,941 3,713,393 12,286,715 6,867,034
Less: Extraordinary loss 1,808,742 124,895 1,808,742 124,895
Plus: Cumulative effect of a change in
accounting principle - - 4,319,162 -
------------ ----------- ------------ -----------
Income applicable to common shares $ 9,979,199 $ 3,588,498 $ 14,797,135 $ 6,742,139
============ =========== ============ ===========
Diluted Earnings Per Share:
Income before extraordinary item and
cumulative effect of a change in accounting
principle $ 13,159,046 $ 5,084,498 $ 15,028,925 $ 9,609,244
Less: Preferred share dividends 1,371,105 1,371,105 2,742,210 2,742,210
Amortization expense relating to
contingent merger consideration 36,911 - 73,822 -
----------- ----------- ----------- ----------
Income before extraordinary item and
cumulative effect of a change in accounting
principle applicable to common shares 11,751,030 3,713,393 12,212,893 6,867,034
Less: Extraordinary loss 1,808,742 124,895 1,808,742 124,895
Plus: Cumulative effect of a change
in accounting principle - - 4,319,162 -
------------ ------------ ------------ -----------
Income applicable to common shares $ 9,942,288 $ 3,588,498 $ 14,723,313 $ 6,742,139
============ ============ ============ ===========
Number of Shares:
Basic-average shares outstanding 22,359,480 17,133,185 22,516,237 17,102,729
Dilutive shares - - 3,016 -
----------- ----------- ----------- ----------
Diluted-average shares outstanding 22,359,480 17,133,185 22,519,253 17,102,729
=========== =========== =========== ==========
Earnings per common share - basic:
Income before extraordinary item and cumulative
effect of a change in accounting principle $ .53 $ .22 $ .54 $ .40
=========== =========== =========== ==========
Extraordinary item $ (.08) $ (.01) $ (.08) $ (.01)
=========== =========== =========== ==========
Cumulative effect of a change in accounting
principle $ - $ - $ .19 $ -
=========== =========== =========== ==========
Net income $ .45 $ .21 $ .65 $ .39
=========== =========== =========== ==========
Earnings per common share - diluted:
Income before extraordinary item and cumulative
effect of a change in accounting principle $ .53 $ .22 $ .54 $ .40
=========== =========== =========== ==========
Extraordinary item $ (.08) $ (.01) $ (.08) $ (.01)
=========== =========== =========== ==========
Cumulative effect of a change in accounting
principle $ - $ - $ .19 $ -
=========== =========== =========== ==========
Net income $ .45 $ .21 $ .65 $ .39
=========== =========== =========== ==========
Pro forma amounts assuming the new
capitalization policy is applied retroactively:
Net income $ 11,350,304 $ 5,148,603 $ 13,220,183 $ 9,807,651
============ ============ ============ ===========
Income applicable to common shares $ 9,979,199 $ 3,777,498 $ 10,477,973 $ 7,065,441
============ ============ ============ ===========
Per Share Amount - Income applicable
to common shares:
Basic $ .45 $ .22 $ .47 $ .41
============ ============ ============ ===========
Diluted $ .45 $ .22 $ .47 $ .41
============ ============ ============ ===========
17
Options to purchase 1,487,543 and 1,011,774 shares of common
stock were outstanding at June 30, 1999 and 1998, respectively, a
portion of which has been reflected above using the treasury
stock method.
11. INTERIM SEGMENT REPORTING
In 1998, the Company adopted SFAS No. 131, Disclosures about
Segments of an Enterprise and Related Information. The Company
has four reportable segments: (1) Market-rate multifamily
properties, (2) Government-Assisted multifamily properties, (3)
Management and Service Operations and (4) Unallocated Corporate
Overhead. The Company has identified these segments because the
discrete information is the basis upon which management makes
decisions regarding resource allocation and performance
assessment. The Market-rate multifamily properties are
conventional multifamily residential apartments (the operations
are not subject to regulation by HUD). The Government-Assisted
properties are multifamily properties for which the rents are
subsidized and certain aspects of the operations are regulated by
HUD pursuant to Section 8 of the National Housing Act of 1937.
The Management and Service Operations provide management and
advisory services to the Market-rate and Government-Assisted
properties which are owned by the Company, as well as to clients
and properties that are not owned, but are managed by the
Company. All of the Company's segments are located in the United
States. During the second quarter of 1999, management added a new
segment representing Unallocated Corporate Overhead to capture costs
not specifically allocated to an individual segment and to isolate
these costs from the third party Management and Service Operations.
For comparability purposes, the second quarter of 1998 results have
been restated to reflect this revision to the Company's reportable
segments.
The accounting policies of the segments are the same as
those described in the "Basis of Presentation and Significant
Accounting Policies". The Company evaluates the performance of
its segments and allocates resources to them based on EBITDA.
EBITDA should not be considered as an alternative to net income
(determined in accordance with generally accepted accounting
principles - "GAAP"), as an indicator of the Company's financial
performance, cash flow from operating activities (determined in
accordance with GAAP) or as a measure of the Company's liquidity,
nor is it necessarily indicative of sufficient cash flow to fund
all of the Company's needs.
Information on the Company's segments for the three and six
months ended June 30, 1999 and 1998 is as follows:
For the three months ended June 30, 1999
------------------------------------------------------------------
Management Unallocated
Government- and Service Corporate Total
Market-rate Assisted Operations Overhead Consolidated
----------- ----------- ----------- ----------- ------------
Total segment revenues $ 33,871,604 $ 2,486,838 $ 6,802,903 $ - $ 43,161,345
Elimination of intersegment
revenues (47,680) - (3,799,675) - (3,847,355)
------------ ------------ ----------- -----------
Consolidated revenues $ 33,823,924 $ 2,486,838 $ 3,003,228 $ - $ 39,313,990
============ ============ =========== ===========
Equity in net income of joint
ventures $ 167,152 $ 7,612 $ - $ 89,342 $ 264,106
*EBITDA-including the
proportionate share of joint
ventures $ 19,188,434 $ 1,517,549 $ 953,474 $(3,508,262) $ 18,151,195
Total assets $814,930,941 $ 13,975,788 $49,474,005 $ 8,043,299 $886,424,033
Capital expenditures, gross $ 10,476,510 $ 168,051 $ 162,176 $ - $ 10,806,737
18
For the six months ended June 30, 1999
-----------------------------------------------------------------
Management Unallocated
Government- and Service Corporate Total
Market-rate Assisted Operations Overhead Consolidated
------------ ------------ ----------- ---------- ------------
Total segment revenues $ 66,967,772 $ 4,934,048 $13,002,907 $ - $84,904,727
Elimination of intersegment
revenues (95,460) - (7,429,226) - (7,524,686)
------------- ----------- ----------- ----------
Consolidated revenues $ 66,872,312 $ 4,934,048 $ 5,573,681 $ - $77,380,041
============ =========== =========== ==========
Equity in net income of joint
ventures $ 139,223 $ 11,277 $ - $ 86,870 $ 237,370
*EBITDA-including the
proportionate share of joint
ventures $ 38,611,720 $ 3,021,972 $ 1,648,304 $(5,986,656) $ 37,295,340
Total assets $814,930,941 $13,975,788 $ 49,474,005 $ 8,043,299 $886,424,033
Capital expenditures, gross $ 20,043,462 $ 532,164 $ 376,682 $ - $ 20,952,308
For the three months ended June 30, 1998
-----------------------------------------------------------------
Management Unallocated
Government- and Service Corporate Total
Market-rate Assisted Operations Overhead Consolidated
----------- ----------- ----------- ----------- ------------
Total segment revenues $ 28,577,413 $ 2,487,695 $ 5,967,517 $ - $ 37,032,625
Elimination of intersegment
revenues (47,500) - (4,138,888) - (4,186,388)
-------------- ----------- ----------- -----------
Consolidated revenues $ 28,529,913 $ 2,487,695 $ 1,828,629 $ - $ 32,846,237
============= =========== =========== ===========
Equity in net income of joint
ventures $ 151,205 $ 19,460 $ - $ - $ 170,665
*EBITDA-including the
proportionate share of joint
ventures $ 17,180,477 $ 1,597,642 $ 213,418 $ (850,046) $ 18,141,491
Total assets $ 718,656,566 $13,204,186 $49,444,343 $ 4,353,221 $ 785,658,316
Capital expenditures, gross $ 157,237,022 $ 482,969 $ 673,002 $ - $ 158,392,993
For the six months ended June 30, 1998
-----------------------------------------------------------------
Management Unallocated
Government- and Service Corporate Total
Market-rate Assisted Operations Overhead Consolidated
----------- ------------ ----------- ----------- ------------
Total segment revenues $ 55,330,208 $ 4,952,908 $10,407,180 $ - $ 70,690,296
Elimination of intersegment
revenues (95,000) - (7,040,256) - (7,135,256)
------------ ----------- -----------
Consolidated revenues $ 55,235,208 $ 4,952,908 $ 3,366,924 $ - $ 63,555,040
============ =========== ===========
Equity in net income of joint
ventures $ 180,989 $ 25,898 $ - $ - $ 206,887
*EBITDA-including the
proportionate share of joint
ventures $ 32,988,954 $ 3,200,689 $ 523,348 $(1,942,574) $ 34,770,417
Total assets $718,656,566 $13,204,186 $49,444,343 $ 4,353,221 $785,658,316
Capital expenditures, gross $240,132,931 $ 686,400 $ 1,032,948 $ - $241,852,279
*Intersegment revenues and expenses have been eliminated in the
computation of EBITDA for each of the segments.
A reconciliation of total segment EBITDA to total
consolidated net income for the three and six months ended June
30, 1999 and 1998 is as follows:
19
For the three months ended For the six months ended
June 30 June 30,
--------------------------- -------------------------
1999 1998 1999 1998
Total EBITDA for reportable segments $ 18,151,195 $18,141,491 $ 37,295,340 $34,770,417
EBITDA-proportionate share of joint ventures (835,208) (712,459) (1,471,137) (1,300,850)
Equity in net income of joint ventures 264,106 170,665 237,370 206,887
Depreciation and amortization (8,328,860) (5,707,884) (16,604,908) (11,022,479)
Interest expense (9,105,415) (7,112,892) (17,356,147) (13,544,559)
Interest income 325,041 315,904 511,029 528,519
Income taxes (142,141) (10,327) (412,950) (28,691)
Extraordinary item - loss (1,808,742) (124,895) (1,808,742) (124,895)
Gain on sale of operating properties 12,830,328 - 12,830,328 -
Cumulative effect of a change in accounting
principle - - 4,319,162 -
------------- ------------ ------------
Consolidated net income $ 11,350,304 $ 4,959,603 $ 17,539,345 $ 9,484,349
============= ============ ============
12. CHANGE IN ACCOUNTING PRINCIPLE
Effective January 1, 1999, the Company changed its method of
accounting to capitalize expenditures for certain replacements
and improvements, such as new HVAC equipment, structural
replacements, appliances, flooring, carpeting and kitchen/bath
renovations. Previously, these costs were charged to operations
as incurred. Ordinary repairs and maintenance, such as suite
cleaning and painting, and appliance repairs are expensed. The
Company believes the change in the capitalization method provides
an improved measure of the Company s capital investment, provides
a better matching of expenses with the related benefit of such
expenditures, including associated revenues, and is in the
opinion of management, consistent with industry practice. The
cumulative effect of this change in accounting principle
increased net income for the six months ended June 30, 1999 by
$4,319,162 or $.19 per share (basic and diluted). The effect of
this change was to increase income before cumulative effect of a
change in accounting principle by $2,157,594 or $.10 per share
(basic and diluted) and $3,389,087 or $.15 per share (basic and
diluted) for the three and six months ended June 30, 1999,
respectively. The pro forma amounts shown on the income
statement have been adjusted to reflect the retroactive
application of the capitalization of such expenditures and
related depreciation for the three and six months ended June 30,
1998 which increased net income by $189,000 and $323,302 or
$.01 and $.02 per share (basic and diluted), respectively.
13. PRO FORMA CONDENSED FINANCIAL INFORMATION (UNAUDITED)
The following unaudited supplemental pro forma operating
data for 1998 is presented to reflect, as of January 1, 1998, the
effects of: (i) the 12 property acquisitions completed in 1998,
(ii) the merger of MIGRA in 1998, (iii) the sale of a property
in 1998, (iv) the exclusion of Rainbow Terrace Apartments
operating results, and (v) the sale of the five properties in
1999. The following unaudited supplemental pro forma operating
data for 1999 is presented to reflect, as of January 1, 1999, the
effects of the sale of the five properties in 1999.
For the six months
ended June 30,
1999 1998
(In thousands, except per share amounts) --------- --------
Revenues $ 75,304 $ 70,039
*Net income 1,571 7,120
*(Loss)/income applicable to common shares (Basic and
Diluted) (1,171) 4,378
Earnings per common shares (Basic and Diluted) $ (.05) $ .19
Weighted average number of common shares outstanding:
- Basic 22,516 22,516
- Diluted 22,519 22,519
*Before cumulative effect and extraordinary item
20
The 1999 and 1998 pro forma financial information does not
include the revenue and expenses for the period January 1 through
the date the properties were acquired by the Company for Windsor
at Kirkman Apartments, Windsor Pines and Steeplechase at Shiloh
Crossing Apartments which are properties that were acquired in
1998. The revenue and expenses of the aforementioned properties
were excluded from the pro forma financial information for 1999
and 1998 as the properties were under construction during
substantially all of the periods prior to their acquisition.
The unaudited pro forma condensed statement of operations is
not necessarily indicative of what the actual results of
operations of the Company would have been assuming the
transactions had been completed as set forth, nor does it purport
to represent the results of operations of future periods of the
Company.
14. SUBSEQUENT EVENTS
Treasury Shares
Subsequent to June 30, 1999, the Company repurchased 190,000
common shares at an aggregate cost of $2,185,000 which was funded
primarily from operating cash flows and financing proceeds.
Dividends Declared and Paid
On June 21, 1999, the Company declared a dividend of $0.375
per common share for the quarter ending June 30, 1999, which was
paid on August 2, 1999 to shareholders of record on July 15,
1999.
Advisory Contract
On July 14, 1999, MIG signed a contract with one of the
Company's major pension fund clients which authorizes MIG to
continue to manage existing properties and allocate up to $200
million in new, discretionary funds to purchase additional
properties for the client.
Common Shares
On July 14, 1999, the Company issued 11,249 common shares to
one of the MIGRA shareholders relating to a partial settlement of
the contingent consideration payable with respect to the amounts
due on the first anniversary of the merger. The shares were
issued at $11.64, representing the average closing price of the
common shares for the 20 trading days immediately preceding June
30, 1999. The remaining common shares payable with respect to
the first anniversary payment is under review by the Company's
management and the MIGRA shareholders since the language in the
governing document requires further review as applicable to certain
price adjustments the Company proposes to make.
Secured Financing
On August 3, 1999, the Company collateralized a mortgage on
one property for $6.6 million in a project specific, non-recourse
loan from The Chase Manhattan Bank. The loan will mature in 12
years with an interest rate of 7.8%. The proceeds from this loan
are being used to fund construction in progress, fund joint
venture opportunities with pension fund clients, and buy back a
limited number of the Company's stock as authorized by the Board
of Directors.
21
ASSOCIATED ESTATES REALTY CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS.
Overview
Associated Estates Realty Corporation (the "Company") is a
self-administered and self-managed real estate investment trust
("REIT") which specializes in the acquisition, development,
ownership and management of multifamily properties. In
connection with the merger of MIG Realty Advisors, Inc. ( MIGRA )
on June 30, 1998, the Company also acquired the property and
advisory management businesses of several of MIGRA's affiliates
and the right to receive certain asset management fees, including
disposition and incentive fees, that would have otherwise been
received by MIGRA upon the sale of certain of the properties
owned by institutions advised by MIGRA. MIG II Realty Advisors,
Inc. ("MIG") MIGRA's successor, is a registered investment
advisor and also functions as a mortgage banker and as a real
estate advisor to pension funds. MIG recognizes revenue
primarily from its clients' real estate acquisitions and
dispositions, loan origination and consultation, debt servicing,
asset and property management and construction lending
activities. MIG earns the majority of its debt servicing fee
revenue from two of its pension fund clients. MIG's asset
management, property management, investment advisory and mortgage
servicing operations, including those of the prior MIG
affiliates, are collectively referred to herein as the "MIGRA
Operations".
At June 30, 1999, the Company owned directly or indirectly,
or was a joint venture partner in 97 multifamily properties
containing 21,068 units. Of these properties, 71 were located in
Ohio, 11 in Michigan, two in Florida, two in Georgia, three in
Maryland, one in North Carolina, one in Texas, one in Arizona,
three in Indiana, one in California and one in Pennsylvania.
Additionally, the Company managed 54 non-owned properties, 48 of
which were multifamily properties consisting of 11,555 units (17
of which are owned by various institutional investors consisting
of 5,991 units) and six of which were commercial properties
containing an aggregate of approximately 621,000 square feet of
gross leasable area. Through affiliates, collectively referred
to as the "Service Companies", the Company provides property and
asset management, investment advisory, painting and computer
services as well as mortgage origination and servicing to both
owned and non-owned properties.
The following discussion should be read in conjunction with
the financial statements and notes thereto appearing elsewhere in
this report. Historical results and percentage relationships set
forth in the Consolidated Statements of Income contained in the
financial statements, including trends which might appear, should
not be taken as indicative of future operations. This discussion
may also contain forward-looking statements based on current
judgments and current knowledge of management, which are subject
to certain risks, trends and uncertainties that could cause
actual results to vary from those projected. Accordingly,
readers are cautioned not to place undue reliance on forward-
looking statements. These forward-looking statements are
intended to be covered by the safe harbor provisions of the
Private Securities Litigation Reform Act of 1995. Investors are
cautioned that the Company's forward-looking statements involve
risks and uncertainty, including without limitation, changes in
economic conditions in the markets in which the Company owns
properties, risks of a lessening of demand for the apartments
owned by the Company, changes in government regulations affecting
the Government-Assisted Properties, changes in or termination of
contracts relating to third party management and advisory
business, and expenditures that cannot be anticipated such as
utility rate and usage increases, unanticipated repairs,
additional staffing, insurance increases and real estate tax
valuation reassessments.
Liquidity and Capital Resources
The Company has elected to be taxed as a REIT under Sections
856 through 860 of the Internal Revenue Code of 1986, as amended,
commencing with its taxable year ending December 31, 1993. REITs
are subject to a number of organizational and operational
requirements including a requirement that 95% of the income that
would otherwise be considered as taxable income be distributed to
shareholders. Providing the Company continues to qualify as a
22
REIT, it will generally not be subject to a Federal income tax on
net income.
The Company expects to meet its short-term liquidity
requirements generally through its net cash provided by
operations, secured borrowings and property sales proceeds. The
Company believes that its net cash provided by operations will be
sufficient to meet both operating requirements and the payment of
dividends in accordance with REIT requirements. During 1999 and
2000, approximately $21.7 million and $109.4 million,
respectively, of the Company's debt will mature. Although the
Company may no longer be in a position to access public unsecured
debt markets due to revised credit ratings, the Company believes
it has adequate alternatives available to provide for its
liquidity needs including new secured borrowings and property
sales proceeds.
Financing:
As of August 12, 1999, the Company has received proceeds of
$296.5 million in project specific, nonrecourse mortgage loans
which are collateralized by 25 properties owned by qualified REIT
subsidiaries, having a net book value of $357.8 million. These
qualified REIT subsidiaries are separate legal entities and
maintain records, books of accounts and bank accounts separate
and apart from any other person or entity. Most of the proceeds
from these loans were used to pay down the Company's floating
rate unsecured line of credit facility. The proceeds were also
used to increase the Company's cash balances which will be used
to fund construction in progress, fund joint venture
opportunities with pension fund clients, and buy back limited
quantities of the Company's stock as authorized by the Board of
Directors. Proceeds may also be used to repurchase a portion of
the Company's senior unsecured debt. There are no cross-default
or cross-collateralization provisions in the mortgages. After
repayment of the unsecured line of credit facility, the Company's
total floating rate debt outstanding was reduced to $18.2
million, and all outstanding unsecured floating rate debt was
repaid. These nonrecourse financings have the effect of
increasing the Company's weighted average debt maturity from
approximately 3 years to approximately 9 years.
Prior to its termination in May 1999, the Company had
available a $250 million revolving credit facility (the "Line of
Credit") which contained various restrictive covenants. At
December 31, 1998, $226.0 million was outstanding under this
facility. The weighted average interest rate on borrowings
outstanding under the Line of Credit was 6.88% at December 31,
1998, representing a variable rate based on the prime rate or
LIBOR plus a specified spread, depending on the Company's long
term senior unsecured debt rating from Standard and Poor's and
Moody's Investors Service. An annual commitment fee of 15 basis
points on the maximum commitment, as defined in the agreement,
was payable annually in advance on each anniversary date. In May
1999, the Company repaid all outstanding obligations under this
Line of Credit through proceeds received from financing project
specific, nonrecourse mortgage loans (Note 5) and terminated the
facility. The Company recognized an extraordinary charge of
$1,808,742 which represents a $750,000 facility fee charge,
$126,559 breakage fee, and a $932,183 write off of deferred
finance costs related to the termination of the unsecured line of
credit facility.
The Company was in violation of certain financial ratio
covenants under the Line of Credit for the first quarter 1998
reporting period. The Company received waivers of those
violations through June 30, 1998. Additionally, the Company
advised its bank group that it was not in compliance with one of
the financial covenants concerning the Company's net worth for
the third quarter 1998 reporting period. The net worth covenant
required that the Company maintain a minimum net worth of $400
million, based on a formula that incorporates the annualized
multiple of the most recent quarter's earnings before interest,
taxes, depreciation and amortization ("EBITDA"), as defined in
the agreement. The Company negotiated with its bank group for a
waiver by the banks of the breach of the net worth covenant,
along with an increase in borrowing costs under its Line of
Credit from LIBOR plus 100 basis points to LIBOR plus 140 basis
points (based on the then-current credit rating). In addition,
certain of the covenants, including the minimum net worth
covenant, were modified to provide the Company a limited increase
in flexibility. The minimum net worth covenant was reduced from
23
$400 million to $325 million. The bank group continued to make
advances under the Line of Credit following the Company's
notification that it was not in compliance with the net worth
covenant. A $395,000 default waiver fee was paid in December
1998 and was reflected in the Consolidated Statements of Income
at December 31, 1998.
MIGRA maintained a $500,000 Line of Credit facility ("MIGRA
Line of Credit Facility") which the Company assumed at the time
of the merger. During February 1999, the Company paid off the
$446,565 outstanding MIGRA Line of Credit Facility and terminated
this facility.
Fifty-five (43 Market-rate Properties which refers to the
Core and Acquired/Disposed Property portfolios and 12
Government-Assisted Properties) of the Company's 90 (77
Market-rate Properties and 13 Government-Assisted Properties)
wholly owned properties were unencumbered at June 30, 1999 with
annualized EBITDA of approximately $37.8 million (approximately
$32.1 million represents the Market-rate Properties and
approximately $5.7 million represents the Government-Assisted
Properties) and a historical gross cost basis of approximately
$389.4 million (approximately $354.3 million represents the
Market-rate Properties and approximately $35.1 million
represents the Government-Assisted Properties). The remaining
35 of the Company's wholly owned properties, (all of which are
Market-rate Properties except one which is a Government-Assisted
Property), have an historical gross cost basis of $518.9 million
($515.1 million represents the Market-rate Properties and $3.8
million represents the Government-Assisted Property) and
secured property specific debt of $369.2 million ($2.9 million
relates to the Government-Assisted Property) at June 30, 1999.
Unsecured debt, which totaled $197.4 million at June 30, 1999,
consisted of $112.5 million in Medium-Term Notes and Senior
Notes of $84.9 million. The Company's proportionate share of
the mortgage debt relating to the seven joint venture
properties was $17.4 million at June 30, 1999. The weighted
average interest rate on the secured, unsecured and the
Company's proportionate share of the joint venture debt was
7.28% at June 30, 1999.
After considering the effect of the August 3, 1999 $6.6
million mortgage refinancing of one property, 54 (42 Market-rate
Properties and 12 Government-Assisted Properties) of the
Company's 90 (77 Market-rate Properties and 13 Government-Assisted
Properties) wholly owned properties remain unencumbered with
annualized EBITDA of approximately $37.1 million (approximately
$31.4 million represents the Market-rate Properties and
approximately $5.7 million represents the Government-Assisted
Properties) and a historical gross cost basis of approximately
$381.0 million (approximately $345.9 million represents the
Market-rate Properties and approximately $35.1 million
represents the Government-Assisted Properties). The remaining
36 of the Company's wholly owned properties (all of which are
Market-rate Properties except one which is a Government-Assisted
Property, have a historical gross cost basis of $527.2 million
($523.4 million represents the Market-rate Properties and $3.8
million represents the Government-Assisted Property).
The Company had 11 Medium-Term Notes (the "MTN's")
outstanding having an aggregate balance of $112.5 million at June
30, 1999 and December 31, 1998, respectively. The principal
amounts of these MTN's range from $2.5 million to $20 million and
bear interest from 6.18% to 7.93% over terms ranging from two to
30 years, with a stated weighted average maturity of 8.77 years
at June 30, 1999. The holders of two MTN's with stated terms of
30 years each have a right to repayment in five and seven years
from the issue date of the respective MTN. If these holders
exercised their right to prepayment, the weighted average
maturity of the MTN's would be 4.41 years.
The Company's current MTN Program provides for the issuance,
from time-to-time, of up to $102.5 million of MTN's due nine
months or more from the date of issue and may be subject to
redemption at the option of the Company or repayment at the
option of the holder prior to the stated maturity date. These
MTN's may bear interest at fixed rates or at floating rates and
can be issued in minimum denominations of $1,000. At June 30,
1999, there are $62.5 million of additional MTN borrowings
available under the program. However, due to the downgrades of
the Company's credit rating to a non-investment grade rating in
March, June and July 1999, the Company does not anticipate near
to intermediate issuance of additional MTN's or similar unsecured
debt instruments.
Registration statements:
The Company has a shelf registration statement on file with
the Securities and Exchange Commission relating to the proposed
offering of up to $368.8 million of debt securities, preferred
shares, depositary shares, common shares and common share
warrants. The total amount of the shelf filing includes a $102.5
million MTN Program of which MTN's totaling $40.0 million have
been issued leaving $62.5 million available. The securities may
be offered from time to time at prices and upon terms to be
determined at the time of sale. However, due to the currently
depressed price of the Company's common shares and downgrades of
the Company's public debt and preferred stock in March, June and
July 1999, it is unlikely that the Company will be in a position
to offer any securities under its shelf registration statement in
the near future.
24
Operating Partnership:
The Company entered into an operating partnership structured
as a DownREIT of which an aggregate 20% is owned by limited
partners. Interests held by limited partners in real estate
partnerships controlled by the Company are reflected as
"Operating partnership minority interest" in the Consolidated
Balance Sheets. Capital contributions, distributions and profits
and losses are allocated to minority interests in accordance with
the terms of the operating partnership agreement. In conjunction
with the acquisition of the operating partnership, the Company
issued a total of 522,032 operating partnership units ("OP
units") which consist of 84,630 Class A OP units, 36,530 Class B
OP units, 115,124 Class C OP units, 62,313 Class D OP units, and
223,435 Class E OP units. These OP units may, under certain
circumstances, become exchangeable into common shares of the
Company on a one-for-one basis. The Class A unitholders are
entitled to receive distributions per OP unit equal to the per
share distributions on the Company's common shares. At June 30,
1999, the Company charged $64,521 to minority interest in
operating partnership in the Consolidated Statements of Income
relating to the Class A unitholders allocated share of net
income. At June 30, 1999, the Class B, Class C, Class D and
Class E unitholders were not entitled to receive an allocation of
net income and did not receive nor were entitled to receive any
cash distributions from the operating partnership.
Merger Contingent Consideration Payable:
Subject to certain conditions and adjustments, the MIGRA
Stockholders' Conversion Rights entitle the MIGRA Stockholders to
receive (a) on the second issuance date (June 30, 1999), $872,935
worth of common shares of the Company at $11.64 per share, the
average closing price of the common shares for the 20 trading
days immediately preceding June 30, 1999, (approximately 74,994
common shares) subject to certain price adjustments as provided
for in the Merger Agreement and (b) on the third issuance date
(June 30, 2000) $2,982,917 worth of common shares of the Company
of which $872,935 is based on the average closing price of the
common shares for the 20 trading days immediately preceding the
date the consideration was met and $2,109,982 is based on a
closing price of $23.63 per the merger agreement. The obligation
of the Company to issue common shares on the second issuance date
was contingent upon the issuance of a certificate of occupancy
for the Windsor Pines property and the MIGRA stockholders'
submission to the Company of multifamily property acquisition
opportunities with an aggregate gross asset value of at least $50
million and an average yield of at least 85% of the pro forma
yield of the properties being acquired by the Company in
connection with the acquisitions (the "Minimum Yield"). The
obligation of the Company to issue common shares on the third
issuance date is contingent upon the issuance of a certificate of
occupancy for the Windsor at Kirkman property and the MIGRA
stockholders' submission to the Company of an additional $50
million of multifamily property acquisition opportunities with
the Minimum Yield. On July 14, 1999, the Company issued 11,249
common shares to one of the MIGRA shareholders relating to a
partial settlement of the contingent consideration payable in
respect of the amounts due on the first anniversary of the
merger. The shares were issued at $11.64, representing the
average closing price of the common shares for the 20 trading
days immediately preceding June 30, 1999. The remaining common
shares payable with respect to the first anniversary payment is
under review by the Company's management and the MIGRA
shareholders since the language in the governing document requires
further review as applicable to certain price adjustments the Company
proposes to make. The conditions precedent to the first anniversary
payment were met in December 1998. The contingencies precedent
to the third payment have not been met as of June 30, 1999.
Acquisitions, development and dispositions:
Should the Company acquire any multifamily properties in
1999, it would finance such acquisitions and development with the
most appropriate sources of capital, which may include the
assumption of mortgage indebtedness, bank and other institutional
borrowings, through the exchange of properties, undistributed
Funds From Operations, or secured debt financings.
The Company currently has a letter of intent to purchase one
multifamily property, located in Lawrenceville, Georgia,
containing an aggregate of 308 units for a total purchase price
of approximately $23.4 million. The Company may finance the
acquisition of the multifamily property or may purchase the
25
property in a joint venture transaction using the funds received
from the sale of five operating properties, which have been set
aside to execute a like-kind exchange and proceeds received from
the project specific, nonrecourse mortgage refinancing.
For the six month period ended June 30, 1999, the Company
completed the construction and leasing of 204 units at two of the
Company's development properties.
The Company is in the process of constructing or planning
the construction of an additional 1,557 units to be owned by the
Company as follows:
Additional Anticipated
Property Location Units Completion
----------------------- --------------------- ---------- -------------
Arbor Landings Apts. II Ann Arbor, Michigan 160 3rd Qtr. 1999
Boggs Road Atlanta, Georgia 535 TBD
The Landings at the
Preserve(a) Battle Creek, Michigan 90 TBD
Village at Avon Avon, Ohio 312 4th Qtr. 2000
Windsor at Kirkman
Apartments Orlando, Florida 460 3rd Qtr. 1999
-----
1,557
(a) A clubhouse will also be added to The Landings at the
Preserve.
TBD - To be determined.
The Company is exploring opportunities to dispose of some of
its joint venture, Government-Assisted and congregate care
multifamily properties. The Company has retained a financial
advisor to evaluate the alternatives relating to the disposition
of its ownership of some of its Government-Assisted properties.
The Company has entered into a contract to sell one of its
Market-rate properties. This property is located in California.
The Company anticipates that this asset will be sold during 1999.
The net real estate assets of this property is presented in the
Consolidated Balance Sheet as property held for sale.
The sale of any or all of these assets may have either an
accretive or dilutive effect on earnings depending upon the
application of proceeds derived from the sale, which will not be
known until the time of sale.
In June 1999, the Company sold five operating properties for
net cash proceeds of $13.4 million, resulting in a gain of $12.8
million. The net cash proceeds were placed in a trust which
restricts the Company's use of these funds for the exclusive
purchase of other property of like-kind and qualifying use.
These funds are presented in the Consolidated Balance Sheet as
restricted cash. The like-kind exchange must occur prior to
December 3, 1999.
On May 4, 1999, a pension fund client of MIG acquired a
multifamily property containing 248 units located in Fairfax
County, Virginia. MIG was retained to provide asset and property
management services.
On July 14, 1999, MIG signed a contract with one of the
Company's major pension fund clients pursuant to which MIG will
continue to manage existing properties and the client has
committed to allocate up to $200 million in new, discretionary
funds to purchase additional properties.
26
Management Contract Cancellation:
On January 13, 1999, the Company terminated its management
contract for Longwood Apartments, which resulted in a loss of
management fee income for the six months ended June 30, 1999 of
approximately $148,000. Moreover, pursuant to the terms of the
HUD Settlement Agreement discussed in Note 7 of the notes to the
financial statements, the Company may terminate its management
contract for Park Village Apartments, which will result in a
partial loss of management fee income in 1999. The management
fees collected for Park Village Apartments for the six months
ended June 30, 1999 were $11,083.
In addition, pursuant to the terms of a separate settlement
agreement with affiliates entered into in conjunction with the
settlement agreement with the Corporation as discussed in Note 8,
the Company has agreed to end its management of certain
commercial properties owned by certain affiliated persons upon 60
days prior written notice from the respective owners of those
properties. The management fees generated from those commercial
properties for the six months ended June 30, 1999 was $56,242.
Subsequent to June 30, 1999, the 60 days written notice to cancel
the management of two commercial properties was received. The
management fees generated from these two commercial properties
was $15,500 for the six months ended June 30, 1999.
The Company has also lost management fees from Euclid
Medical & Commercial Arts Building, a non-owned commercial
property, because of foreclosure proceedings. During March 1999,
the Company lost management of this property. The management
fees generated from this property for the three months ended
March 31, 1999 was $20,728; no fees were recognized for the
period after March 31, 1999.
In addition, if the Company proceeds with the proposed sale
of its interests in certain joint venture properties, the Company
would no longer receive the management fees attributable to those
properties and one other property. The management fees net of
consulting fees generated for these properties for the six months
ended June 30, 1999 was $431,549. Certain third party owners of
properties currently managed by the Company have entered into
contracts to sell those properties, subject to certain
contingencies. To the extent those third party owned properties
are sold, the Company would similarly no longer receive the
management fees generated from the respective properties. The
aggregate management fees generated for these properties for the
six months ended June 30, 1999 was $196,055. The impact of the
loss of these management fee revenues would be partially offset
by a reduction in operating expenses.
Dividends:
On June 21, 1999, the Company declared a dividend of $0.375
per common share for the quarter ending June 30, 1999, which was
paid on August 2, 1999 to shareholders of record on July 15,
1999. The common share dividend was reduced to $0.375 from
$0.465 in order to reduce the Company's dividend payout ratio.
On May 20, 1999, the Company declared a dividend of $0.60938 per
Depositary Share on its Class A Cumulative Preferred Shares (the
"Perpetual Preferred Shares") which was paid on June 15, 1999 to
shareholders of record on June 1, 1999. At the current dividend
level, the Company is a net borrower and will continue to monitor
earnings expectations to determine if any changes should be made
with respect to the dividend policy.
Cash flow sources and applications:
Net cash provided by operating activities decreased
$3,080,500 from $23,332,500 to $20,252,000 for the six months
ended June 30, 1999 when compared with the six months ended June
30, 1998. This decrease was the result of increases in depreciation
and amortization, restricted cash and other operating assets and
liabilities offset by funds received from accounts and notes
receivable of affiliates and joint ventures and decreases in funds
held for non-owned managed properties of affiliates and joint
ventures as well as an increase in accounts payable and accrued
expenses.
27
Net cash flows used for investing activities of $20,877,100
for the six months ended June 30, 1999 were primarily used for
the development of multifamily real estate and acquisition of
capital expenditures.
Net cash flows provided by financing activities of
$25,166,400 for the six months ended June 30, 1999 were primarily
comprised of proceeds received from the mortgage financing of 24
properties. Funds were also used to pay dividends on the
Company's common and Perpetual Preferred Shares as well as
repayments on the Line of Credit.
During the remainder of 1999 and 2000, approximately $131.1
million of the Company's debt will mature. The Company intends
to repay any such debt as it matures through a combination of new
secured borrowings and property sales proceeds.
RESULTS OF OPERATIONS
Comparison of the quarter ended June 30, 1999 to the quarter
ended June 30, 1998
In the following discussion of the comparison of the quarter
ended June 30, 1999 to the quarter ended June 30, 1998, Market-
rate Properties refers to the Core and Acquired/Disposed Property
portfolios. Core Properties represents 29 of the 34 wholly owned
multifamily properties acquired by the Company at the time of the
IPO and the 46 properties acquired in separate transactions or
developed by the Company during 1994 through March 31, 1998 and
the acquisition of the remaining 50% interest in two properties
in which the Company was a joint venture partner at the time of
the IPO. Acquired/Disposed Properties refers to 13 properties
which were acquired between April 1, 1998 and June 30, 1999 as
well as the newly constructed and repositioned properties, the
sale of five operating properties and Rainbow Terrace Apartments.
Overall, total revenue increased $6,467,800 or 19.7% and
total expenses increased $11,284,600 or 40.4% for the quarter.
Net income applicable to common shares after deduction for the
dividends on the Company's Perpetual Preferred Shares increased
$6,390,700 or 178.1%.
During the quarter ended June 30, 1999, the Market-rate
Properties generated total revenues of $33,823,900 while
incurring property operating and maintenance expenses of
$15,438,500. Of these amounts, the Acquired/Disposed and Core
Properties contributed total revenues of $8,618,000 and
$25,206,000, respectively, while incurring property operating and
maintenance expenses of $3,945,300 and $11,493,200,
respectively. The Government-Assisted Properties generated total
revenues of $2,486,800 while incurring property operating and
maintenance expenses of $1,019,200 for the quarter ended June 30,
1999.
Rental Revenues:
Rental revenues increased $5,214,300 or 16.9% for the
quarter. Rental revenues from the Acquired/Disposed Properties
increased $5,021,900 for the quarter. Occupancy and unit rents
at the Core Properties and Government-Assisted Properties
resulted in an increase of $174,800 or .70% and $12,900 or .53%,
respectively, in rental revenue from these properties.
Other Revenues:
Other income decreased $110,300 or 29.1% for the quarter.
The decrease is due primarily to the receipt of a workers
compensation refund during the second quarter of 1998.
The Company recognized property and asset management fee
revenues of $1,329,400 and $588,200, respectively, for the
quarter ended June 30, 1999 as compared to $881,200 of property
management fees and no asset management fees for the quarter
ended June 30, 1998. The increase in property and asset
management fee revenues is primarily due to the collection of
these fees by MIGRA relating to their institutional investor
clients.
28
The Company recognized asset acquisition fee revenue of
$121,700 and $0 for the quarters ended June 30, 1999 and 1998,
respectively. The fee relates to MIG acquiring a multifamily
property on behalf of a pension fund client in May 1999.
Property operating and maintenance expenses:
Property operating and maintenance expenses increased
$3,539,000 or 27.4% for the quarter. Property operating and
maintenance expenses at the Acquired/Disposed Properties
increased $2,093,900 for the quarter due primarily to the
operating and maintenance expenses incurred at the 13 properties
acquired in 1998, the newly constructed properties of The Village
of Western Reserve and The Residence at Barrington. Property
operating and maintenance expenses at the Core Properties
increased $1,386,900, or 13.7% when compared to the three months
ended June 30, 1998 primarily due to increases in personnel,
utilities, building and grounds repair and maintenance, and real
estate and local taxes. Property operating and maintenance
expenses at the Government-Assisted Properties increased $58,200
or 6.1% for the quarter
Other expenses:
Depreciation and amortization increased $2,621,100 or 45.9%
for the quarter primarily due to the increased depreciation
expense recognized on the Acquired/Disposed Properties and the
additional depreciation as a result of the adoption of the new
capitalization policy as well as the amortization expense of the
intangible assets recorded with respect to the merger with MIGRA.
The amortization expense related to the intangible assets is
reflected as a charge to the Management and Service Operations.
General and administrative expenses increased $3,019,600 or
172.8% for the quarter. This increase is primarily attributable
to payroll and related expenses due to the expense of the MIGRA
advisory operations and other consulting and professional fees
incurred by the Company principally related to system processes
and operating consulting services. During the second quarter of
1999, a severance benefit of $550,000 was paid to an executive
officer of the Company. The increase related to general and
administrative expenses of approximately $2,522,000 is
classified as Unallocated Corporate Overhead.
Interest expense increased $1,992,400 or 28.0% for the
quarter primarily due to the interest incurred with respect to
the project specific, nonrecourse mortgage financing
collateralized by 24 properties owned by the REIT.
The Company recognized a charge for funds advanced to a non-
owned property totaling $150,000 for the quarter ended June 30,
1999. The Company is continuing its collection efforts in
connection with this receivable.
The gain on sale of properties of $12,830,300 for 1999
resulted from the sale of five operating properties.
Extraordinary items:
The extraordinary item of $1,808,700 recognized during 1999
represents a $750,000 facility fee charge, $126,500 interest
breakage fee and a $932,200 write off of deferred finance costs
related to the termination of the unsecured line of credit
facility. The $124,900 charge recognized in 1998 relates to the
write off of the deferred financing fees related to the
termination of a $100 million unsecured revolving credit
facility.
29
Net income applicable to common shares:
Net income applicable to common shares is equal to net
income less dividends on the Perpetual Preferred Shares of
$1,371,100.
RESULTS OF OPERATIONS
Comparison of the six months ended June 30, 1999 to the six
months ended June 30, 1998
In the following discussion of the comparison of the six
months ended June 30, 1999 to the six months ended June 30, 1998,
Market-rate Properties refers to the Core and Acquired/Disposed
Property portfolios. Core Properties represents 29 of the 34
wholly owned multifamily properties acquired by the Company at
the time of the IPO, the 41 properties acquired in separate
transactions or developed by the Company during 1994 and 1997 and
the acquisition of the remaining 50% interest in two properties
in which the Company was a joint venture partner at the time of
the IPO. Acquired/Disposed Properties refers to 18 properties
which were acquired between January 1, 1998 and June 30, 1999 as
well as the newly constructed and repositioned properties, the
sale of five operating properties and Rainbow Terrace Apartments.
Overall, total revenue increased $13,825,000 or 21.8% and
total expenses increased $21,201,600 or 39.2% for the six month
period. Net income applicable to common shares after deduction
for the dividends on the Company's Perpetual Preferred Shares
increased $8,055,000 or 119.5%.
During the six months ended June 30, 1999, the Market-rate
Properties generated total revenues of $66,872,300 while
incurring property operating and maintenance expenses of
$29,873,700. Of these amounts, the Acquired/Disposed and Core
Properties contributed total revenues of $23,710,700 and
$43,161,600, respectively, while incurring property operating and
maintenance expenses of $10,790,400 and $19,083,300,
respectively. The Government-Assisted Properties generated total
revenues of $4,934,000 while incurring property operating and
maintenance expenses of $2,012,300 for the six months ended June
30, 1999.
Rental Revenues:
Rental revenues increased $11,500,400 or 19.2% for the six
month period. Rental revenues from the Acquired/Disposed
Properties increased $11,518,700 for the six month period.
Occupancy and suite rents at the Core and Government-Assisted
Properties resulted in a decrease of $19,400 or .05% and $15,400
or .31%, respectively, in rental revenue from these properties.
Other Revenues:
The Company recognized property and asset management fee
revenues of $2,625,100 and $1,174,100, respectively, for the six
months ended June 30, 1999 as compared to $1,830,000 of property
management fees and no asset management fees for the six months
ended June 30, 1998. The increase in property and asset
management fee revenues is primarily due to the collection of
these fees by MIGRA relating to their institutional investor
clients.
The Company recognized asset acquisition fee revenue of
$121,700 and $0 for the quarters ended June 30, 1999 and 1998,
respectively. The fee relates to MIG acquiring a multifamily
property on behalf of a pension fund client in May 1999.
Property operating and maintenance expenses:
Property operating and maintenance expenses increased
$6,747,000 or 26.8% for the six month period. Property operating
and maintenance expenses at the Acquired/Disposed Properties
increased $4,896,300 or 83% for the six month period due
primarily to the operating and maintenance expenses incurred at
the 18 properties acquired between January 1, 1998 and June 30,
1999 as well as the newly constructed and repositioned
properties. Property operating and maintenance expenses at the
Core Properties increased $1,629,600 or 9.3% when compared to the
prior six month period primarily due to increases in personnel,
utilities, real estate taxes and local taxes, and the one time
effect of additional operating expenses related to refining
30
certain cutoff procedures and its estimation process for the
accumulation of property operating expense accrual adjustments.
Property operating and maintenance expenses at the Government-
Assisted Properties increased $141,400 or 7.6% for the quarter
due to an increase in other operating expenses.
Other expenses:
Depreciation and amortization increased $5,582,400 or 50.6%
for the six months ended June 30, 1999 primarily due to the
increased depreciation expense recognized on the
Acquired/Disposed Properties and the additional depreciation as a
result of the adoption of the new capitalization policy as well
as the amortization expense of the intangible assets recorded
with respect to the merger with MIGRA. The amortization expense
related to the intangible assets is reflected as a charge to the
Management and Service Operations.
General and administrative expenses increased $4,978,700 or
138.9% for the six months ended June 30, 1999. This increase is
primarily attributable to payroll and related expenses due to the
expense of the MIGRA advisory operations and other consulting and
professional fees incurred by the Company principally related to
system processes and operating consulting services. During the
second quarter of 1999, a severance benefit of $550,000 was paid
to an executive officer of the Company. The increase related to
general and administrative expenses of approximately $3,881,000
is classified as Unallocated Corporate Overhead.
Interest expense increased $3,811,600 or 28.1% for the six
months ended June 30, 1999 primarily due to the interest
incurred with respect to the project specific, nonrecourse
mortgage financing collateralized by 24 properties owned by the
REIT.
The Company recognized a charge for funds advanced to a non-
owned property totaling $150,000 for the six months ended June
30, 1999. The Company is continuing its collection efforts in
connection with this receivable.
The gain on sale of properties of $12,830,300 for 1999
resulted from the sale of five operating properties.
Extraordinary items:
The extraordinary item of $1,808,700 recognized during 1999
represents a $750,000 facility fee charge, $126,500 interest
breakage fee and a $932,200 write off of deferred finance costs
related to the termination of the unsecured line of credit
facility. The $124,900 charge recognized in 1998 relates to the
write off of the deferred financing fees related to the
termination of a $100 million unsecured revolving credit
facility.
Cumulative effect:
Effective January 1, 1999, the Company changed its method of
accounting to capitalize expenditures for certain replacements
and improvements, such as new HVAC equipment, structural
replacements, appliances, flooring, carpeting and kitchen/bath
renovations to the capitalization method. Previously, these
costs were charged to operations as incurred. Ordinary repairs
and maintenance, such as suite cleaning and painting, and
appliance repairs are expensed. The Company believes the change
in the capitalization method provides an improved measure of the
Company s capital investment, provides a better matching of
expenses with the related benefit of such expenditures, including
associated revenues, and is in the opinion of management,
consistent with industry practice. The cumulative effect of this
change in accounting principle increased net income for the six
months ended June 30, 1999 by $4,319,162 or $.19 per share
(basic and diluted). The effect of this change was to increase
income before cumulative effect of a change in accounting
principle by $3,389,087 or $.15 per share (basic and diluted) for
the six months ended June 30, 1999. The pro forma amounts shown
on the income statement have been adjusted to reflect the
31
retroactive application of the capitalization of such
expenditures and related depreciation for the six months ended
June 30, 1998 of which increased net income by $323,302 or $.02
per share (basic and diluted).
Net income applicable to common shares:
Net income applicable to common shares is reduced by
dividends on the Perpetual Preferred Shares of $2,742,200.
Equity in net income of joint ventures:
The combined equity in net income of joint ventures
increased $93,400 or 54.8% and $30,500 or 14.7% for the three and
six months ended June 30, 1999 and 1998, respectively. The
increase is due primarily to a decrease in the costs of
operations.
The following table presents the historical statements of
operations of the Company's beneficial interest in the operations
of the joint ventures for the three and six months ended June 30,
1999 and 1998.
For the three months
ended For the six months
June 30, ended June 30,
---------- ----------- ----------- -----------
1999 1998 1999 1998
---------- ------------ ----------- -----------
Beneficial interests in
joint venture operations
Rental revenue $ 1,803,928 $ 1,746,864 $ 3,528,236 $ 3,472,360
Cost of operations 968,719 1,034,405 2,057,100 2,171,510
---------- ----------- ----------- ----------
835,209 712,459 1,471,136 1,300,850
Interest income 8,056 14,114 11,310 14,771
Interest expense (430,041) (436,132) (944,976) (872,948)
Depreciation (136,713) (107,067) (275,545) (212,577)
Amortization (12,405) (12,709) (24,555) (23,209)
------------ ----------- ----------- -----------
Net income $ 264,106 $ 170,665 $ 237,370 $ 206,887
=========== =========== =========== ===========
Outlook
The long term goal for the Company is to acquire and develop
a portfolio of economically and geographically diversified
institutional quality multifamily assets. The goal extends to
the effective and efficient operation and management of those
assets. Implementation of this goal will be through balanced
investment in direct acquisition and co-investment with
institutional investors.
It is expected that individual acquisitions will be located
in the select metropolitan areas of Atlanta, Washington, D.C.,
Orlando, South Florida and Tampa until operational efficiencies
are maximized. Management believes that these markets offer
excellent diversification characteristics as well as growth
potential. Over the next several years, the Company's focus is
expected to expand to multiple major markets. In addition to
these direct investment markets, the Company plans to co-invest
with institutional clients in many markets that are in the long
term investment horizon. As with all growth markets at this
time, new development is active in these markets. The Company's
market research and operational experience in these areas will
guide site selection and pricing.
Investing for and with institutional investors is a major
component of the Company's growth strategy. The recent
allocation from two advised clients for discretionary multifamily
acquisition will enhance the Company's acquisition efforts.
Purchases on behalf of these clients are expected to improve
operational efficiency and generate advisory income.
32
In addition to acquisitions on behalf of advised clients,
the Company is initiating co-investment with institutional
investors. These co-investments will include both purchase and
development opportunities. Co-investment in the purchase of
stabilized assets is expected to offer low volatility and
immediate cash flow. The development program allows the Company
and its institutional partners to seek the high yields
anticipated with development. The expected equity division for
both co-investment forms is 25% from the Company and 75% from
institutional investors.
Management believes this co-investment program should allow
the Company to increase operational efficiency in growth markets
at a more rapid pace than direct individual investment because it
requires less capital resources from the Company but allows the
Company to apply its expertise in multifamily management. The
programs described above are currently being actively marketed
and there can be no assurance that the Company will be able to
attract institutional capital to fund these programs.
Given the Midwestern concentration of the Market-rate
portfolio, management's performance expectations are consistent
with the recent past. Management projects that the market-rate
rental growth for existing assets will be a modest 2.5% over the
next twelve months. General market expectations for locations
where the Company has significant concentrations are as follows:
Columbus is experiencing construction levels consistent with
recent employment growth, Cleveland continues to exhibit
stability, Michigan markets are slowing from rapid growth in
1998, Indianapolis continues to improve, Washington, D.C.,
Atlanta, and South Florida are in equilibrium with significant
additions to employment and multifamily supply, and Orlando is
currently performing well in spite of significant construction.
Inflation
Management's belief is that any effects of minor inflation
fluctuations would be minimal on the operational performance of
its portfolio primarily due to the high correlation between
inflation and housing costs combined with the short term nature,
typically one year, of the leases. In addition, the fixed rate
nature of the Company's debt obligations virtually eliminates any
negative effect of inflation on income.
33
Quantitative and Qualitative Disclosures About Market Risk
At June 30, 1999, the Company had $18.2 million of variable
rate debt. Additionally, the Company has interest rate risk
associated with fixed rate debt at maturity.
Management has and will continue to manage interest rate
risk as follows: (i) maintain a conservative ratio of fixed
rate, long term debt to total debt such that variable rate
exposure is kept at an acceptable level; (ii) consider a hedge
for certain long term variable rate debt through the use of
interest rate swaps or interest rate caps; and (iii) use treasury
locks where appropriate to hedge rates on anticipated debt
transactions. Management uses various financial models and
advisors to achieve those objectives.
The table below provides information about the Company's
financial instruments that are sensitive to changes in interest
rates. For debt obligations, the table presents principal cash
flows and related weighted average interest rates by expected
maturity dates.
Expected Maturity Date
------------------------------------------------
Long term debt 1999 2000 2001 2002
Fixed:
Fixed rate mortgage debt $ 1,541,399$ 18,139,118 $ 14,822,243$ 4,003,176
Weighted average interest rate 7.63% 7.62% 7.56% 7.53%
MTN's 20,000,000 - 10,000,000 15,000,000
Weighted average interest rate 6.95% - 7.12% 7.09%
Senior notes - 74,947,703 - 10,000,000
Weighted average interest rate - 8.23% - 7.10%
-------------------------------------------------
Total fixed rate debt $ 21,541,399$ 93,086,821 $ 24,822,243$ 29,003,176
Variable:
Variable rate mortgage debt $ 184,615$ 61,687 $ 16,314,997$ 75,283
-------------------------------------------------
Total long term debt $ 21,726,014$ 93,148,508 $ 41,137,240$ 29,078,459
=================================================
Expected Maturity Date
--------------------- Fair Market
Long term debt 2003 Thereafter Total Value
Fixed: ---------------------------------------------------
Fixed rate mortgage debt $ 4,325,742$308,177,917 $ 351,009,595 $ 355,128,700
Weighted average interest rate 7.53% 7.57% 7.21% -
MTN's 12,500,000 55,000,000 112,500,000 116,146,455
Weighted average interest rate 7.12% 7.23% 6.95% -
Senior notes - - 84,947,703 88,121,306
Weighted average interest rate - - 8.23% -
---------------------------------------------------
Total fixed rate debt $16,825,742$363,177,917 $ 548,457,298 $ 559,396,461
Variable:
Variable rate mortgage debt $ 83,165$ 1,497,734 $ 18,217,481 $ 18,503,897
---------------------------------------------------
Total long term debt $16,908,907$364,675,651 $ 566,674,779 $ 577,900,358
===================================================
On August 3, 1999, the Company collateralized an individual
mortgage on one property for $6.6 million in project specific,
nonrecourse loans from The Chase Manhattan Bank. The loan has a
maturity of 12 years and a fixed interest rate of 7.8%.
Sensitivity Analysis
The Company estimates that a 100 basis point decrease in
market interest rates would have changed the fair value of fixed
rate debt to a liability of $607.1 million. The sensitivity to
changes in interest rates of the Company's fixed rate debt was
determined with a valuation model based upon changes that measure
the net present value of such obligation which arise from the
hypothetical estimate as discussed above.
34
Year 2000 Compliance
The year 2000 issue ("Year 2000") is the result of computer
programs being written using two digits rather than four to
define the applicable year. Any of the Company's computer
programs or hardware that have date sensitive software or
embedded chips may recognize a date using "00" as the year 1900
rather than the year 2000. This could result in a system failure
or miscalculations causing disruptions of operations, including,
among other things, a temporary inability to process
transactions, pay vendors or engage in similar normal business
activities.
The Company believes that it has identified all of its
information technology ("IT") and non-IT systems to assess their
Year 2000 readiness. Critical IT systems include, but are not
limited to, operating and data networking and communication
systems, accounts receivable and rent collections, accounts
payable and general ledger, human resources and payroll, cash
management and all IT hardware (such as servers, desktop/laptop
computers and data networking equipment). Critical non-IT
systems include telephone systems, fax machines, copy machines
and property environmental, access and security systems (such as
elevators and alarm systems).
The Company's plan to resolve the Year 2000 issue involves
the following four phases: assessment, remediation, testing and
implementation. The Company has conducted an assessment and/or
survey of its core IT and non-IT systems at both its corporate
offices and properties and believes it is 95% complete on such
assessment which is currently under review by the Company's
technical staff.
Much of the mission critical operating systems, networking
and accounting software that has been purchased over the past few
years has been represented by vendors to already be Year 2000
compliant. The property management software currently being
tested and used at the Company's corporate offices and which is
to be rolled out to the properties during the second and third
quarters of 1999 has been affirmed by the vendor to be tested and
Year 2000 compliant. Hardware upgrades at all of the properties
are expected to be complete by September 1999 to ensure all
hardware is compliant. Testing by the Company of all such
critical systems represented by the vendors to be compliant is
expected to be complete by September 1999.
The estimated costs of these upgrades and conversions should
not exceed $500,000 and have been considered in the Company's
cash flow requirements for 1999.
The Company believes it has identified all non-IT systems at
all properties and expects to have 90% of its remediation and/or
testing complete on these systems by September of 1999. While a
complete technical assessment of all such systems is not final,
the Company does not anticipate expenditures in excess of
$500,000 to remediate non-IT systems at the properties since
findings to date suggest a low incidence of non-compliance on
critical systems. The Company has engaged an outside technical
consultant to work with its internal technical staff to assist in
finalizing such assessment, remediation and testing.
In most cases, various third party vendors have been queried
on their Year 2000 readiness. While many responses have been
received to such queries (especially by banks and other large
financial institutions), many vendors have not yet responded.
The Company will continue to query its significant suppliers and
vendors to determine the extent to which the Company's interface
systems are vulnerable to those third parties' failure to
remediate their own Year 2000 issues. To date, the Company is
not aware of any significant suppliers or vendors with a Year
2000 issue that would materially impact the Company's results of
operations, liquidity or capital resources. However, there can
be no assurances that the systems of other companies, on which
the Company's systems rely, will be timely converted and would
not have an adverse effect on the Company's systems.
35
The Company believes it has an effective program in place
that will resolve the Year 2000 issue in a timely manner. In
addition, the Company has commenced its contingency planning for
critical operational areas that might be affected by the Year
2000 issue if compliance by the Company is delayed. The
Company's contingency plans will involve training and increased
awareness at the property management level, manual workarounds
and adjustment of staffing strategies. The Company intends to
have its contingency planning complete in the third quarter of
1999.
Aside from the catastrophic failure of banks or government
agencies, the Company believes it could continue its normal
business operations if compliance by the Company is delayed. In
the event of such catastrophic failures, the Company would be
unable to deposit rent checks, transfer cash, wire money, pay
vendors by check, or invest excess funds. The Company could be
subject to litigation for its inability to access cash to pay
vendors or failure to properly record business transactions or if
security or access systems fail at properties. However, given
that the Company intends to have contingency planning in place
and that the nature of its day-to-day real estate operations is
not heavily reliant on technology, the Company does not believe
that the Year 2000 issue will materially impact its results of
operations, liquidity or capital resources.
CONTINGENCIES
Environmental
There are no recorded amounts resulting from environmental
liabilities and there are no known contingencies with respect
thereto. Future claims for environmental liabilities are not
measurable given the uncertainties surrounding whether there
exists a basis for any such claims to be asserted and, if so,
whether any claims will, in fact, be asserted. Furthermore, no
condition is known to exist that would give rise to a liability
for site restoration, post closure and monitoring commitments, or
other costs that may be incurred with respect to the sale or
disposal of a property. Phase I environmental audits have been
completed on all of the Company's wholly owned and joint venture
properties. The Company has obtained environmental insurance
covering (I) pre-existing contamination, (ii) on-going third
party contamination, (iii) third party bodily injury and (iv)
remediation. The policy is for a five year term and carries a
limit of liability of $2 million per environmental contamination
discovery (with a $50,000 deductible) and has a $10 million
policy term aggregate. Management has no plans to abandon any of
the properties and is unaware of any other material loss
contingencies.
Rainbow Terrace Apartments
On February 9, 1998, the U.S. Department of Housing and
Urban Development ("HUD") notified the Company that Rainbow
Terrace Apartments, Inc. ("RTA"), the Company's subsidiary
corporation that owns Rainbow Terrace Apartments, was in default
under the terms of the Regulatory Agreement and Housing
Assistance Payments Contract ("HAP Contract") pertaining to this
property. Among other matters, HUD alleged that the property was
poorly managed and that RTA had failed to complete certain
physical improvements to the property. Moreover, HUD claimed
that the owner was not in compliance with numerous technical
regulations concerning whether certain expenses were properly
chargeable to the property. As provided in the Regulatory
Agreement and HAP Contract, in the event of a default, HUD has
the right to exercise various remedies including terminating
future payments under the HAP Contract and foreclosing the
government-insured mortgage encumbering the property.
This controversy arose out of a Comprehensive Management
Review of the property initiated by HUD in the Spring of 1997,
which included a complete physical inspection of the property.
In a series of written responses to HUD, the Company stated its
belief that it had corrected the management deficiencies cited by
HUD in the Comprehensive Management Review (other than the
completion of certain physical improvements to the property) and
justified the expenditures questioned by HUD as being properly
chargeable to the property in accordance with HUD's regulations.
Moreover, the Company stated its belief that it had repaired any
physical deficiencies noted by HUD in its Comprehensive
Management Review that might pose a threat to the life and safety
of its residents.
36
In June 1998, HUD notified the Company that all future
Housing Assistance Payments ("HAP") for RTA were abated and
instructed the lender to accelerate the balance due under the
mortgage. Subsequent to the notification of HAP abatements and
the acceleration of the mortgage, the lender advised the Company
that the acceleration notification had been rescinded pursuant to
HUD's instruction. HUD then notified the Company that the HAP
payments would be reinstated and that HUD was reviewing further
information concerning RTA provided by the Company. The Company
has received all monthly HAP payments for RTA during 1998.
In June 1998, the Company filed a lawsuit against HUD
seeking to compel HUD to review certain budget based rent
increases submitted to HUD by the Company in 1995.
From June 1998 to March 1999, the Company was involved in
ongoing negotiations with HUD for the purpose of resolving these
and other disputes concerning other properties managed or
formerly managed by the Company or one of the Service Companies,
which were similarly the subject of Comprehensive Management
Reviews initiated by HUD in the Spring of 1997.
On March 12, 1999, the Company, Associated Estates
Management Company ("AEMC"), RTA, PVA Limited Partnership
("PVA"), the owner of Park Village Apartments, and HUD, entered
into a comprehensive settlement agreement (the "Settlement
Agreement") for the purpose of resolving certain disputes
concerning property operations at Rainbow Terrace Apartments,
Park Village Apartments ("Park Village"), Longwood Apartments
("Longwood") and Vanguard Apartments ("Vanguard"). Longwood was
managed by the Company until January 13, 1999. Park Village is
currently managed by the Company. Vanguard was formerly managed
by AEMC until December 1997. All four properties are encumbered
by HUD insured mortgages, governed by HUD imposed regulatory
agreements and subsidized by Section 8 Housing Assistance
Payments.
Under the terms of the Settlement Agreement, HUD has agreed
to pay RTA a retroactive rent increase totaling $1,784,467. HUD
has further agreed to release the Company, AEMC, RTA and the
owners and principals of PVA, Longwood and Vanguard from all
claims (other than tax or criminal fraud claims) regarding the
ownership or operation of Rainbow Terrace Apartments, Park
Village, Longwood and Vanguard. Moreover, HUD has agreed not to
issue a limited denial of participation, debarment or suspension,
program fraud civil remedy action or civil money penalty,
resulting from the ownership or management of any of these
projects, or to deny eligibility to any of their owners,
management agents or affiliates for participation in any HUD
program on such basis.
HUD's obligations under the Settlement Agreement are
conditioned upon the performance by the Company, RTA and PVA of
certain obligations, the most significant of which is the
obligation to identify, on or before April 11, 1999, prospective
purchasers for both Rainbow Terrace Apartments and Park Village
who are acceptable to HUD, and upon HUD's approval, convey those
projects to such purchasers. Alternatively, if RTA and PVA are
unable to identify prospective purchasers acceptable to HUD, then
RTA and PVA have agreed to convey both projects to HUD pursuant
to deeds in lieu of foreclosure. In either case (conveyance to a
HUD approved purchaser or deed in lieu of foreclosure), no
remuneration will be received by either RTA or PVA in return,
except for the $1,784,467 retroactive rent increase payable to
RTA mentioned above. At June 30, 1999, the Company had
receivables of $1,784,467 related to the 1995 and 1998
retroactive rental increase requests. At June 30, 1999, RTA had
net assets of approximately $1,827,319, including the retroactive
rent receivable of $1,784,467 due from HUD, and a remaining
amount due under the mortgage of $1,935,123. The transfer of RTA
to a purchaser which is acceptable to HUD or the direct transfer
of RTA to HUD is not expected to have a material impact on the
results of operations or cash flows of the Company. The Company
has excluded RTA's results of operations from its Consolidated
Statement of Income for 1999. RTA and PVA requested HUD to
extend the April 11, 1999 deadline for identification of
potential purchasers. HUD granted that request and the deadline
was extended to May 31, 1999. The Company believes that RTA and
PVA have satisfied their obligations to identify prospective
purchasers for those properties.
37
Affiliate Transactions
In the normal course of business, the Company had followed a
practice of advancing funds on behalf of, or holding funds for
the benefit of, affiliates which own real estate properties
managed by the Company or one of the Service Companies. One of
these affiliates, a corporation (the "Corporation") owned by a
member of the Company's Board of Directors and his siblings
(including the wife of the Company's Chairman and Chief Executive
Officer), which serves as general partner of certain affiliated
entities, had informed the Company that the Corporation had
caused the commencement of a review of expenditures relating to
approximately $2.9 million of capital calls from certain HUD
subsidized affiliated entities, to determine the appropriateness
of such expenditures and whether certain of such expenditures are
properly the responsibility of the Company. The Company
previously stated its belief that all expenditures were
appropriate and that the ultimate outcome of any disagreement
would not have a material adverse effect on the Company's
financial position, results of operations or cash flows.
On March 11, 1999, the Company, the Corporation, certain
shareholders of the Corporation and others entered into a
settlement agreement which resolved all disputes concerning the
aforementioned expenditures and other issues concerning the
management by the Company or one of its Service Companies of
various properties owned by entities in which the Corporation was
a general partner. Pursuant to that settlement agreement, the
Corporation and other affiliates funded all outstanding advances
made by the Company. At December 31, 1998, amounts outstanding
which were subsequently funded in the first quarter of 1999
pursuant to the settlement agreement were $4.7 million.
The following tables present information concerning the Multifamily
Properties owned by Associated Estates Realty Corporation.
Year Average
Date Type of Total Built or Unit Size
The Multifamily Properties Acquired Location Construction Units Rehab. Sq. Ft.
------------------------------- -------- ------------ ------------ ----- -------- -------
MARKET RATE
Acquired Properties
Arizona
20th & Campbell Apartments 06/30/98 Phoenix Garden 204 1989 982
California
Desert Oasis Apartments 06/30/98 Palm Desert Garden 320 1990 875
Florida
Windsor Pines 10/23/98 Pembroke Pines Garden 368 1998 1,132
Georgia
Morgan Place Apartments 06/30/98 Atlanta Garden 186 1989 679
Indiana
Steeplechase at Shiloh Crossing Apts08/11/98 Indianapolis Garden 264 1998 929
Maryland
The Gardens at Annen Woods 06/30/98 Metro D.C. Garden 132 1987 1,269
Hampton Point Apartments 06/30/98 Metro D.C. Garden 352 1986 817
--- ----
484 940
Michigan
Georgetown-Phase II 02/01/99 Fenton Garden 120 1998 1,269
North Carolina
Windsor Falls Apartments 06/30/98 Raleigh Garden 276 1994 979
Central Ohio
Bradford at Easton 05/01/98 Columbus Garden 324 1996 1,010
Northeastern Ohio
Village at Western Reserve 08/01/98 Streetsboro Ranch 108 1998 999
Residence at Barrington 06/30/99 Aurora Gdn/Tnhms 285 1999 1,131
--- -----
393 1,095
Texas
Fleetwood Apartments 06/30/98 Houston Garden 104 1993 1,019
-----
3,043
Repositioned Properties
Woodlands of North Royalton
fka Somerset West (a) IPO North Royalton Gdn/Tnhms 197 1982 1,038
Williamsburg at Greenwood Village 02/18/94 Sagamore Hills Townhomes 260 1990 938
--- ----
457 981
CORE PORTFOLIO PROPERTIES
Market rate
Central Ohio
Arrowhead Station 02/28/95 Columbus Townhomes 102 1987 1,344
Bedford Commons 12/30/94 Columbus Townhomes 112 1987 1,157
Bolton Estates 07/27/94 Columbus Garden 196 1992 687
Colony Bay East 02/21/95 Columbus Garden 156 1994 903
Heathermoor 08/18/94 Worthington Gdn/Tnhms 280 1989 829
Kensington Grove 07/17/95 Westerville Gdn/Tnhms 76 1995 1,109
Lake Forest 07/28/94 Columbus Garden 192 1994 788
Muirwood Village at Bennell 03/07/94 Columbus Ranch 164 1988 769
Muirwood Village at London 03/03/94 London Ranch 112 1989 769
For the three months ending For the three months ending
June 30, 1999 June 30, 1998
---------------------------------- ---------------------------------
Average Average Rent Average Average Rent
Economic Physical Per Economic Physical Per
The Multifamily Properties Occupancy Occupancy Suite Sq. Ft. Occupancy Occupancy Suite Sq. Ft.
---------------------------- --------- --------- ----- ------- --------- --------- ----- ------
MARKET RATE
Acquired Properties
Arizona
20th & Campbell Apartments 87.9% 87.7% $ 843 $ 0.86 N/A 93.1% N/A N/A
California
Desert Oasis Apartments 93.8% 93.4% $ 691 $ 0.79 N/A 92.2% N/A N/A
Florida
Windsor Pines 91.2% 92.4% $1,039 $ 0.92 N/A N/A N/A N/A
Georgia
Morgan Place Apartments 92.6% 99.5% $ 809 $ 1.19 N/A 94.6% N/A N/A
Indiana
Steeplechase at Shiloh 77.5% 85.6% $ 769 $ 0.83 N/A N/A N/A N/A
Crossing Apts
Maryland
The Gardens at Annen Woods 90.1% 95.5% $ 936 $ 0.74 N/A 97.7% N/A N/A
Hampton Point Apartments 96.3 96.9 809 0.99 N/A 96.0 N/A N/A
---- ---- ----- ------ --- ----- --- ---
94.4% 96.5% $ 844 $ 0.90 N/A 96.5% N/A N/A
Michigan
Georgetown-Phase II 96.9% 96.7% $762 $ 0.60 N/A N/A N/A N/A
North Carolina
Windsor Falls Apartments 84.0% 90.2% $ 776 $ 0.79 N/A 94.9% N/A N/A
Central Ohio
Bradford at Easton 92.6% 97.5% $ 708 $ 0.70 85.8% 95.4% $ 715 $ 0.71
Northeastern Ohio
Village at Western Reserve 95.6% 96.3% $ 783 $ 0.78 N/A N/A N/A N/A
Residence at Barrington N/A 96.8 N/A N/A N/A N/A N/A N/A
----- ----- ----- ------
95.6% 96.7% $ 783 $ 0.78
Texas
Fleetwood Apartments 90.8% 92.3% $ 931 $ 0.91 N/A 93.3% N/A N/A
Repositioned Properties
Woodlands of North Royalton
fka Somerset West (a) 90.0% 98.0% $ 708 $ 0.68 81.1% 83.2% $ 698 $ 0.67
Williamsburg at Greenwood
Village 92.5 98.1 879 0.94 89.5 94.2 871 0.93
---- ---- ----- ------ ----- ----- ----- ------
91.6% 98.0% $ 805 $ 0.82 86.3% 89.5% $ 797 $ 0.81
CORE PORTFOLIO PROPERTIES
Market rate
Central Ohio
Arrowhead Station 94.4% 96.1% $ 727 $ 0.54 91.6% 93.1% $ 709 $ 0.53
Bedford Commons 91.3 92.0 788 0.68 94.8 97.3 786 0.68
Bolton Estates 88.2 96.4 472 0.69 96.8 97.4 463 0.67
Colony Bay East 87.3 92.3 530 0.59 92.6 94.2 524 0.58
Heathermoor 97.3 97.5 559 0.67 97.2 97.9 555 0.67
Kensington Grove 91.9 98.7 781 0.70 92.6 90.8 775 0.70
Lake Forest 93.1 97.9 555 0.70 92.0 95.3 544 0.69
Muirwood Village at Bennell 92.5 97.6 515 0.67 92.7 94.5 514 0.67
Muirwood Village at London 95.2 95.5 512 0.67 93.9 97.3 509 0.66
39
Year Average
Date Type of Total Built or Unit Size
The Multifamily Properties Acquired Location Construction Units Rehab. Sq. Ft.
----------------------------- --------- -------------- ------------ ------ -------- ------
Muirwood Vllg at Mt. Sterling 03/03/94 Mt. Sterling Ranch 48 1990 769
Muirwood Vllg at Zanesville 03/07/94 Zanesville Ranch 196 1991-95 769
Oak Bend Commons 05/30/97 Canal Winchester Garden/Tnhm 102 1997 1,110
Pendleton Lakes East 08/25/94 Columbus Garden 256 1990-93 899
Perimeter Lakes 09/20/96 Dublin Gdn/Tnhms 189 1992 999
Residence at Christopher Wren 03/14/94 Gahanna Gdn/Tnhms 264 1993 1,062
Residence at Turnberry 03/16/94 Pickerington Gdn/Tnhms 216 1991 1,182
Saw Mill Village 04/22/97 Columbus Garden 340 1987 1,161
Sheffield at Sylvan 03/03/94 Circleville Ranch 136 1989 791
Sterling Park 08/25/94 Grove City Garden 128 1994 763
The Residence at Newark 03/03/94 Newark Ranch 112 1993-94 868
The Residence at Washington 02/01/96 Wash. Ct. House Ranch 72 1995 862
Wyndemere 09/21/94 Franklin Ranch 128 1991-95 768
----- ---
3,577 934
Cincinnati, Ohio
Remington Place Apartments 03/31/97 Cincinnati Garden 234 1988-90 830
Florida
Cypress Shores 02/03/98 Coconut Creek Garden 300 1991 991
Georgia
The Falls 02/03/98 Atlanta Garden 520 1986 963
Indianapolis, Indiana
The Gables at White River 02/06/97 Indianapolis Garden 228 1991 974
Waterstone Apartments 08/29/97 Indianapolis Garden 344 1997 984
--- ---
572 980
Maryland
Reflections 02/03/98 Metro D.C. Garden 184 1985 1,020
Northeastern Ohio
Bay Club IPO Willowick Garden 96 1990 925
Edgewater Landing 04/20/94 Cleveland High Rise 241 1988r 585
Gates Mills III IPO Mayfield Hts. High Rise 320 1978 874
Holly Park IPO Kent Garden 192 1990 875
Huntington Hills IPO Stow Townhomes 85 1982 976
Mallard's Crossing 02/16/95 Medina Garden 192 1990 998
Park Place IPO Parma Hts. Mid Rise 164 1966 760
Pinecrest IPO Broadview Hts. Garden 96 1987 r 598
Portage Towers IPO Cuyahoga Falls High Rise 376 1973 869
The Triangle (b) IPO Cleveland High Rise 273 1989 616
Timbers IPO Broadview Hts. Garden 96 1987-89 930
Washington Manor 07/01/94 Elyria Garden 120 1963-64 541
Westchester Townhouses IPO Westlake Townhomes 136 1989 1,000
Westlake Townhomes IPO Westlake Townhomes 7 1985 1,000
Winchester Hills I (c) IPO Willoughby Hills High Rise 362 1972 822
Winchester Hills II IPO Willoughby Hills High Rise 362 1979 822
----- ---
3,118 809
Michigan
Arbor Landings Apartments 01/20/95 Ann Arbor Garden 168 1990 1,116
Aspen Lakes 09/04/96 Grand Rapids Garden 144 1981 789
Central Park Place 12/29/94 Grand Rapids Garden 216 1988 850
Clinton Place 08/25/97 Clinton Twp. Garden 202 1988 954
Country Place Apartments 06/19/95 Mt. Pleasant Garden 144 1987-89 859
Georgetown Park Apartments 12/28/94 Fenton Garden 360 1987-96 1,005
The Landings at the Preserve 09/21/95 Battle Creek Garden 190 1990-91 952
The Oaks and Woods at Hampton 08/08/95 Rochester Hills Gdn/Tnhms 544 1986-88 1,050
Spring Brook Apartments 06/20/96 Holland Gdn/Tnhms 168 1986-88 818
Spring Valley Apartments 10/31/97 Farmington Hills Garden 224 1987 893
Summer Ridge Apartments 04/01/96 Kalamazoo Garden 248 1989-91 960
----- ---
2,608 955
Toledo, Ohio
Country Club Apartments 02/19/98 Toledo Garden 316 1989 811
Hawthorne Hills Apartments 05/14/97 Toledo Garden 88 1973 1,145
Kensington Village 09/14/95 Toledo Gdn/Tnhms 506 1985-90 1,072
Vantage Villa 10/30/95 Toledo Garden 150 1974 935
----- ---
1,060 981
For the three months ending For the three months ending
------------------------------- ---------------------------------
June 30, 1999 June 30, 1998
------------------------------- ---------------------------------
Average Average Rent Average Average Rent
Economic Physical Per Economic Physical Per
The Multifamily Properties Occupancy Occupancy Suite Sq. Ft. Occupancy Occupancy Suite Sq. Ft.
----------------------------- --------- --------- ----- ------- --------- --------- ----- -------
Muirwood Vllg at Mt. Sterling 92.2% 89.6% $ 488 $ 0.64 96.3% 100.0% $ 496 $ 0.65
Muirwood Village at Zanesville 92.7 96.9 520 0.68 92.8 95.9 522 0.68
Oak Bend Commons 93.1 100.0 744 0.67 93.8 99.0 700 0.63
Pendleton Lakes East 91.3 94.9 541 0.60 92.6 96.9 527 0.59
Perimeter Lakes 96.3 96.8 711 0.71 94.1 98.9 721 0.72
Residence at Christopher Wren 90.4 91.7 743 0.70 92.2 94.7 742 0.70
Residence at Turnberry 92.5 96.3 749 0.63 93.9 96.8 743 0.63
Saw Mill Village 92.7 95.9 752 0.65 90.7 94.1 752 0.65
Sheffield at Sylvan 98.2 99.3 516 0.65 98.3 98.5 510 0.65
Sterling Park 94.3 99.2 550 0.72 97.1 100.0 555 0.73
The Residence at Newark 96.1 94.6 573 0.66 98.2 98.2 568 0.65
The Residence at Washington 97.0 94.4 522 0.61 92.7 100.0 532 0.62
Wyndemere 97.1 95.3 546 0.71 95.8 98.4 549 0.71
----- ----- ----- ------ ----- ----- ----- ------
93.2% 95.9% $ 615 $ 0.66 93.8% 96.5% $ 611 $ 0.65
Cincinnati, Ohio
Remington Place Apartments 95.8% 97.0% $ 659 $ 0.79 91.5% 94.9% $ 650 $ 0.78
Florida
Cypress Shores 90.4% 94.3% $ 868 $ 0.88 88.3% 87.0% $ 841 $ 0.85
Georgia
The Falls 79.9% 89.8% $ 728 $ 0.76 75.4% 88.3% $ 713 $ 0.74
Indianapolis, Indiana
The Gables at White River 95.4% 91.2% $ 738 $ 0.76 91.9% 95.6% $ 731 $ 0.75
Waterstone Apartments 93.7 98.3 796 0.81 94.4 96.8 799 0.81
----- ---- ----- ------ ----- ----- ----- ------
94.3% 95.5% $ 773 $ 0.79 93.5% 96.3% $ 772 $ 0.79
Maryland
Reflections 95.2% 96.7% $ 903 $ 0.89 94.7% 95.1% $ 879 $ 0.86
Northeastern Ohio
Bay Club 93.4% 97.9% $ 643 $ 0.70 99.7% 97.9% $639 $0.69
Edgewater Landing 97.1 98.8 421 0.72 96.6 95.0 416 0.71
Gates Mills III 89.4 96.5 680 0.78 90.4 96.9 701 0.80
Holly Park 97.7 99.0 712 0.81 99.5 99.5 702 0.80
Huntington Hills 94.5 97.6 680 0.70 96.5 95.3 662 0.68
Mallard's Crossing 95.0 98.4 709 0.71 96.0 96.9 721 0.72
Park Place 97.4 95.7 511 0.67 93.6 95.1 525 0.69
Pinecrest 96.7 97.9 466 0.78 93.9 97.9 469 0.78
Portage Towers 96.0 97.6 583 0.67 95.7 96.5 588 0.68
The Triangle (b) 97.8 96.3 955 1.55 97.7 97.1 938 1.52
Timbers 93.6 95.8 691 0.74 92.5 97.9 707 0.76
Washington Manor 97.2 96.7 408 0.75 96.0 97.5 393 0.73
Westchester Townhouses 96.2 100.0 775 0.78 91.8 97.8 787 0.79
Westlake Townhomes 99.4 100.0 833 0.83 99.3 100.0 822 0.82
Winchester Hills I (c) 94.4 98.3 563 0.69 92.3 97.2 573 0.70
Winchester Hills II 90.3 98.3 588 0.72 88.5 97.5 600 0.73
---- ---- ----- ------ ---- ---- ----- ------
94.9% 97.7% $ 630 $ 0.78 94.2% 97.0% $ 634 $ 0.78
Michigan
Arbor Landings Apartments 92.5% 96.4% $ 917 $ 0.82 98.8% 98.8% $ 861 $ 0.77
Aspen Lakes 97.0 98.6 559 0.71 95.4 97.9 559 0.71
Central Park Place 96.9 99.1 627 0.74 95.8 96.8 613 0.72
Clinton Place 97.0 97.5 703 0.74 95.1 95.0 700 0.73
Country Place Apartments 98.8 99.3 565 0.66 94.1 95.8 550 0.64
Georgetown Park Apartments 87.3 95.3 677 0.67 93.2 96.4 747 0.74
The Landings at the Preserve 86.7 86.3 773 0.81 98.4 95.8 757 0.80
The Oaks and Woods at Hampton 96.8 98.0 818 0.78 94.4 98.5 813 0.77
Spring Brook Apartments 97.8 98.2 501 0.61 98.5 97.6 507 0.62
Spring Valley Apartments 94.6 98.2 825 0.92 95.8 100.0 818 0.92
Summer Ridge Apartments 95.2 98.8 674 0.70 91.5 95.2 701 0.73
---- ---- ----- ------ ---- ---- ----- ------
94.2% 96.9% $ 715 $ 0.75 95.1% 97.2% $ 719 $ 0.75
Toledo, Ohio
Country Club Apartments 91.8% 95.6% $ 635 $ 0.78 97.0% 97.5% $ 627 $ 0.77
Hawthorne Hills Apartments 93.4 97.7 584 0.51 95.8 100.0 554 0.48
Kensington Village 93.4 93.5 616 0.57 98.3 99.2 577 0.54
Vantage Villa 91.4 98.0 589 0.63 95.1 97.3 577 0.62
---- ---- ----- ------ ---- ---- ----- ------
92.6% 95.1% $ 615 $ 0.63 97.3% 98.5% $ 590 $ 0.60
40
Year Average
Date Type of Total Built or Unit Size
The Multifamily Properties Acquired Location Construction Units Rehab. Sq. Ft.
-------------------------- -------- -------------- ------------ ----- ------- ---------
Pittsburgh, Pennsylvania
Chestnut Ridge 03/01/96 Pittsburgh Garden 468 1986 769
Core Market Rate 12,641 909
GOVERNMENT ASST.-ELDERLY
Ellet Development IPO Akron High Rise 100 1978 589
Hillwood I IPO Akron High Rise 100 1976 570
Puritas Place (d) IPO Cleveland High Rise 100 1981 518
Riverview IPO Massillon High Rise 98 1979 553
State Road Apartments IPO Cuyahoga Falls Garden 72 1977 r 750
Statesman II IPO Shaker Heights Garden 47 1987 r 796
Sutliff Apartments II IPO Cuyahoga Falls High Rise 185 1979 577
Tallmadge Acres IPO Tallmadge Mid Rise 125 1981 641
Twinsburg Apartments IPO Twinsburg Garden 100 1979 554
Village Towers IPO Jackson Twp. High Rise 100 1979 557
West High Apartments IPO Akron Mid Rise 68 1981 r 702
----- ---
1,095 602
GOVERNMENT ASST.-FAMILY
Jennings Commons IPO Cleveland Garden 50 1981 823
Shaker Park Gardens II IPO Warrensville Garden 151 1964 753
--- ---
201 770
----- ---
1,296 628
CONGREGATE CARE
Gates Mills Club IPO Mayfield High Rise 120 1980 721
Heights
The Oaks IPO Westlake Garden 50 1985 672
------ ---
170 707
------ ---
14,107 881
Joint Venture Properties
Northeastern Ohio
Market rate
Americana IPO Euclid High Rise 738 1968 803
College Towers IPO Kent Mid Rise 380 1969 662
Euclid House IPO Euclid Mid Rise 126 1969 654
Gates Mills Towers IPO Mayfield Hts. High Rise 760 1969 856
Highland House IPO Painesville Garden 36 1964 539
Watergate IPO Euclid High Rise 949 1971 831
----- ---
2,989 789
Government Asst.-Family
Lakeshore Village IPO Cleveland Garden 108 1982 786
------ ---
3,097 789
------ ---
Core 17,204 874
------ ---
Portfolio average 20,704 878
====== ===
For the three months ending For the three months ending
-------------------------------- -----------------------------------
June 30, 1999 June 30, 1998
-------------------------------- -----------------------------------
Average Average Rent Average Average Rent
Economic Physical Per Economic Physical Per
The Multifamily Properties Occupancy Occupancy Suite Sq. Ft. Occupancy Occupancy Suite Sq. Ft.
--------------------------- --------- --------- ----- ------- --------- --------- ----- -------
Pittsburgh, Pennsylvania
Chestnut Ridge 82.4% 84.4% $ 729 $ 0.95 95.0% 98.3% $ 760 $ 0.99
---- ---- ----- ------ ---- ----- ----- ------
Core Market Rate 92.8% 95.8% $ 666 $ 0.73 93.5% 96.4% $ 664 $ 0.73
GOVERNMENT ASST.-ELDERLY
Ellet Development 100.0% 100.0% $ 585 $0.99 100.0% 100.0% $ 587 $1.00
Hillwood I 99.3 100.0 605 1.06 99.7 99.0 594 1.04
Puritas Place (d) 100.0 100.0 793 1.53 100.0 100.0 782 1.51
Riverview 97.0 100.0 602 1.09 100.0 100.0 591 1.07
State Road Apartments 100.0 100.0 619 0.83 100.0 100.0 596 0.79
Statesman II 100.0 97.9 647 0.81 100.0 100.0 646 0.81
Sutliff Apartments II 98.7 100.0 596 1.03 100.0 100.0 586 1.02
Tallmadge Acres 100.0 100.0 658 1.03 100.0 100.0 658 1.03
Twinsburg Apartments 100.0 100.0 602 1.09 100.0 100.0 603 1.09
Village Towers 100.0 99.0 576 1.03 100.0 99.0 579 1.04
West High Apartments 94.9 100.0 822 1.17 100.0 100.0 792 1.13
----- ----- ----- ------ ----- -----
99.6% 99.8% $ 638 $ 1.06 100.0% 99.8% $ 630 $ 1.05
GOVERNMENT ASST.-FAMILY
Jennings Commons 100.0% 100.0% $ 674 $ 0.82 99.9% 100.0% $ 674 $ 0.82
Shaker Park Gardens II 97.8 98.0 568 0.75 99.9 100.0 539 0.72
---- ---- ----- ------ ----- -----
98.5 98.5 594 0.77 99.9 100.0 573 0.74
---- ---- ----- ------ ----- -----
99.4% 99.6% $ 631 $ 1.00 100.0% 99.8% $ 621 $ 0.99
CONGREGATE CARE
Gates Mills Club 90.6% 91.7% $ 916 $ 1.27 92.7% 95.0% $ 872 $ 1.21
The Oaks 93.4 98.0 1,075 1.60 88.7 86.0 1,024 1.52
---- ---- ----- ------ ---- ----
91.5 93.5 962 1.36 91.4 92.4 917 1.30
---- ---- ----- ------ ---- ----
93.3% 96.1% $ 667 $ 0.76 94.0% 96.7% $ 663 $ 0.75
Joint Venture Properties
Northeastern Ohio
Market rate
Americana 92.1% 96.5% $ 481 $ 0.60 91.3% 93.1% $ 490 $ 0.61
College Towers 94.1 90.3 418 0.63 96.2 99.2 409 0.62
Euclid House 92.6 96.0 443 0.68 91.4 94.4 446 0.68
Gates Mills Towers 92.2 96.5 694 0.81 94.8 96.8 707 0.83
Highland House 97.2 97.2 428 0.79 97.6 97.2 416 0.77
Watergate 89.4 95.0 546 0.66 92.6 94.6 548 0.66
---- ---- ----- ------ ---- ---- ----- ------
91.7% 95.2% $ 538 $ 0.68 93.5% 95.4% $ 542 $ 0.69
Government Asst.-Family
Lakeshore Village 99.7% 99.1% $ 670 $ 0.85 100.0% 100.0% $ 666 $ 0.85
---- ---- ----- ------ ----- ----- ----- ------
92.2 95.4 544 0.69 93.9 95.6 548 0.69
---- ---- ----- ------ ----- ----- ----- ------
Core 93.3% 96.0% $ 658 $ 0.75 94.0% 96.5% $ 655 $ 0.75
---- ---- ----- ------ ---- ---- ----- ------
Portfolio average 92.7% 95.8% $ 684 $ 0.78 93.6% 95.6% $ 618 $ 0.70
==== ==== ===== ====== ===== ===== ===== ======
<FN>
______________
(a) Woodlands of North Royalton (fka Somerset West) has 39 Contract Units and 158
Market-rate units.
(b) The Triangle also contains 63,321 square feet of office/retail space.
(c) The Company acquired a noteholder interest entitling the Company to substantially
all cash flows from operations. The Company has certain rights under a security
agreement to foreclose on the property to the extent that the unpaid principal
and interest on the underlying notes exceed seven years equivalent principal and
interest payments.
(d) The property was developed in 1981 subject to a warranty deed provision which states
that the assignment of fee simple title of the property to the Company shall expire
in 2037.
r = Rehabilitated
</FN>
41
HISTORICAL FUNDS FROM OPERATIONS AND DISTRIBUTABLE CASH FLOW
Industry analysts generally consider Funds From Operations
("FFO") to be an appropriate measure of the performance of an
equity REIT. FFO is defined as net income (computed in
accordance with generally accepted accounting principles),
excluding gains (or losses) from sales of property, non-recurring
and extraordinary items, plus depreciation on real estate assets
and after adjustments for unconsolidated joint ventures.
Adjustments for joint ventures are calculated to reflect FFO on
the same basis. FFO does not represent cash generated from
operating activities in accordance with generally accepted
accounting principles and is not necessarily indicative of cash
available to fund cash needs and should not be considered an
alternative to net income as an indicator of the Company's
operating performance or as an alternative to cash flow as a
measure of liquidity. Distributable Cash Flow ("DCF") is
calculated as FFO less capital expenditures funded by operations
and amortization of deferred financing fees. In 1999, the
Company has re-evaluated how it was calculating capital
expenditures funded by operations. Reclassifications were made
to the prior year to incorporate this refinement. The Company
believes that in order to facilitate a clear understanding of the
consolidated historical operating results of the Company, FFO and
DCF should be presented in conjunction with net income as
presented in the consolidated financial statements and data
included elsewhere in this report.
FFO and Funds Available for Distribution ("Distributable
Cash Flow") for the six month period ended June 30, 1998 and 1997
are summarized in the following table:
For the three For the six
months months
ended June 30, ended June 30,
(In thousands) 1999(1) 1998 1999(1) 1998
------- ------- ------- -------
Net income applicable to common shares $ 9,979 $ 3,588 $ 14,797 $ 6,742
Depreciation on real estate assets
Wholly owned properties 7,077 5,205 14,179 10,047
Joint venture properties 136 107 276 212
Amortization of intangible assets 155 - 345 -
Extraordinary item - loss 1,809 125 1,809 125
Nonrecurring expenses 937 51 1,319 51
Cumulative effect of a change in
accounting principle - - (4,320) -
Additional operating expenses - - 874 -
Gain on sale of properties (12,830) - (12,830) -
------ ----- ------ ------
Funds From Operations 7,263 9,076 16,449 17,177
Depreciation - other assets 810 320 1,468 593
Amortization of deferred financing fees 313 195 661 406
Fixed asset additions (2,632) (3,452) (4,112) (4,056)
Fixed asset additions - joint venture properties (75) (1) (244) (21)
------- ------- -------- -------
Distributable Cash Flow $ 5,679 $ 6,138 $ 14,222 $14,099
======= ======= ======== =======
Weighted average shares 22,359 17,133 22,516 15,321
<FN>
(1)DCF could be increased by up to the full amount of the gain on
sale of operating properties, $12,830,000, should the 1031 like-
kind exchange not take place. At a minimum, DCF would likely be
increased by $3,400,000 which is the Company's taxable gain.
This would be a one time adjustment.
</FN>
42
PART II
OTHER INFORMATION
Except to the extent noted below, the items required in
Part II are inapplicable or, if applicable, would be answered in
the negative and have been omitted.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY-HOLDERS
On May 12, 1999, the Company held its Annual Meeting of
Shareholders. Following are the matters the Company's
shareholders voted upon and the results of the vote:
For Withhold Authority
------------- ------------------
(a) To fix the number of directors at 17,070,567.794 1,204,672.720
nine;
(b) The election of the following
directors:
Albert T. Adams 17,415,085.191 683,585.323
James M. Delaney 17,447,121.191 651,549.323
Jeffrey I. Friedman 16,599,899.559 1,498,770.955
Gerald C. McDonough 17,460,625.420 638,045.094
Mark L. Milstein 16,559,222.897 1,539,447.617
Frank E. Mosier 17,453,725.420 644,945.094
Richard T. Schwarz 17,463,095.191 635,575.323
Louis E. Vogt 17,460,771.191 637,899.323
Larry E. Wright 17,465,184.191 633,486.323
43
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Filed herewith or
incorporated
herein by
Number Title reference
------ ----------------------------------------------------------- --------------------
2.01 Second Amended and Restated Agreement and Plan of Merger by Exhibit 2.01 to Form
and among the Company, MIG Realty Advisors, Inc. ("MIGRA") 8-K filed March 31,
and the MIGRA stockholders dated as of March 30, 1998 1998.
3.1 Second Amended and Restated Articles of Incorporation of the Exhibit 3.1 to Form
Company S-11 filed June 30,
1994 (File No. 33-
80950 as amended)
3.2 Code of Regulations of the Company Exhibit 3.2 to Form
S-11 filed June 30,
1994 (File No. 33-
80950 as amended).
4.1 Specimen Stock Certificate Exhibit 3.1 to Form
S-11 filed September
2, 1993 (File No.
33-68276 as
amended).
4.2 Form of Indemnification Agreement Exhibit 4.2 to Form
S-11 filed September
2, 1993 (File No.
33-68276 as
amended).
4.3 Promissory Note dated October 23, 1991 from Triangle Exhibit 4.3 to Form
Properties Limited Partnership, et. al., in favor of PFL S-11 filed September
Life Insurance Company; Open End Mortgage from Triangle 2, 1993 (File No.
Properties Limited Partnership I, et. al., in favor of PFL 33-68276 as
Life Insurance Company (The Registrant undertakes to provide amended).
additional long-term loan documents upon request).
4.4 Promissory Note dated February 28, 1994 in the amount of $25 Exhibit 4.4 to Form
million. Open-End Mortgage Deed and Security Agreement from 10-K filed March 31,
AERC to National City Bank (Westchester Townhouse); Open-End 1993.
Mortgage Deed and Security Agreement from AERC to National
City Bank (Bay Club); Open-End Mortgage Deed and Security
Agreement from Winchester II Apartments, Inc. to National
City Bank (Winchester II Apartments); and Open-End Mortgage
Deed and Security Agreement from Portage Towers Apartments,
Inc. to National City Bank (Portage Towers Apartments).
4.5 Form of Promissory Note and Form of Mortgage and Security Exhibit 4.5 filed
Agreement dated May 10, 1999 from AERC to The Chase herewith.
Manhattan Bank.
4.6 Indenture dated as of March 31, 1995 between Associated Exhibit 4.6 to Form
Estates Realty Corporation and National City Bank. 10-Q filed May 11,
1995.
4.7 $75 Million 8-3/8% Senior Note due April 15, 2000 Exhibit 4.7 to Form
10-Q filed May 11,
1995.
4.8e Credit Agreement dated June 30, 1998, by and among Exhibit 4.8e to Form
Associated Estates Realty Corporation, as Borrower; the 10-Q filed August
banks and lending institutions identified therein as Banks; 14, 1998.
National City Bank, as Agent and Bank of America National
Trust and Savings Association, as Documentation Agent
44
4.8f First Amendment to Credit Agreement by and among Associated Exhibit 4.8f to Form
Estates Realty Corporation, as Borrower; National City Bank, 10-Q filed November
as Managing Agent for itself and on behalf of the Existing 16, 1998.
Banks and First Merit Bank, N.A. and Southtrust Bank, N.A.
as the New Banks
4.8g Second Amendment to Credit Agreement by and among Associated Exhibit 4.8g to Form
Estates Realty Corporation, as Borrower, National City Bank, 10Q filed November
as Managing Agent for itself and on behalf of the Existing 16, 1998.
Banks and National City Bank, Bank of America National
Commerzbank Aktiengesellschaft.
4.8h Third Amendment to Credit Agreement by and among Associated Exhibit 4.8h to Form
Estates Realty Corporation, as Borrower, National City Bank, 10-K filed March 30,
as Managing Agent, Bank of America National Trust & Savings 1999.
Association, as Documentation Agent and the banks identified
therein.
4.9 Form of Medium-Term Note-Fixed Rate-Senior Security. Exhibit 4(I) to Form
S-3 filed December
7, 1995 (File No.
33-80169) as
amended.
4.10 Form of Preferred Share Certificate. Exhibit 4.1 to Form
8-K filed July 12,
1995.
4.11 Form of Deposit Agreement and Depositary Receipt. Exhibit 4.2 to Form
8-K filed July 12,
1995.
4.12 Ten Million Dollar 7.10% Senior Notes Due 2002. Exhibit 4.12 to Form
10-K filed March 28,
1996.
10 Associated Estates Realty Corporation Directors Deferred Exhibit 10 to Form
Compensation Plan. 10-Q filed November
14, 1996
10.1 Registration Rights Agreement among the Company and certain Exhibit 10.1 to Form
holders of the Company's Common Shares. S-11 filed September
2, 1993 (File No.
33-68276 as
amended).
10.2 Stock Option Plan Exhibit 10.2 to Form
S-11 filed September
2, 1993 (File No.
33-68276 as
amended).
10.3 Amended and Restated Employment Agreement between the Exhibit 10.1 to Form
Company and Jeffrey I. Friedman. 10-Q filed May 13,
1996.
10.4 Equity-Based Incentive Compensation Plan Exhibit 10.4 to Form
10-K filed March 29,
1995.
10.5 Long-Term Incentive Compensation Plan Exhibit 10.5 to Form
10-K filed March 29,
1995.
45
10.6 Lease Agreement dated November 29, 1990 between Royal Exhibit 10.6 to Form
American Management Corporation and Airport Partners Limited 10-K filed March 29,
Partnership. 1995.
10.7 Sublease dated February 28, 1994 between the Company as Exhibit 10.7 to Form
Sublessee, and Progressive Casualty Insurance Company, as 10-K filed March 29,
Sublessor. 1995.
10.8 Assignment and Assumption Agreement dated May 17, 1994 Exhibit 10.8 to Form
between the Company, as Assignee, and Airport Partners 10-K filed March 29,
Limited Partnership, as Assignor. 1995.
10.9 Form of Restricted Agreement dated by and among the Company Exhibit 10.9 to Form
and Its Independent Directors. 10-K filed March 28,
1996.
10.10 Pledge Agreement dated May 23, 1997 between Jeffrey I. Exhibit 10.01 to
Friedman and the Company. Form 10-Q filed
August 8, 1997
10.11 Secured Promissory Note dated May 23, 1997 in the amount of Exhibit 10.02 to
$1,671,000 executed by Jeffrey I. Friedman in favor of the Form 10-Q filed
Company. August 8, 1997
10.12 Unsecured Promissory Note dated May 23, 1997 in the amount Exhibit 10.03 to
of $1,671,000 executed by Jeffrey I. Friedman in favor of Form 10-Q filed
the Company. August 8, 1997
10.14 Form of Share Option Agreement by and among the Company and Exhibit 10.14 to
Its Independent Directors. Form 10-K filed
March 30, 1993.
10.15 Agreement dated March 11, 1999 by and among the Company and Exhibit 10.15 to
The Milstein Affiliates Form 10-Q filed May
17, 1999.
10.16 Agreement dated March 11, 1999 by and among the Company and Exhibit 10.16 to
The Milstein Affiliates Form 10-Q filed May
17, 1999.
10.17 Separation Agreement and Release dated January 8, 1999 by Exhibit 10.17 to
and between the Company and Dennis W. Bikun Form 10-Q filed May
17, 1999.
10.18 Separation Agreement and Release dated June 30, 1999 by and Exhibit 10.18 filed
between the Company and Larry E. Wright herewith.
18.1 Letter regarding change in accounting principles Exhibit 18.1 to Form
10-Q filed May 17,
1999.
27 Financial Data Schedule Exhibit 27 filed
herewith.
(b) Reports on Form 8-K
None
46
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act
of 1934, the Registrant has duly caused this report to be signed
on its behalf by the undersigned thereunto duly authorized.
ASSOCIATED ESTATES REALTY CORPORATION
August 13, 1999 /s/ Kathleen L. Gutin
(Date) Kathleen L. Gutin, Vice President, Chief
Financial Officer and Treasurer