UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTER ENDED SEPTEMBER 30, 2002
------------------
Commission File Number 1-9240
------
TRANSCONTINENTAL REALTY INVESTORS, INC.
--------------------------------------------------------
(Exact Name of Registrant as Specified in Its Charter)
Nevada 94-6565852
- --------------------------------- -------------------
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
1800 Valley View Lane, Suite 300, Dallas, Texas 75234
- --------------------------------------------------------------------------------
(Address of Principal Executive Office) (Zip Code)
(469) 522-4200
------------------------------
(Registrant's Telephone Number,
Including Area Code)
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X . No .
--- ---
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of
Common Stock, as of the latest practicable date.
Common Stock, $.01 par value 8,072,594
- ---------------------------- ---------------------------------
(Class) (Outstanding at November 1, 2002)
1
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
- -----------------------------
The accompanying Consolidated Financial Statements as of and for the three and
nine month periods ended September 30, 2002, have not been audited by
independent certified public accountants, but in the opinion of the management
of Transcontinental Realty Investors, Inc. ("TCI"), all adjustments (consisting
of normal recurring accruals) necessary for a fair presentation of TCI's
consolidated financial position, consolidated results of operations and
consolidated cash flows at the dates and for the periods indicated, have been
included.
TRANSCONTINENTAL REALTY INVESTORS, INC.
CONSOLIDATED BALANCE SHEETS
September 30, December 31,
2002 2001
------------- ------------
(dollars in thousands,
except per share)
Assets
Real estate held for investment ............................................... $ 763,800 $ 712,832
Less - accumulated depreciation ............................................... (94,780) (90,661)
------------- ------------
669,020 622,171
Real estate held for sale ..................................................... 40,747 516
Notes and interest receivable
Performing (including $12,574 in 2002 and $1,970 in
2001 from related parties) ............................................... 27,345 17,620
Nonperforming, nonaccruing ................................................. -- 5,247
----------- ------------
27,345 22,867
Less--allowance for estimated losses .......................................... (901) (818)
----------- ------------
26,444 22,049
Investment in real estate entities ............................................ 13,341 14,230
Cash and cash equivalents ..................................................... 1,717 10,346
Other assets (including $24,717 in 2002 and
$14,170 in 2001 from affiliates and related
parties) ................................................................... 53,302 39,840
----------- ------------
$ 803,571 $ 709,152
=========== ============
The accompanying notes are an integral part of these Consolidated Financial
Statements.
2
TRANSCONTINENTAL REALTY INVESTORS, INC.
CONSOLIDATED BALANCE SHEETS - Continued
September 30, December 31,
2002 2001
------------- ------------
(dollars in thousands,
except per share)
Liabilities and Stockholders' Equity
Liabilities
Notes and interest payable.......................................................... $ 522,243 $ 461,037
Liabilities related to assets held for sale......................................... 29,366 --
Other liabilities (including $4,886 in 2002 and $1,068
in 2001 to affiliates and related parties)....................................... 29,785 25,966
------------- ------------
581,394 487,003
Commitments and contingencies
Minority interest................................................................... 6,532 5,381
Stockholders' equity
Preferred Stock
Series A; $.01 par value; authorized, 6,000
shares; issued and outstanding 5,829
shares (liquidation preference $583)........................................... -- --
Series C; $.01 par value; authorized, issued
and outstanding 30,000 shares (liquidation
preference $3,000)............................................................. -- --
Common Stock, $.01 par value; authorized, 10,000,000
shares; issued and outstanding 8,072,594 shares in
2002 and 8,042,594 in 2001....................................................... 81 80
Paid-in capital..................................................................... 257,096 256,833
Accumulated deficit................................................................. (41,495) (40,145)
Accumulated other comprehensive loss................................................ (37) --
------------- ------------
215,645 216,768
------------- ------------
$ 803,571 $ 709,152
============= ============
The accompanying notes are an integral part of these Consolidated Financial
Statements.
3
TRANSCONTINENTAL REALTY INVESTORS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Three Months For the Nine Months
Ended September 30, Ended September 30,
--------------------------- -------------------------
2002 2001 2002 2001
--------- --------- --------- ---------
(dollars in thousands, except per share)
Property revenue
Rents............................................... $ 28,761 $ 25,111 $ 82,353 $ 74,914
Property expense
Property operations................................. 19,699 15,089 53,365 43,020
--------- --------- --------- ---------
Operating income....................................... 9,062 10,022 28,988 31,894
Other income (loss)....................................
Interest and other.................................. 756 945 2,807 2,252
Equity loss of equity investees..................... (1,181) (2,084) (2,748) (4,476)
--------- --------- --------- ---------
(425) (1,139) 59 (2,224)
Other expense
Interest............................................ 11,385 7,384 28,177 22,625
Depreciation........................................ 4,848 3,919 14,137 11,453
Provision for asset impairment...................... 700 -- 2,579 --
Advisory fee to affiliates.......................... 1,525 1,267 4,220 4,208
Net income fee to affiliate......................... -- 946 -- 2,075
Incentive fee paid to affiliate..................... -- 1,326 -- 2,903
General and administrative.......................... 2,276 1,686 6,689 7,610
Provision for loss on notes receivable.............. (180) -- 169 --
Minority interest................................... (209) (71) (293) (29)
--------- --------- --------- ---------
20,345 16,457 55,678 50,845
Net loss from continuing operations.................... (11,708) (7,574) (26,631) (21,175)
Discontinued operations:
(Loss) from operations.............................. (199) (90) (1,162) (591)
Gain on sale of operations.......................... 13,744 17,736 23,337 43,569
Equity in investees gain on sale of
real estate...................................... 2 1,044 3,106 3,960
--------- --------- --------- ---------
13,547 18,690 25,281 46,938
Net income (loss)...................................... 1,839 11,116 (1,350) 25,763
Preferred dividend requirement......................... (45) (7) (134) (22)
--------- --------- --------- ---------
Net income (loss) applicable to Common
shares.............................................. $ 1,794 $ 11,109 $ (1,484) $ 25,741
========= ========= ========= =========
The accompanying notes are an integral part of these Consolidated Financial
Statements.
4
TRANSCONTINENTAL REALTY INVESTORS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Three Months For the Nine Months
Ended September 30, Ended September 30,
-------------------------- ------------------------
2002 2001 2002 2001
--------- ---------- --------- ---------
(dollars in thousands, except per share)
Basic and diluted earnings (loss) per
share
Net loss from continuing operations .................... $ (1.46) $ (.88) $ (3.32) $ (2.46)
Discontinued operations................................. 1.68 2.16 3.14 5.44
Net income (loss) applicable to Common
shares.................................................. $ .22 $ 1.28 $ (.18) $ 2.98
========= ========== ========= =========
Weighted average Common shares used in
computing earnings per share ........................... 8,071,180 8,603,614 8,052,227 8,625,230
TCI had 35,829 and 5,829 convertible preferred shares outstanding during the
three and nine months ended September 30, 2002 and 2001, which were not included
in the computation of diluted earnings per share because the conversion would
have been antidilutive.
Options to purchase 25,000 of TCI's Common Stock were excluded in the
computation of diluted earnings available to common shares for the three and
nine months ended September 30, 2001 because the effect would be antidilutive.
The accompanying notes are an integral part of these Consolidated Financial
Statements.
5
TRANSCONTINENTAL REALTY INVESTORS, INC.
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
Common Stock Accumulated
------------------ Other
Paid-in Accumulated Comprehensive Stockholders'
Shares Amount Capital Deficit Income Equity
--------- ------ ---------- ----------- ------------- -------------
(dollars in thousands, except per share)
Balance, January 1, 2002.......................... 8,042,594 $ 80 $ 256,833 $ (40,145) $ -- $ 216,768
Unrealized loss on foreign currency
translation.................................... -- -- -- -- (37) (37)
Net loss....................................... -- -- -- (1,350) -- (1,350)
Issuance of Common Stock upon
exercise....................................... 30,000 1 397 -- -- 398
Series A Preferred Stock cash
dividend ($3.75 per share)..................... -- -- (22) -- -- (22)
Series C Preferred Stock cash
dividend ($3.75 per share)..................... -- -- (112) -- -- (112)
--------- ------ ---------- ----------- ----------- -------------
Balance, September 30, 2002....................... 8,072,594 $ 81 $ 257,096 $ (41,495) $ (37) $ 215,645
========= ====== ========== =========== =========== =============
The accompanying notes are an integral part of these Consolidated Financial
Statements.
6
TRANSCONTINENTAL REALTY INVESTORS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Nine Months
Ended September 30,
--------------------------------
2002 2001
------------ ------------
(dollars in thousands)
Cash Flows from Operating Activities
Rents collected ...................................................... $ 95,335 $ 103,804
Interest collected ................................................... 2,303 1,142
Interest paid ........................................................ (30,536) (30,659)
Payments for property operations ..................................... (59,890) (59,420)
Advisory and net income fee paid to affiliate ........................ (4,259) (6,191)
Incentive fee paid to affiliate ...................................... -- (1,577)
General and administrative expenses paid ............................. (7,578) (7,746)
Distributions from operating cash flow of equity
investees ......................................................... -- 1,134
Other ................................................................ 98 2,571
--------- ---------
Net cash (used in) provided by operating activities ............ (4,527) 3,058
Cash Flows from Investing Activities
Collections on notes receivable (including $1,333 in
2002 from related parties) ........................................ 18,730 2,546
Funding of notes receivable (including $14,480 in 2002
to related parties) ............................................... (16,816) (7,980)
Acquisition of real estate ........................................... (9,486) (8,969)
Real estate improvements ............................................. (4,039) (6,572)
Real estate construction ............................................. (54,355) (2,932)
Proceeds from sale of real estate .................................... 67,536 88,160
Deposits on pending purchases and financings ......................... (709) (1,078)
Payments for interest swap ........................................... (187) --
Contributions to equity investees .................................... (145) (8,218)
Payments from (to) advisor ........................................... (30,813) 12,786
Net advance from affiliates .......................................... 243 56
--------- ---------
Net cash (used in) provided by investing activities ............ (30,041) 67,799
Cash Flows from Financing Activities
Payments on notes payable ............................................ (73,779) (55,614)
Proceeds from notes payable .......................................... 102,685 7,696
Deferred financing costs ............................................. (3,268) (430)
Dividends to stockholders ............................................ (97) (22)
Repurchase of Common Stock ........................................... -- (9,490)
Proceeds from exercise of stock options .............................. 398 --
--------- ---------
Net cash provided by (used in) financing
activities ................................................. 25,939 (57,860)
Net (decrease) increase in cash and cash equivalents .................... (8,629) 12,997
Cash and cash equivalents, beginning of period .......................... 10,346 22,323
--------- ---------
Cash and cash equivalents, end of period ................................ $ 1,717 $ 35,320
========= =========
The accompanying notes are an integral part of these Consolidated Financial
Statements.
7
TRANSCONTINENTAL REALTY INVESTORS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS - Continued
For the Nine Months
Ended September 30,
------------ ------------
2002 2001
------------ ------------
(dollars in thousands)
Reconciliation of net income (loss) to net cash used in
operating activities
Net income (loss) ........................................................ $ (1,350) $ 25,763
Adjustments to reconcile net income (loss) to net cash
(used in) provided by operating activities
Depreciation and amortization ......................................... 15,354 14,786
Provision for loss on notes receivable ................................ 169 --
Gain on sale of real estate ........................................... (26,443) (47,529)
Provision for asset impairment ........................................ 2,579 --
Equity in loss of equity investees .................................... 2,748 4,529
Distributions from operating cash flow of equity investees ............ -- 1,134
Increase in interest receivable ....................................... (233) (197)
(Increase) decrease in other assets ................................... (1,712) 2,161
Increase in interest payable .......................................... 542 155
Increase in other liabilities ......................................... 3,819 2,256
--------- ---------
Net cash (used in) provided by operating activities ................ $ (4,527) $ 3,058
========= =========
Schedule of noncash investing and financing activities
Notes payable assumed on purchase of real estate ......................... $ 56,405 $ 40,776
Notes payable assumed by buyer on sale of real estate .................... -- (34,161)
Limited partnership interest received on
sale of real estate ................................................... -- 1,500
Notes receivable provided on sale of real estate ......................... (6,700) --
Real estate received on exchange with related party ...................... 4,145 --
Real estate exchanged with related party ................................. (4,145) --
Real estate received from related party as payment of
debt .................................................................. 79,287 --
The accompanying notes are an integral part of these Consolidated Financial
Statements.
8
TRANSCONTINENTAL REALTY INVESTORS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. BASIS OF PRESENTATION
- ------------------------------
TCI is a Nevada corporation and successor to a California business trust which
was organized on September 6, 1983. TCI invests in real estate through direct
ownership, leases and partnerships. TCI also invests in mortgage loans on real
estate.
The accompanying Consolidated Financial Statements have been prepared in
accordance with generally accepted accounting principles for interim financial
information and with the instructions to Form 10-Q and Article 10 of Regulation
S-X. Accordingly, they do not include all of the information and footnotes
required by generally accepted accounting principles for complete financial
statements. Dollar amounts in tables are in thousands, except per share amounts.
Operating results for the nine month period ended September 30, 2002, are not
necessarily indicative of the results that may be expected for the year ending
December 31, 2002. For further information, refer to the Consolidated Financial
Statements and notes included in TCI's Annual Report on Form 10-K for the year
ended December 31, 2001 (the "2001 Form 10-K").
Certain balances for 2001 have been reclassified to conform to the 2002
presentation.
On January 1, 2002, TCI adopted Statement 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets" ("SFAS No. 144"). The Statement superceded
Statement 121, "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to be Disposed of" ("SFAS No. 121") and Accounting Principles
Board Opinion No. 30, "Reporting the Results of Operations - Reporting the
Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and
Infrequently Occurring Events and Transactions" ("APB 30"), for business
segments that are to be disposed. SFAS 144 retains the requirements of SFAS No.
121 relating to the recognition and measurement of an impairment loss and
resolves certain implementation issues resulting from SFAS No. 121. The adoption
of SFAS No. 144 did not have a material impact on the consolidated financial
position or results of operations of TCI.
In April 2002, the FASB issued Statement 145, "Rescission of FASB Statements No.
4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Correction"
("SFAS No. 145"). Statement 4, "Reporting Gains and Losses from Extinguishment
of Debt" ("SFAS No. 4"), required that gains and losses from the extinguishment
of debt that were included in the determination of net income be aggregated and,
if material, classified as an extraordinary item. The provisions of SFAS No. 145
related to the rescission of SFAS No. 4 will require TCI to reclassify prior
period items that do not meet the extraordinary classification. The provisions
of SFAS No. 145 that relate to the rescission of SFAS No. 4 become effective in
fiscal years beginning after May 15, 2002. The adoption of SFAS No. 145 is not
expected to have a material impact on the consolidated financial position or
results of operations of TCI.
9
TRANSCONTINENTAL REALTY INVESTORS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
NOTE 1. BASIS OF PRESENTATION (Continued)
- ------------------------------
In June 2002, the FASB issued SFAS No. 146, "Accounting for costs Associated
with Exit or Disposal Activities," which addresses accounting for restructuring
and similar costs. SFAS No. 146 supersedes previous accounting guidance,
principally Emerging Issues Task Force ("EITF") Issue No. 94-3. TCI will adopt
the provisions of SFAS No. 146 for restructuring activities initiated after
December 31, 2002. SFAS No. 146 requires that the liability for costs associated
with an exit or disposal activity be recognized when the liability is incurred.
Under EITF No. 94-3, a liability for an exit cost was recognized at the date of
a company's commitment to an exit plan. SFAS No. 146 also establishes that the
liability should initially be measured and recorded at fair value. Accordingly,
SFAS No. 146 may affect the timing of recognizing future restructuring costs as
well as the amount recognized.
In October 2002, the FASB issued Financial Accounting Standards No. 147,
"Acquisition of Certain Financial Institutions" ("SFAS No. 147") which clarifies
the accounting treatment for acquisitions of financial institutions. In
addition, the Statement amends SFAS Statement No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets," to include in its scope long-term
customer-relationship intangible assets of financial institutions such as
depositor- and borrower-relationship intangible assets and credit cardholder
intangible assets. SFAS No. 147 is effective October 1, 2002. TCI's adoption of
SFAS No. 147 is not expected to have a material impact on TCI's financial
statements.
NOTE 2. REAL ESTATE
- --------------------
In the first nine months of 2002, TCI purchased the following properties:
Units/ Purchase Net Cash Debt Interest Maturity
Property Location Sq.Ft./Acres Price Paid Incurred Rate Date
- -------------------- ------------- ------------- -------- ------- -------- ------- --------
First Quarter
Apartments
Blue Lake Villas(1) Waxahachie, TX 186 Units $1,012 $1,048 $ -- --% --
Echo Valley(1) Dallas, TX 216 Units 787 788 -- -- --
Spy Glass(1) Mansfield, TX 256 Units 1,280 1,042 208 7.50 08/43
Shopping Center
Oak Tree Village(2) Lubbock, TX 45,623 Sq.Ft. 1,467 196 1,389(3) 8.48 11/07
Land
Lakeshore Villas(2) Humble, TX 16.89 Acres 947 127 -- -- --
Rasor(2) Plano, TX 24.5 Acres 2,319 310 -- -- --
Second Quarter
Apartments
DeSoto Ranch(1) DeSoto, TX 248 Units 1,364 1,489 2,246 7.18 12/43
Office Building
Centura(4) Farmers Branch, TX 410,901 Sq.Ft. 50,000 -- 43,739(3) 13.00(5) 07/02(6)
Land
Hollywood Casino(4) Dallas, TX 42.64 Acres 16,987 -- 6,222(3) 9.50 03/03
10
TRANSCONTINENTAL REALTY INVESTORS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
NOTE 2. REAL ESTATE (Continued)
- --------------------
Units/ Purchase Net Cash Debt Interest Maturity
Property Location Sq.Ft./Acres Price Paid Incurred Rate Date
- -------------------------- ------------------ ------------- -------- -------- -------- -------- --------
Second Quarter - Continued
Land - Continued
Marine Creek(4) Fort Worth, TX 54 Acres 3,700 -- 1,500(3) 9.00 01/03
Mason Park(4) Houston, TX 18 Acres 2,790 -- 2,600(3) 14.00 04/02(7)
Nashville(4) Nashville, TN 16.57 Acres 1,890 -- 955(3) 15.50 07/03
Palm Desert(4) Palm Desert, CA 61 Acres 3,920 -- -- -- --
Third Quarter
Land
2301 Valley Branch Farmers Branch, TX 23.76 Acres 4,165 1,000 3,124 5.00 08/05
- ---------------
(1) Land purchased for apartment construction.
(2) Property exchanged with American Realty Investors, Inc. ("ARI"), a related
party, for the Plaza on Bachman Creek Retail Center.
(3) Assumed debt.
(4) Property received from ARI, a related party, for payment of debt.
(5) Weighted average. The Centura Tower is encumbered by two loans, one for
$28.7 million at 10.5% and the other for $15.0 million at 17.9%.
(6) The note was extended to January 2003.
(7) Extension negotiations are currently under way on this loan.
In the first nine months of 2001, TCI purchased the following properties:
Units/ Purchase Net Cash Debt Interest Maturity
Property Location Acres Price Paid Incurred Rate Date
- -------------------------- ------------------ ------------- -------- -------- -------- -------- --------
Apartments
By the Sea Corpus Christi, TX 153 Units $ 6,175 $ 862 $ 5,538(1) 7.07% 05/09
Baywalk Galveston, TX 192 Units 6,590 390 5,856(2) 7.45 02/11
Courtyard Midland, TX 133 Units 1,425 425 1,051(3) 9.25 04/06
Island Bay Galveston, TX 458 Units 20,360 3,225 16,232(2) 7.40 07/11
Marina Landing Galveston, TX 256 Units 12,050 518 10,912(2) 5.30(4) 01/03
Land
Solco-Valley Ranch Dallas, TX 6.07 Acres 1,454 1,525 -- -- --
Limestone Ranch Lewisville, TX 10.5 Acres 505(5) -- -- -- --
Mira Lago Farmers Branch, TX 8.88 Acres 541(5) -- -- -- --
Seminary West Fort Worth, TX 5.36 Acres 222 232 -- -- --
- ---------------
(1) Assumed debt of $5.4 million and financed the remaining $100,000 from the
seller.
(2) The Island Bay, Marina Landing and Baywalk Apartments were purchased in a
single transaction. TCI assumed the existing debt of $31.3 million on the
apartments, financed the remaining $1.7 million from the seller, and issued
30,000 shares of Series C Preferred Stock.
(3) Assumed debt.
(4) Variable rate.
11
TRANSCONTINENTAL REALTY INVESTORS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
NOTE 2. REAL ESTATE (Continued)
- --------------------
(5) Land was received from a related party in exchange for the Glenwood
Apartments.
In the first nine months of 2002, TCI sold the following properties:
Units/ Sales Net Cash Debt Gain/(Loss)
Property Location Sq.Ft./Acres Price Received Discharged on Sale
- ---------------------- ------------- ---------------- --------- --------- ---------- ----------
First Quarter
Apartments
Primrose Bakersfield, CA 162 Units $ 5,000 $ 1,722 $ 2,920 $ 659
Office Building
Hartford Dallas, TX 174,513 Sq.Ft. 4,000 -- -- --(1)
Industrial Warehouse
Central Storage Dallas, TX 216,035 Sq.Ft. 4,000 2,095 1,063 1,241
Shopping Center
Plaza on Bachman
Creek(2) Dallas, TX 80,278 Sq.Ft. 4,707 -- -- --
Second Quarter
Apartments
Southgreen Bakersfield, CA 80 Units 3,600 1,011 2,381 (72)
Office Building
Jefferson Washington, DC 78,159 Sq.Ft. 16,550 5,957 9,679 3,421
Nasa Clear Lake, TX 71,877 Sq.Ft. 2,600 2,341 -- 1,341
Windsor Plaza Windcrest, TX 80,522 Sq.Ft. 4,250 3,813 -- 895
Third Quarter
Apartments
4242 Cedar Springs Dallas, TX 76 Units 2,600 971 1,288 1,252
Camelot Largo, FL 120 Units 5,263 1,616 3,298 1,517
Country Crossing Tampa, FL 227 Units 5,800 1,836 3,726 3,142
Gladstell Forest Conroe, TX 168 Units 4,875 1,713 2,360 2,050
Heritage on the River Jacksonville, FL 301 Units 12,475 4,317 7,606 5,162
Office Building
Savings of America Houston, TX 68,634 Sq.Ft. 2,800 1,104 1,185 621
Land
Palm Desert Palm Desert, TX 36 Acres 3,600 685 -- --(3)
- ------------------
(1) Excludes a $920,000 deferred gain from seller financing. See NOTE 3. "NOTES
AND INTEREST RECEIVABLE."
(2) Property was exchanged with ARI, a related party, for the Oak Tree Village
Shopping Center and two parcels of land; the Rasor land parcel and
Lakeshore Villas land parcel.
(3) Excludes a $666,000 deferred gain from seller financing. See NOTE 3. "NOTES
AND INTEREST RECEIVABLE."
12
TRANSCONTINENTAL REALTY INVESTORS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
NOTE 2. REAL ESTATE (Continued)
- --------------------
In the first nine months of 2001, TCI sold the following properties:
Units/Sq.Ft./ Sales Net Cash Debt Gain/(Loss)
Property Location Acres Price Received Discharged on Sale
- -------------------- ------------------- --------------- ---------- ---------- ----------- ----------
Apartments
Bent Tree Gardens Addison, TX 204 Units $9,000 $ 2,669 $6,065(1) $ 601
Carseka Los Angeles, CA 54 Units 4,000 2,138 1,466 1,352
Fontenelle Hills Bellevue, NE 338 Units 16,500 3,680 12,454(1) 4,565
Forest Ridge Denton, TX 56 Units 2,000 682 1,151 1,014
Glenwood Addison, TX 168 Units 3,659(2) -- 2,537(1) --
Heritage Tulsa, OK 136 Units 2,286 206 1,948 1,575
McCallum Crossing Dallas, TX 322 Units 11,500 1,841 8,101(1) 4,485
McCallum Glen Dallas, TX 275 Units 8,450 2,633 5,004(1) 1,375(3)
Oak Run Pasadena, TX 160 Units 5,800 1,203 4,364 2,227
Park at Colonade San Antonio, TX 211 Units 5,800 927 4,066 1,592
Park Lane Dallas, TX 97 Units 2,750 1,526 1,103 1,827
Sunset Lakes Waukegan, IL 414 Units 15,000 6,089 7,243 7,316
Industrial Warehouse
Technology Trading Sterling, VA 197,659 Sq.Ft. 10,775 4,120 6,214 4,163
Zodiac Dallas, TX 35,435 Sq.Ft. 762 183 564 167
Office Buildings
Chesapeake Center San Diego, CA 57,493 Sq.Ft. 6,575 3,111 2,844 204
Daley San Diego, CA 64,425 Sq.Ft. 6,211 2,412 3,346 836
Waterstreet Boulder, CO 106,257 Sq.Ft. 22,250 7,126 12,949 9,154
Land
Eagle Crest Farmers Branch, TX 4.41 Acres 300 291 -- (215)
McKinney 36 McKinney, TX 1.822 Acres 476 476 -- 355
Moss Creek Greensboro, NC 4.79 Acres 15 13 -- (71)
Round Mountain Austin, TX 110.0 Acres 2,560 2,455 -- 1,047
- ---------------
(1) Debt assumed by purchaser.
(2) The Glenwood Apartments were exchanged with a related party for two parcels
of land; the 10.5 acre Limestone Ranch and the 8.88 acre Mira Lago.
(3) Excludes a $1.5 million deferred gain from a limited partnership interest
in the sold property.
At September 30, 2002, TCI had the following apartment properties under
construction:
Additional Construction
Amount Amount Loan
Property Location Units Expended to Expend Funding
- --------------------- ------------------- ------------ ----------- ---------- -------------
Blue Lake Villas Waxahachie, TX 186 Units $ 7,052 $ 5,538 $ 10,736
DeSoto Ranch DeSoto, TX 248 Units 6,691 10,457 16,273
Echo Valley Dallas, TX 216 Units 2,665 11,554 12,719
Falcon Lakes Arlington, TX 284 Units 2,032 13,713 13,469
River Oaks Wiley, TX 180 Units 2,886 9,105 10,023
Sendero Ridge San Antonio, TX 384 Units 17,532 11,128 24,420
Spyglass Mansfield, TX 256 Units 6,074 11,928 16,017
Tivoli Dallas, TX 190 Units 10,565 2,869 11,000
Verandas at City View Fort Worth, TX 314 Units 6,813 16,137 19,393
13
TRANSCONTINENTAL REALTY INVESTORS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
NOTE 2. REAL ESTATE (Continued)
- --------------------
In the second quarter of 2002, TCI completed the 252 unit Limestone Ranch in
Lewisville, Texas, and the 165 room Hotel Akademia in Wroclaw, Poland. In the
third quarter of 2002, TCI completed the 80 unit Waters Edge IV Apartments in
Gulfport, Mississippi.
NOTE 3. NOTES AND INTEREST RECEIVABLE
- --------------------------------------
In January 2002, TCI purchased 100% of the outstanding common shares of ART Two
Hickory Corporation ("Two Hickory"), a wholly-owned subsidiary of ARI, a related
party, for $4.4 million cash. Two Hickory owns the 96,217 sq. ft. Two Hickory
Center Office Building in Farmers Branch, Texas. ARI has guaranteed that the
asset shall produce at least a 12% annual return of the purchase price for a
period of three years from the purchase date. If the asset fails to produce the
12% annual return, ARI shall pay TCI any shortfall. In addition, if the asset
fails to produce the 12% return for a calendar year and ARI fails to pay the
shortfall, TCI may require ARI to repurchase the shares of Two Hickory for the
purchase price. Because ARI has guaranteed the 12% return and TCI has the option
of requiring ARI to repurchase the entities, management has classified this
related party transaction as a note receivable from ARI. In June 2002, the asset
was refinanced. TCI received $1.3 million of the proceeds as a principal
reduction on its note receivable from ARI.
Also in January 2002, a mortgage loan with a principal balance of $608,000 was
paid off, including accrued but unpaid interest. With the payoff of the note,
TCI recognized a previously deferred gain on the sale of the property of
$608,000.
In August 2001, TCI agreed to fund up to $5.6 million under a revolving line of
credit secured by an office building in Dallas, Texas. In 2002, TCI funded an
additional $1.8 million of the line of credit. At September 30, 2002, TCI had
funded a total of $3.5 million of the note.
In February 2002, TCI sold a $2.0 million senior participation interest in a
loan with a principal balance of $3.5 million secured by a second lien on a
retail center in Montgomery County, Texas to Income Opportunity Realty
Investors, Inc. ("IORI"), a related party. TCI and IORI will receive 43% and
57%, respectively, of the remaining principal and interest payments. Also in
February 2002, TCI extended the loan until April 2002, receiving $23,000 as an
extension fee. In April 2002, TCI extended the loan until July 2002, receiving
$6,500 as an extension fee. In July 2002, the loan was extended until September
2002 and TCI received $6,500 as an extension fee. In August 2002, the loan was
paid off, including accrued but unpaid interest.
Also in February 2002, TCI funded an additional $231,000 to Sendera Ranch, under
a loan secured by 1,714.16 acres of unimproved land in Tarrant County, Texas. In
March 2002, TCI received a $2.4 million payment from Sendera Ranch. TCI received
$1.8 million as a principal
14
TRANSCONTINENTAL REALTY INVESTORS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
NOTE 3. NOTES AND INTEREST RECEIVABLE (Continued)
- --------------------------------------
paydown, $277,000 as accrued interest, and $323,000 as a partnership
distribution. In September 2002, TCI funded an additional $90,000 of the loan.
In March 2002, TCI sold the 174,513 sq.ft. Hartford Office Building in Dallas,
Texas, for $4.0 million and provided the $4.0 million purchase price as seller
financing and an additional $1.4 million line of credit for leasehold
improvements in the form of a mortgage note. The note bears interest at a
variable interest rate, currently 6.0% per annum, requires monthly interest only
payments of $14,667 and matures in March 2007. As of September 2002, TCI has
funded $65,000 of the additional line of credit.
In April 2002, TCI purchased 100% of the following entities: ART One Hickory
Corporation ("One Hickory"), Garden Confederate Point, LP ("Confederate Point"),
Garden Foxwood, LP ("Foxwood"), and Garden Woodsong, LP ("Woodsong"), all
wholly-owned subsidiaries of ARI, a related party, for $10.0 million. One
Hickory owns the 120,615 sq. ft. One Hickory Center Office Building in Farmers
Branch, Texas. Confederate Point owns the 206 unit Confederate Apartments in
Jacksonville, Florida. Foxwood owns the 220 unit Foxwood Apartments in Memphis,
Tennessee. Woodsong owned the 190 unit Woodsong Apartments in Smyrna, Georgia.
ARI has guaranteed that these assets shall produce at least a 12% return
annually of the purchase price for a period of three years from the purchase
date. If the assets fail to produce the 12% return, ARI shall pay TCI any
shortfall. In addition, if the assets fail to produce the 12% return for a
calendar year and ARI fails to pay the shortfall, TCI may require ARI to
repurchase the entities for the purchase price. Because ARI has guaranteed the
12% return and TCI has the option of requiring ARI to repurchase the entities,
management has classified this related party transaction as a note receivable
from ARI.
Also in April 2002, a mortgage loan with a principal balance of $155,000 was
paid off, including accrued but unpaid interest.
In July 2002, the Woodsong Apartments were sold. TCI received $2.6 million from
the proceeds as payment of principal and accrued but unpaid interest on the note
receivable.
In May 2002, a mortgage loan with a principal balance of $1.5 million was paid
off, including accrued but unpaid interest. TCI agreed to a 5% discount on the
note and recognized a loss of $75,000 from the note. TCI also recognized a
previously deferred gain of $1.5 million on the sale of the property.
In July 2002, a mortgage loan with a principal balance of $2.2 million was paid
off, including accrued but unpaid interest.
In July 2002, TCI entered into an agreement to fund up to $300,000 under a
revolving line of credit secured by 100% interest in a partnership of
15
TRANSCONTINENTAL REALTY INVESTORS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
NOTE 3. NOTES AND INTEREST RECEIVABLE (Continued)
- --------------------------------------
the borrower. The line of credit bears interest at 12.0% per annum and requires
monthly interest only payments, and matures in June 2005. As of September 2002,
TCI has funded $75,000 of the line of credit.
In August 2002, a mortgage loan with a principal balance of $4.0 million was
paid off, including accrued but unpaid interest.
In September 2002, TCI sold a 36 acre tract of the Palm Desert land parcel for
$3.6 million and provided $2.7 million as seller financing in the form of a
mortgage note. The note bears interest at 8.0% per annum, requires quarterly
interest only payments of $54,000 and matures in September 2004.
Also in September 2002, TCI received $1.3 million on a non-performing note with
a balance of $1.8 million. With this payment, TCI agreed to release the lien on
44.6 acres of unimproved land in Fort Worth, Texas, substituting a second lien
on 21.61 acres of unimproved land in Tarrant County, Texas, from the borrower to
secure the remaining $689,000 in debt. TCI has also extended the maturity to
November 2002.
NOTE 4. INVESTMENT IN REAL ESTATE ENTITIES
- -------------------------------------------
Prior to the first quarter of 2002, TCI accounted for its investments in
Tri-City, Nakash and Jor-Trans on the equity method. TCI is a 63.7% limited
partner and IORI is a 36.3% general partner in Tri-City, and TCI is a 60%
general partner and IORI is a 40% limited partner in Nakash. TCI owns a 55%
limited and general partnership interest in Jor-Trans. TCI makes all partnership
operating and policy decisions of the partnerships and TCI has the right to
approve the sale or refinancing of principal assets, or approve the acquisition
of partnership assets. For Tri-City, IORI as general partner only has protective
rights in the partnership. TCI and IORI have the same Board of Directors and the
same executive officers. Consequently, because TCI has a greater than 50%
ownership over the operations of Tri- City, Nakash and Jor-Trans, the operations
of the partnership have been consolidated. In the first quarter of 2002, TCI
began accounting for its investment in Tri-City, Nakash and Jor-Trans using a
consolidated basis. The effect of these consolidations increased TCI's assets,
liabilities, and minority interest by $5.4 million, $3.9 million and $1.5
million, respectively.
TCI's investment in real estate entities at September 30, 2002, included equity
securities of two publicly traded real estate entities, IORI and ARI, related
parties, and interests in real estate joint venture partnerships. Basic Capital
Management, Inc. ("BCM"), TCI's advisor, also serves as advisor to IORI and ARI.
TCI accounts for its investment in IORI and ARI and the joint venture
partnerships using the equity method.
16
TRANSCONTINENTAL REALTY INVESTORS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
NOTE 4. INVESTMENT IN REAL ESTATE ENTITIES (Continued)
- -------------------------------------------
TCI's investment in real estate entities, accounted for using the equity method,
at September 30, 2002, was as follows:
Percentage Carrying Equivalent
of TCI's Value of Investee Market Value
Ownership at Investment at Book Value at of Investment at
Investee September 30, 2002 September 30, 2002 September 30, 2002 September 30, 2002
-------- ------------------ ------------------ ------------------ ------------------
IORI ......... 24.0% $ 4,405 $ 9,367 $ 4,408
ARI .......... 6.5% 8,633 4,412 7,388
---------- ---------- ---------
13,038 $ 13,779 $ 11,796
========== =========
Other 303
----------
$13,341
==========
Management continues to believe that the market value of each of IORI and ARI
undervalues their assets and, therefore, TCI may increase its ownership in these
entities.
Set forth below is summarized results of operations of equity investees for the
first nine months of 2002 and 2001.
2002 2001
----------- -----------
Revenues ......................................... $ 121,940 $ 135,342
Equity in income of partnerships ................. (578) 9,184
Property operating expenses ...................... (102,587) (140,772)
Depreciation ..................................... (12,316) (13,912)
Interest expense ................................. (53,798) (62,289)
--------- ----------
Loss before gains on sale of real estate ......... (47,339) (72,447)
Gain on sale of real estate ...................... 28,405 62,860
---------- ----------
Net income (loss) ................................ $ (18,934) $ (9,587)
========== =========
TCI's share of equity investees' loss before gains on the sale of real estate
was $1.2 million and $2.7 million for the three and nine months ended September
30, 2002, and its share of equity investees' gains on sale of real estate was
$2,000 and $3.1 million for the three and nine months ended September 30, 2002.
NOTE 5. OTHER ASSETS
- ---------------------
Related Party. From time-to-time, TCI and its affiliates and related parties
have made advances to each other to fund their respective operations, which
generally have not had specific repayment terms and have been reflected in TCI's
financial statements as other assets. At September 30, 2002, TCI had receivables
of $14.4 million, $1.8 million and $8.6 million from BCM, GS Realty Services,
Inc. and ARI, respectively, and payables of $4.3 million and $592,000 to IORI
and GS Realty Services, Inc., respectively.
17
TRANSCONTINENTAL REALTY INVESTORS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
NOTE 6. NOTES AND INTEREST PAYABLE
- -----------------------------------
In 2002, TCI financed or refinanced the following properties:
Net Cash
Sq.Ft./ Debt Debt Received/ Interest Maturity
Property Location Units/Acres Incurred Discharged (Paid) Rate Date
- ---------------------- ----------------- -------------- -------- ---------- --------- -------- --------
First Quarter
Industrial Warehouse
Addison Hanger (1) Addison, TX 23,650 Sq.Ft. $ 2,687 $ 1,580 $ 942 6.75%(2) 02/07
Second Quarter
Apartments
Paramount Terrace Amarillo, TX 181 Units 2,700 2,797 (214) 6.63(2) 07/04
Verandas at City View Fort Worth, TX 314 Units 2,779(3) 2,197 (2,224) 7.00 03/44
Third Quarter
Apartments
Echo Valley Dallas, TX 216 Units 1,639(4) -- 448 6.65 12/43
Quail Creek Lawrence, KS 95 Units 3,300 2,157 924 6.63(2) 09/05
Land
McKinney 36 (5) Collin County, TX 34.58 Acres 425 956 (539) 9.50 04/03
Sandison (5) Collin County, TX 97.97 Acres 1,199 1,040 145 9.50 04/03
Solco-Allen (5) Collin County, TX 55.80 Acres 686 305 374 9.50 04/03
Stacy Road (5) Allen, TX 160.38 Acres 1,979 1,345 613 9.50 04/03
State Highway 121 (5) Collin County, TX 101.94 Acres 1,475 873 582 9.50 04/03
Watters Road (5) Collin County, TX 97.00 Acres 1,189 -- 1,180 9.50 04/03
Whisenant (5) Collin County, TX 16.16 Acres 199 133 64 9.50 04/03
Fourth Quarter
Land
Dominion (6) Dallas, TX 14.39 Acres 772 -- 758 13.00 04/03
Manhatten (6) Farmers Branch, TX 108.9 Acres 5,846 -- 5,733 13.00 04/03
Pac Trust (6) Farmers Branch, TX 7.11 Acres 382 -- 370 13.00 04/03
- --------------------
(1) The mortgage is cross-collateralized with the 29,000 sq. ft. Addison Hanger
II in Addison, Texas.
(2) Variable interest rate.
(3) The Verandas at City View Apartments are under construction. The $2.8
million debt incurred was to fund construction to date. The total
construction funding for the project is $19.4 million.
(4) The Echo Valley Apartments are under construction. The $1.6 million debt
incurred was to fund construction to date. The total construction funding
for the project is $12.7 million.
(5) The mortgages are cross-collateralized.
(6) The mortgages are cross-collateralized.
In April 2002, TCI sold 12 residential properties to partnerships controlled by
Metra Capital, LLC ("Metra"). These properties include: the 75 unit Apple Lane
Apartments in Lawrence, Kansas; the 195 unit Arbor Point Apartments in Odessa,
Texas; the 264 unit Fairway View Estates Apartments in El Paso, Texas; the 152
unit Fairways Apartments in Longview, Texas; the 166 unit Fountain Lake
Apartments in Texas City, Texas; the 172 unit Fountains of Waterford Apartments
in Midland, Texas; the 122 unit Harper's Ferry Apartments in Lafayette,
Louisiana; the 108
18
TRANSCONTINENTAL REALTY INVESTORS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
NOTE 6. NOTES AND INTEREST PAYABLE (Continued)
- -----------------------------------
unit Oak Park IV Apartments in Clute, Texas; the 131 unit Quail Oaks Apartments
in Balch Springs, Texas; the 300 unit Sunchase Apartments in Odessa, Texas; the
180 unit Timbers Apartments in Tyler, Texas; and the 112 unit Willow Creek
Apartments in El Paso, Texas. Innovo Group, Inc. ("Innovo") is a limited partner
in the partnerships that purchased the properties. Joseph Mizrachi, a director
of ARI, a related party, controls approximately 11.67% of the outstanding common
stock of Innovo. Management has determined to account for this sale as a
refinancing transaction, in accordance with SFAS No. 66, "Accounting for Sales
of Real Estate." TCI will continue to report the assets and the new debt
incurred by the Metra partnerships on the TCI financial statements. The sales
price for the properties totaled $37.6 million. TCI received net cash of $10.5
million after paying off the existing debt of $18.0 million and various closing
costs. The new debt of $30.3 million bears interest at 7.57% per annum, requires
monthly interest only payments of $212,000 and matures in May 2012. TCI also
received $8.0 million of 8% non-recourse, non-convertible Series A Preferred
Stock ("Preferred Shares") of Innovo.
The dividend on the Preferred Shares will be funded entirely and solely through
member distributions from cash flows generated by the operation and subsequent
sale of the sold properties. In the event the cash flows for the properties are
insufficient to cover the 8% annual dividend, Innovo will have no obligation to
cover any shortfall.
The Preferred Shares have a mandatory redemption feature, and are redeemable
from the cash proceeds received by Innovo from the operation and sale of the
properties. All member distributions that are in excess of current and accrued
8% dividends must be used by Innovo to redeem the Preferred Shares. Since
redemption of these shares is subject to the above future events, management has
elected to record no basis in the Preferred Shares.
In August 2002, the lender on three of TCI's Chicago hotel properties notified
TCI that TCI was in default under the provisions of the loan agreement regarding
timely payment and debt service coverage ratio. Management believes payments
have been timely and is negotiating with the lender and expects to resolve the
issues.
NOTE 7. OPERATING SEGMENTS
- ---------------------------
Significant differences among the accounting policies of the operating segments
as compared to the Consolidated Financial Statements principally involve the
calculation and allocation of administrative expenses. Management evaluates the
performance of each of the operating segments and allocates resources to them
based on their operating income and cash flow. Items of income that are not
reflected in the segments are interest, equity in partnerships and equity gains
on sales of real estate which totaled a loss of $423,000 and income of $3.2
million for the three and nine months ended September 30, 2002, and a loss of
19
TRANSCONTINENTAL REALTY INVESTORS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
NOTE 7. OPERATING SEGMENTS (Continued)
- --------------------------
$95,000 and income of $1.7 million for the three and nine months ended September
30, 2001. Expenses that are not reflected in the segments are general and
administrative expenses, minority interest, incentive, advisory, net income
fees, provision for losses, and discontinued operations which totaled $3.6
million and $12.0 million for the three and nine months ended September 30,
2002, and $5.2 million and $17.4 million for the three and nine months ended
September 30, 2001. Also excluded from segment assets are assets of $89.5
million at September 30, 2002, and $103.7 million at September 30, 2001, which
are not identifiable with an operating segment. There are no intersegment
revenues and expenses.
Presented below is the operating income of each operating segment for the three
and nine months ended September 30, 2002 and 2001, and each segment's assets at
September 30.
Three Months Ended Commercial
September 30, 2002 Land Properties Apartments Hotels Total
- ----------------------------------- ------- ---------- ---------- ------ ---------
Rents ............................... $ 147 $ 15,782 $ 10,985 $ 1,847 $ 28,761
Property operating expenses ......... 514 9,895 7,581 1,709 19,699
------- ---------- ---------- ------- ---------
Operating income (loss) ............. (367) 5,887 3,404 138 9,062
Interest ............................ 372 6,744 3,676 593 11,385
Depreciation ........................ 11 3,300 1,137 400 4,848
Real estate improvements ............ 2 1,002 277 -- 1,281
Real estate construction ............ -- -- 25,871 -- 25,871
Provision for asset impairment ...... -- -- 700 -- 700
Assets .............................. 91,723 325,965 256,842 35,237 709,767
Commercial
Property Sales: Land Properties Apartments Total
------- ---------- ---------- ---------
Sales price ......................... $ 3,600 $ 2,800 $ 31,013 $ 37,413
Cost of sales ....................... 3,600 2,179 17,890 23,669
------- ---------- ---------- ---------
Gain on sale ........................ $ --(1) $ 621 $ 13,123 $ 13,744
======= ========== ========== =========
- --------------------
(1) Excludes $666,000 of deferred gains on the sale of real estate.
Nine Months Ended Commercial
September 30, 2002 Land Properties Apartments Hotels Total
- ----------------------------------- ------- ---------- ---------- ------ ---------
Rents ............................... $ 435 $ 45,292 $ 32,243 $ 4,383 $ 82,353
Property operating expenses ......... 1,225 26,382 21,871 3,887 53,365
------- ---------- ---------- ------- ---------
Operating income (loss) ............. (790) 18,910 10,372 496 28,988
Interest ............................ 722 15,403 10,462 1,590 28,177
Depreciation ........................ 19 9,663 3,414 1,041 14,137
Real estate improvements ............ 104 3,632 277 26 4,039
Real estate construction ............ -- -- 48,938 5,417 54,355
Provisions for asset impairment ..... 707 -- 1,872 -- 2,579
Assets .............................. 91,723 325,965 256,842 35,237 709,767
Commercial
Property Sales: Land Properties Apartments Total
------- ---------- ---------- ---------
Sales price ......................... $ 3,600 $ 38,907 $ 39,613 $ 82,120
Cost of sales ....................... 3,600 31,388 23,795 58,783
------- ---------- ---------- ---------
Gain on sale ........................ $ --(2) $ 7,519 $ 15,818 $ 23,337(3)
======= ========== ========== =========
20
TRANSCONTINENTAL REALTY INVESTORS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
NOTE 7. OPERATING SEGMENTS (Continued)
- --------------------------
(2) Excludes $666,000 of deferred gains on sale or real estate.
(3) Includes $2.1 million of previously deferred gains on sale of real estate.
Three Months Ended Commercial
September 30, 2001 Land Properties Apartments Hotels Total
- ------------------------------ -------- ---------- ---------- ------- --------
Rents ............................................ $ 138 $ 14,856 $ 8,372 $ 1,745 $ 25,111
Property operating expenses ...................... 97 8,191 5,618 1,183 15,089
-------- ---------- ---------- ------- --------
Operating income ................................. $ 41 $ 6,665 $ 2,754 $ 562 $ 10,022
======== ========== ========== ======= ========
Interest ......................................... $ 296 $ 4,526 $ 2,261 $ 301 $ 7,384
Depreciation ..................................... -- 2,708 913 298 3,919
Real estate improvements ......................... 239 2,632 2,932 26 5,829
Assets ........................................... 60,902 312,100 212,729 19,342 605,073
Commercial
Property Sales: Land Properties Apartments Total
-------- ---------- ----------- --------
Sales price ...................................... $ 300 $ 6,575 $ 39,050 $ 45,925
Cost of sales .................................... 515 6,371 21,303 28,189
-------- ---------- ---------- --------
Gain (loss) on sale .............................. $ (215) $ 204 $ 17,747 $ 17,736
======== ========== ========== ========
Nine Months Ended Commercial
September 30, 2001 Land Properties Apartments Hotels Total
- ------------------------------ -------- ---------- ---------- ------- --------
Rents ............................................ $ 457 $ 43,706 $ 25,727 $ 5,024 $ 74,914
Property operating expenses ...................... 607 23,374 15,507 3,532 43,020
-------- ---------- ---------- ------- --------
Operating income (loss) .......................... $ (150) $ 20,332 $ 10,220 $ 1,492 $ 31,894
======== ========== ========== ======= ========
Interest ......................................... $ 663 $ 14,146 $ 6,817 $ 999 $ 22,625
Depreciation -- 7,900 2,722 831 11,453
Real estate improvements ......................... 1,332 4,917 3,013 242 9,504
Assets ........................................... 60,902 312,100 212,729 19,342 605,073
Commercial
Property Sales: Land Properties Apartments Total
-------- ---------- ----------- --------
Sales price ...................................... $ 3,351 $ 46,573 $ 86,745 $136,669
Cost of sales .................................... 2,235 32,049 58,816 93,100
-------- ---------- ---------- --------
Gain on sale ..................................... $ 1,116 $ 14,524 $ 27,929 $ 43,569
======== ========== ========== ========
NOTE 8. PROVISION FOR ASSET IMPAIRMENT
- --------------------------------------
For the three and nine months ended September 30, 2002, TCI recorded asset
impairments of $700,000 and $1.9 million representing the write down of certain
operating properties to current estimated fair value. These assets include the
following properties:
Fair Property Costs to
Property Location Units/Acres Value Basis Sell Impairment
- ----------------------- ------------------- ----------- -------- -------- --------- ----------
Apartments
Apple Lane Lawrence, KS 75 Units $ 1,580 $ 1,593 $ 238 $ 251
Fairway View El Paso, TX 264 Units 5,700 5,242 863 405
Fountains of Waterford Midland, TX 172 Units 1,900 2,006 285 391
Plantation Tulsa, OK 138 Units 2,545 3,100 145 700
Sunchase Odessa, TX 300 Units 4,100 3,479 746 125
Land
Red Cross Dallas, TX 2.89 Acres 8,400 8,348 758 707
21
TRANSCONTINENTAL REALTY INVESTORS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
NOTE 8. PROVISION FOR ASSET IMPAIRMENT (Continued)
- --------------------------------------
The Red Cross land is under contract to sell and the sales price was used as
fair value. The fair value determined for four apartments above were agreed upon
purchase prices as part of the refinancing transaction with Metra Capital, LLC.
The costs to sell were actual fees paid to refinance the properties. TCI is in
current negotiations with lenders to refinance the Plantation Apartments.
Lenders will refinance the property at between 80% and 90% of the value of the
property. Currently, the loans are in the range of $2.0 million and $2.4
million.
NOTE 9. ADVISORY FEES, PROPERTY MANAGEMENT, ETC.
- ------------------------------------------------
Revenue, fees and cost reimbursements to BCM and its affiliates for the three
and nine months ended:
For the Three Months For the Nine Months
Ended September 30, Ended September 30,
--------------------- ---------------------
2002 2001 2002 2001
-------- -------- -------- --------
Fees
Advisory ............................................... $ 1,525 $ 1,267 $ 4,220 $ 4,208
Net income ............................................. -- 946 -- 2,075
Incentive fee .......................................... -- 1,326 -- 2,903
Property acquisition ................................... -- 1,340 58 1,470
Real estate brokerage .................................. 979 1,122 2,089 3,043
Mortgage brokerage and equity refinancing .............. 133 -- 160 45
Property and construction management and leasing
commissions* ......................................... 648 519 2,595 1,910
-------- -------- -------- --------
$ 3,285 $ 6,520 $ 9,122 $ 15,654
======== ======== ======== ========
Cost reimbursements ....................................... $ 614 $ 461 $ 2,468 $ 2,064
======== ======== ======== ========
Rent revenue .............................................. $ 37 $ 35 $ 170 $ 105
======== ======== ======== ========
- --------------------
* Net of property management fees paid to subcontractors, other than GS Realty,
Inc., which is owned by an affiliate of BCM.
NOTE 10. DISCONTINUED OPERATIONS
- ---------------------------------
Effective January 1, 2002, TCI adopted Financial Accounting Standards Board
Statement No. 144, Accounting for the Impairment or Disposal of Long-Lived
Assets, which established a single accounting model for the impairment or
disposal of long-lived assets including discontinued operations. This statement
requires that the operations related to properties that have been sold, or
properties that are intended to be sold, be presented as discontinued operations
in the statement of operations for all periods presented, and the properties
intended to be sold are to be designated as "held-for-sale" on the balance
sheet.
For the three and nine months ended September 30, 2002 and 2001, income from
discontinued operations relates to 15 properties that TCI sold during 2002, 26
properties that TCI sold during 2001, and 11 parcels of
22
TRANSCONTINENTAL REALTY INVESTORS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
NOTE 10. DISCONTINUED OPERATIONS (Continued)
- --------------------------------
land, three apartments and one commercial property designated as held-for-sale.
The following table summarizes revenue and expense information for these
properties sold and held-for-sale.
For the Three Months For the Nine Months
Ended September 30, Ended September 30,
------------------------- -------------------------
2002 2001 2002 2001
---------- ---------- ---------- ----------
Revenue
Rental .......................................... $ 2,105 $ 7,635 $ 10,852 $ 29,470
Property operations ............................. 1,101 4,702 7,121 17,495
---------- ---------- ---------- ----------
1,004 2,933 3,731 11,975
Expenses
Interest ........................................ 986 2,141 3,676 9,042
Depreciation .................................... 217 882 1,217 3,524
---------- ---------- ---------- ----------
1,203 3,023 4,893 12,566
---------- ---------- ---------- ----------
Net loss from discontinued operations before
gains on sale of real estate .................... (199) (90) (1,162) (591)
Gain on sale of operations ...................... 13,744 17,736 23,337 43,569
Equity in investees gain on sale of real
estate ........................................ 2 1,044 3,106 3,960
---------- ---------- ---------- ----------
Net income from discontinued operations ............ $ 13,547 18,690 $ 25,281 $ 46,938
========== ========== ========== ==========
Discontinued operations have not been segregated in the consolidated statements
of cash flows. Therefore, amounts for certain captions will not agree with
respective consolidated statements of operations.
NOTE 11. DERIVATIVE FINANCIAL INSTRUMENTS
- ------------------------------------------
During the first quarter of 2002, TCI entered into an interest rate swap
agreement with a bank. This agreement contains a notional amount of $12.8
million and requires TCI to pay the bank a fixed rate of 4.3%, and requires the
bank to pay to TCI based on the 30 day LIBOR rate. This agreement was entered
into in order to effectively fix the rate on TCI's debt associated with the
Limestone Canyon property. The swap agreement expires on December 9, 2004.
TCI has not designated the interest rate swap agreement as a hedge, as
defined within Statement of Financial Accounting Standards No. 133, "Accounting
for Derivative Instruments and Hedging Activities," and as such, changes in the
fair value of the swap agreement are recognized in earnings during the period of
change and reflected in the statement of operations as interest expense.
The fair value of the swap agreement at September 30, 2002 represents a
liability to the Company of $611,000 and is included within other liabilities in
the accompanying balance sheet. Amounts paid or received under the swap
agreement are settled monthly and are reflected as a reduction in the liability
when paid. Interest expense for the nine months ended September 30, 2002, was
increased by $798,000 representing both amounts paid to the bank under the
agreement and increases in the fair value of the related liability.
23
TRANSCONTINENTAL REALTY INVESTORS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
NOTE 12. COMMITMENTS AND CONTINGENCIES
- ---------------------------------------
Liquidity. Management anticipates that TCI will generate excess cash from
operations in 2002 due to increased rental rates and occupancy at its
properties, however, such excess will not be sufficient to discharge all of
TCI's debt obligations as they mature. Management intends to selectively sell
income producing real estate, refinance real estate and incur additional
borrowings against real estate to meet its cash requirements.
Commitments. In January 2001, TCI exercised its option under the loan documents
to extend the maturity date of three loans with a principal balance of $30.0
million secured by three office buildings in New Orleans, Louisiana. The lender
has disputed TCI's right to extend the loans. This dispute is subject to
litigation pending in the United States District Court for the Eastern District
of Louisiana.
Litigation. TCI is involved in various lawsuits arising in the ordinary course
of business. Except for the Olive Litigation (see PART II. OTHER INFORMATION,
ITEM 1. "LEGAL PROCEEDINGS), management is of the opinion that the outcome of
these lawsuits will have no material impact on TCI's financial condition,
results of operations or liquidity.
NOTE 13. INCOME TAXES
- ----------------------
Financial statement income varies from taxable income principally due to the
accounting for income and losses of investees, gains and losses from asset
sales, depreciation on owned properties, amortization of discounts on notes
receivable and payable and the difference in the allowance for estimated losses.
TCI had a loss for federal income tax purposes in the first three quarters of
2002 and 2001; therefore, it recorded no provision for income taxes.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
- ------------------------------------------------------------------------
RESULTS OF OPERATIONS
---------------------
Introduction
- ------------
TCI invests in real estate through acquisitions, leases and partnerships. TCI
also invests in mortgage loans. TCI is the successor to a business trust
organized on September 6, 1983, and commenced operations on January 31, 1984.
Critical Accounting Policies
- ----------------------------
Critical accounting policies are those that are both important to the
presentation of TCI's financial condition and results of operations and require
management's most difficult, complex or subjective judgements. TCI's critical
accounting policies relate to the evaluation of impairment of long-lived assets
and the evaluation of the collectibility of accounts and notes receivable.
24
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
- ------------------------------------------------------------------------
RESULTS OF OPERATIONS (Continued)
---------------------
Critical Accounting Policies (Continued)
- ----------------------------
If events or changes in circumstances indicate that the carrying value of a
rental property to be held and used or land held for development may be
impaired, management performs a recoverability analysis based on estimated
undiscounted cash flows to be generated from the property in the future. If the
analysis indicates that the carrying value is not recoverable from future cash
flows the property is written down to estimated fair value and an impairment
loss is recognized. If management decides to sell rental properties or land held
for development, management evaluates the recoverability of the carrying amounts
of the assets. If the evaluation indicates that the carrying value is not
recoverable from estimated net sales proceeds, the property is written down to
estimated fair value less costs to sell and an impairment loss is recognized
within income from continuing operations. TCI's estimates of cash flow and fair
values of the properties are based on current market conditions and consider
matters such as rental rates and occupancies for comparable properties, recent
sales data for comparable properties and, where applicable, contracts or the
results of negotiations with purchasers or prospective purchasers. TCI's
estimates are subject to revision as market conditions and TCI's assessments of
them change. In the second and third quarter of 2002, TCI recognized $1.9
million and $700,000 as impairment losses.
TCI's allowance for doubtful accounts receivable and notes receivable is
established based on analysis of the risk of loss on specific accounts. The
analysis places particular emphasis on past due accounts. Management considers
such information as the nature and age of the receivable, the payment history of
the tenant or other debtor, the financial condition of the tenant or other
debtor and TCI's assessment of its ability to meet its lease or interest
obligations. TCI's estimate of the required allowance, which is reviewed on a
quarterly basis, is subject to revision as these factors change and is sensitive
to the effects of economic and market conditions.
Liquidity and Capital Resources
- -------------------------------
Cash and cash equivalents totaled $1.7 million at September 30, 2002, compared
with $10.3 million at December 31, 2001. TCI's principal sources of cash have
been and will continue to be from property operations, proceeds from property
sales, the collection of mortgage notes receivable and borrowings. Management
anticipates that TCI's cash on hand, as well as cash generated from property
operations, the sale of properties and the refinancing of certain of TCI's
mortgage debt will be sufficient to meet TCI's cash requirements, including debt
service obligations and expenditures for property maintenance and improvements.
Net cash used in operating activities was $4.5 million for the nine months ended
September 30, 2002, compared to $3.1 million provided by operations for the nine
months ended September 30, 2001. The primary factors affecting TCI's cash from
operations are discussed in the following paragraphs.
25
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
- ------------------------------------------------------------------------
RESULTS OF OPERATIONS (Continued)
---------------------
Liquidity and Capital Resources (Continued)
- -------------------------------
Cash from property operations (rents collected less payments for expenses
applicable to rental income) was $35.4 million in the nine months ended
September 30, 2002, compared to $44.4 million for the nine months ended
September 30, 2001. Of this decrease, $5.1 million and $3.1 million was due to
the sale of 22 apartments and 14 commercial properties, respectively. Cash from
property operations also decreased by $1.0 million, $2.0 million and $649,000
from TCI's apartments, commercial properties, and hotels, respectively, due to
decreased occupancies and increased operating expenses. Increases in cash from
property operations of $3.0 million were due to the purchase of nine properties
in 2002 and 2001, and the completion of construction projects in 2002.
Interest collected increased to $2.3 million in the nine months ended September
30, 2002, from $1.1 million in 2001. The increase was primarily due to the
funding of seven loans in 2001 and seven loans in 2002.
Interest paid of $30.5 million in the nine months ended September 30, 2002,
approximated the $30.7 million in 2001.
Advisory, incentive and net income fees paid decreased to $4.3 million in the
nine months ended September 30, 2002, from $7.8 million in 2001. The decrease
was primarily due to no incentive or net income fees paid in 2002. The incentive
fee is equal to 10% of the amount by which the aggregate sales consideration for
all TCI's properties sold during the year exceeds the total cost of the property
plus a simple 8% annual return to TCI's net investment in such property.
General and administrative expenses paid decreased to $7.6 million in the nine
months ended September 30, 2002, from $7.7 million in 2001. This decrease was
mainly due to a decrease in cost reimbursements to the advisor.
In the first nine months of 2002, TCI sold seven apartments, one warehouse, one
shopping center, five office buildings and a 36 acre land parcel for a total of
$82.1 million, receiving net cash of $29.2 million after the payoff of existing
debt and the payment of various closing costs.
Also in the first nine months of 2002, TCI financed or refinanced an industrial
warehouse, seven land parcels and 16 apartments for a total of $50.6 million,
receiving $12.8 million in cash after the payment of various closing costs.
Further in the first nine months of 2002, TCI purchased four parcels of
unimproved land for apartment construction, one shopping center, one office
building and eight parcels of unimproved land for a total of $92.6 million. TCI
paid $6.0 million in cash, including various closing costs, assumed existing
mortgage debt of $56.4 million and acquired new debt of $5.6 million for the
purchases. TCI also expended $54.7 million
26
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
- ------------------------------------------------------------------------
RESULTS OF OPERATIONS (Continued)
---------------------
Liquidity and Capital Resources (Continued)
- -------------------------------
on property construction, of which $51.0 million was funded by debt. For the
remainder of 2002 and the first half of 2003, TCI expects to expend an
additional $92.4 million on property construction projects, of which $85.0
million will be funded by debt.
Also in the first nine months of 2002, TCI advanced funds to affiliated parties,
including its advisor, for a total of $55.5 million. For this funding, TCI
received 12% return guarantees for $14.4 million, and real estate valued at
$79.3 million and assumed the existing debt of $55.0 million, leaving $16.8
million of advances still outstanding and owed to TCI.
In the fourth quarter of 2002, TCI financed three parcels of unencumbered land
for $7.0 million, receiving $6.9 million cash after the payment of various
closing costs.
Management reviews the carrying values of TCI's properties and mortgage notes
receivable at least annually and whenever events or a change in circumstances
indicate that impairment may exist. Impairment is considered to exist if, in the
case of a property, the future cash flow from the property (undiscounted and
without interest) is less than the carrying amount of the property. For notes
receivable, impairment is considered to exist if it is probable that all amounts
due under the terms of the note will not be collected. If impairment is found to
exist, a provision for loss is recorded by a charge against earnings. The
mortgage note receivable review includes an evaluation of the collateral
property securing each note. The property review generally includes: (1)
selective property inspections; (2) a review of the property's current rents
compared to market rents; (3) a review of the property's expenses; (4) a review
of maintenance requirements; (5) a review of the property's cash flow; (6)
discussions with the manager of the property; and (7) a review of properties in
the surrounding area.
Results of Operations
- ---------------------
TCI had net income of $1.8 million and a net loss of $1.4 million in the three
and nine months ended September 30, 2002, including gains on sale of real estate
totaling $13.7 million and $26.4 million, compared to net income of $11.1
million and $25.7 million in the corresponding periods in 2001, including gains
on sale of real estate totaling $18.8 million and $47.5 million. Fluctuations in
this and other components of revenues and expense between the 2002 and 2001
periods are discussed below.
Rents in the three and nine months ended September 30, 2002, increased to $28.8
million and $82.4 million compared to $25.1 million and $74.9 million in 2001.
Of this increase, $3.2 million and $7.2 million was due to the purchase of five
existing apartments, one office building and one shopping center in 2002 and
2001, and $992,000 and $1.7 million was due to the completion of the Limestone
Ranch and Waters Edge IV Apartments and Hotel Akademia in 2002. These increases
were offset by
27
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
- ------------------------------------------------------------------------
RESULTS OF OPERATIONS (Continued)
---------------------
Results of Operations (Continued)
- ---------------------
decreases of $274,000 and $98,000 at TCI's commercial properties and $296,000
and $1.2 million due to decreases in occupancies at TCI's four U.S. hotels,
respectively. Occupancies for TCI's apartments, commercial properties and hotels
decreased to 92%, 75% and 40%, respectively, in the three months ended September
30, 2002, from 93%, 81% and 53% in 2001. Occupancies for TCI's apartments,
commercial properties and hotels decreased to 91%, 78% and 40%, respectively, in
the nine months ended September 30, 2002, from 94%, 80% and 53% in 2001. Rents
are expected to remain constant or decrease in the remaining quarter of 2002 as
occupancies continue to decrease.
Property operations expense increased to $19.7 million and $53.4 million in the
three and nine months ended September 30, 2002, compared to $15.1 million and
$43.0 million in 2001. Of these three and nine month increases, $1.3 million and
$2.4 million was due to the completion of the two apartments and the Hotel
Akademia in 2002. Increases of $1.4 million and $3.8 million for the quarter and
nine months, were due to the purchase of five existing apartments in 2001 and
$1.0 million and $1.1 million was due to the purchase of two commercial
properties in 2002. Property operations expenses for TCI's apartments increased
by $137,000 and $1.0 million in the three and nine months ended September 30,
2002. Property operations expenses for TCI's commercial properties increased by
$155,000 and $2.0 million in the three and nine months ended September 30, 2002.
Property operations expenses for TCI's land properties increased by $305,000 and
$593,000 in the three and nine months ended September 30, 2002. These increases
were offset by decreases of $114,000 and $570,000 due to decreases in
occupancies from the U.S. hotels. Property operations expenses for the remaining
quarter of 2002 is expected to increase as TCI continues to upgrade its
apartments and improve its commercial leasing potential.
Interest and other income was $756,000 and $2.8 million in the three and nine
months ended September 30, 2002, compared to $1.0 million and $2.3 million in
2001. The decrease for the quarter was due to the payoff of four loans in the
period, and the nine month increase was primarily due to TCI funding seven loans
in 2001 and seven loans in 2002. Interest income for the remaining quarter of
2002 is expected to significantly decrease due to the payoff of four performing
loans in the third quarter of 2002.
Equity in losses of investees decreased to $1.2 million and $2.7 million in the
three and nine months ended September 30, 2002 from $2.1 million and $4.5
million in 2001. The decrease in losses from equity investees is primarily
attributed to decreased operating losses at ARI.
Interest expense increased to $11.4 million in the three months ended September
30, 2002, from $7.4 million in 2001. Of this increase, $3.5 million was due to
the purchase of 14 properties subject to debt in 2002 and 2001, $611,000 was due
to an interest swap agreement at the Limestone Canyon Apartments and $43,000 due
to the refinancing of 14
28
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
- ------------------------------------------------------------------------
RESULTS OF OPERATIONS (Continued)
---------------------
Results of Operations (Continued)
- ---------------------
apartments in 2002. The increases were offset by decreases of $140,000 due to
lower variable rates and principal paydowns at TCI's apartments and commercial
properties, respectively.
Interest expense increased to $28.2 million in the nine months ended September
30, 2002, compared to $22.6 million in 2001. Of this increase, $796,000 was due
to prepayment fees related to the refinancing of 14 properties in 2002, $5.3
million was due to the purchase of 14 properties subject to debt in 2002 and
2001, $611,000 was due to an interest swap agreement at the Limestone Canyon
Apartments, and $43,000 was due to the refinancing of 14 apartment properties in
2002. These increases were offset by decreases of $245,000 and $930,000 due to
lower variable interest rates and principal paydowns at TCI's apartments and
commercial properties, respectively. Interest expense for the remaining quarter
of 2002 may increase due to the financing of unencumbered land and refinancing
of properties.
Depreciation expense increased to $4.8 million and $14.1 million in the three
and nine months ended September 30, 2002, from $3.9 million and $11.5 million in
2001. Of these increases, $464,000 and $1.0 million were due to the purchase of
eight properties subject to depreciation in 2002 and 2001 and $246,000 and
$437,000 were due to the completion of the two apartments and Hotel Akademia in
2002. Increases of $328,000 and $1.3 million were due to building and tenant
improvements at TCI's commercial properties, and increases of $6,000 and $87,000
were due improvements at TCI's hotels. These increases were offset by decreases
of $127,000 and $228,000 due to fully depreciated building improvements at TCI's
apartments. Depreciation expense for the remaining quarter of 2002 is expected
to increase as TCI completes its apartment construction projects.
For the three and nine months ended September 30, 2002, TCI recorded asset
impairments of $700,000 and $1.9 million representing the write down of certain
operating properties to current estimated fair value. These assets include the
following properties:
Fair Property Costs to
Property Location Units/Acres Value Basis Sell Impairment
- ---------------- -------- ----------- ------- -------- -------- ----------
Apartments
Apple Lane Lawrence, KS 75 Units $ 1,580 $ 1,593 $ 238 $ 251
Fairway View El Paso, TX 264 Units 5,700 5,242 863 405
Fountains of Waterford Midland, TX 172 Units 1,900 2,006 285 391
Plantation Tulsa, OK 138 Units 2,545 3,100 145 700
Sunchase Odessa, TX 300 Units 4,100 3,479 746 125
Land
Red Cross Dallas, TX 2.89 Acres 8,400 8,348 758 707
The Red Cross land is under contract to sell and the sales price was used as
fair value. The fair value determined for four apartments above were agreed upon
purchase prices as part of the refinancing transaction with Metra Capital, LLC.
The costs to sell were actual fees
29
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
- ------------------------------------------------------------------------
RESULTS OF OPERATIONS (Continued)
---------------------
Results of Operations (Continued)
- ---------------------
paid to refinance the properties. TCI is in current negotiations with lenders to
refinance the Plantation Apartments. Lenders will refinance the property at
between 80% and 90% of the value of the property. Currently, the loans are in
the range of $2.0 million and $2.4 million.
Advisory fee was $1.5 million and $4.2 million in the three and nine months
ended September 30, 2002, compared to $1.3 million and $4.2 million in 2001. The
increase for the quarter was due to an increase in TCI's gross assets, the basis
for such fee. Advisory fees will decrease with decreases in TCI's gross assets.
Net income fee to affiliate was $946,000 and $2.1 million in the three and nine
months ended September 30, 2001. The net income fee is payable to TCI's advisor
based on 7.5% of TCI's net income. TCI had a net loss for the nine months ended
September 30, 2002 and no such fee has been accrued.
Incentive fee to affiliate was $1.3 million and $2.9 million in the three and
nine months ended September 30, 2001. The incentive fee is payable to TCI's
advisor based on 10% of aggregate sales consideration less TCI's cost of all
properties sold during the year. In the nine months ended September 30, 2002,
the criteria for the fee has not been met.
General and administrative expenses were $2.3 million and $6.7 million in the
three and nine months ended September 30, 2002, compared to $1.7 million and
$7.6 million in 2001. The quarter increase was mainly due to increased
insurance, office rent, and legal fees. The year to date decrease was mainly due
to a decrease in advisor cost reimbursements and other professional fees.
In October 2000, TCI's stockholders approved the Director's Stock Option Plan
(the "Director's Plan") which provides for options to purchase up to 140,000
shares of TCI's Common Stock. Options granted pursuant to the Director's Plan
are immediately exercisable and expire on the earlier of the first anniversary
of the date on which a Director ceases to be a Director or 10 years from the
date of grant. Each Independent Director was granted an option to purchase 5,000
Common shares at an exercise price of $14.875 per share on October 10, 2000, the
date stockholders approved the plan. On January 1, 2001 and 2002, each
Independent Director was granted an option to purchase 5,000 Common shares at an
exercise price of $8.875 and $16.05, respectively, per common share. In February
2002, TCI purchased 20,000 options outstanding from retired directors R. Douglas
Leonhard and Edward Zampa for $82,000. In July 2002, Ted Stokely and Martin
White exercised their options for 15,000 shares. Currently, no options are
outstanding.
In the three and nine months of 2002, gains on sale of real estate totaling
$13.7 million and $26.4 million were recognized. In the three and nine months
ended September 30, 2001, gains on sale of real estate totaling $18.8 million
and $47.5 million were recognized. See NOTE 2. "REAL ESTATE."
30
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
- ------------------------------------------------------------------------
RESULTS OF OPERATIONS (Continued)
---------------------
Related Party Transactions
- --------------------------
Historically, TCI, ARI, BCM and IORI have each engaged in and may continue to
engage in business transactions, including real estate partnerships, with
related parties. Management believes that all of the related party transactions
represented the best investments available at the time and were at least as
advantageous to TCI as could have been obtained from unrelated parties.
Operating Relationships
- -----------------------
In the three and nine months ended September 30, 2002, TCI received $17,000 and
$51,000 in rent from BCM for BCM's lease at Addison Hanger. BCM owns a corporate
jet that is housed at the hanger and TCI has available space at the hanger.
Property Transactions
- ---------------------
In January 2002, TCI purchased 100% of the outstanding common shares of ART Two
Hickory Corporation from ARI, for $4.4 million. See NOTE 3. "NOTES AND INTEREST
RECEIVABLE." The purchase price was determined based upon the market value of
the property exchanged, using a market rate multiple of net operating income
("cap rate") of 7.0%. The business purpose of the transaction was for TCI to
make an equity investment in Two Hickory anticipating a profitable return.
In February 2002, TCI sold a $2.0 million senior participation interest in a
loan to IORI. See NOTE 3. "NOTES AND INTEREST RECEIVABLE." Management determined
that TCI could benefit from the increase in cash and decrease its notes
receivable outstanding portfolio.
In March 2002, TCI paid cash of $600,000 and received from ARI two parcels of
land, a 24.5 acre tract of Rasor land, a 16.89 acre tract of Lakeshore Villas
land, and the 45,623 sq. ft. Oaktree Village Shopping Center in exchange for the
80,278 sq. ft. Plaza on Bachman Creek Shopping Center. The exchange value prices
for the shopping centers were determined based on a cap rate of 10.5% and the
value for the Rasor and Lakeshore Villas land was determined on appraised rates
of $3.36 and $1.29, respectively, per square foot. The business purpose of the
transaction was for TCI to construct apartments on the Rasor and Lakeshore
Villas land and to give ample value for the property TCI exchanged, the Oaktree
Shopping Center was added to the transaction.
In April 2002, TCI purchased 100% of the following entities from ARI: Garden
Confederate Point, L.P., Garden Foxwood, L.P., Garden Woodsong, L.P. and ART One
Hickory Corporation for $10.0 million. See NOTE 3. "NOTES AND INTEREST
RECEIVABLE." The purchase price for these entities was determined based on a cap
rate of 8.41% for the partnerships and 7.0% for ART One Hickory Corporation. The
business purpose of the transaction was for TCI to make an equity investment in
the entities anticipating a profitable return.
In June 2002, TCI purchased Centura Tower Office Building from ARI for $50.0
million. See NOTE 2. "REAL ESTATE." The purchase price for the
31
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
- ------------------------------------------------------------------------
RESULTS OF OPERATIONS (Continued)
---------------------
Property Transactions (Continued)
- ---------------------
Centura Tower was determined based on appraised value and replacement cost. The
business purpose of the transaction was for TCI to acquire a Class A office
building with significant upside potential anticipating a profitable return.
Also in June 2002, TCI purchased five parcels of unimproved land from ARI: the
Hollywood Casino, Marine Creek, Mason Park, Nashville and Palm Desert land
parcels. See NOTE 2. "REAL ESTATE." The purchase price of the Hollywood Casino
land was determined based on an appraised rate of $9.10 per square foot. The
business purpose of the transaction was for TCI to consolidate its holdings
within the Mercer Crossing development. The purchase price for the Marine Creek,
Mason Park, Nashville and Palm Desert land parcels was determined based on
appraised rates of $2.00, $3.56, $4.00 and $1.48 per square foot, respectively.
The business purpose of the transaction was for TCI to develop apartments on
these four tracts of land.
Tax Matters
- -----------
Financial statement income varies from taxable income principally due to the
accounting for income and losses of investees, gains and losses from asset
sales, depreciation on owned properties, amortization of discounts on notes
receivable and payable and the difference in the allowance for estimated losses.
TCI had a loss for federal income tax purposes in the first nine months of 2002
and 2001; therefore, it recorded no provision for income taxes.
Inflation
- ---------
The effects of inflation on TCI's operations are not quantifiable. Revenues from
property operations tend to fluctuate proportionately with inflationary
increases and decreases in housing costs. Fluctuations in the rate of inflation
also affect sales values of properties and the ultimate gain to be realized from
property sales. To the extent that inflation affects interest rates, TCI's
earnings from short-term investments and the cost of new financings as well as
the cost of variable interest rate debt, will be affected.
Environmental Matters
- ---------------------
Under various federal, state and local environmental laws, ordinances and
regulations, TCI may be potentially liable for removal or remediation costs, as
well as certain other potential costs, relating to hazardous or toxic substances
(including governmental fines and injuries to persons and property) where
property-level managers have arranged for the removal, disposal or treatment of
hazardous or toxic substances. In addition, certain environmental laws impose
liability for release of asbestos-containing materials into the air, and third
parties may seek recovery for personal injury associated with such materials.
32
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
- ------------------------------------------------------------------------
RESULTS OF OPERATIONS (Continued)
---------------------
Environmental Matters (Continued)
- ---------------------
Management is not aware of any environmental liability relating to the above
matters that would have a material adverse effect on TCI's business, assets or
results of operations.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS
- --------------------------------------------------------------------
TCI addresses exposure to market risks, principally the market risk of changes
in interest rates, through a controlled program of Risk Management that includes
the use of an interest rate swap agreement on $12.8 million of debt (see NOTE
11. "DERIVATIVE FINANCIAL INSTRUMENTS"). In the event of a 1% variance in the
LIBOR interest rate, the interest expense related to this agreement would be
changed by $260,000 on an annual basis.
At September 30, 2002, TCI's exposure to a change in interest rates on its debt
is as follows:
Weighted Effect of 1%
Average Increase In
Balance Interest Rate Base Rates
--------- ------------- ------------
Notes payable:
Variable rate ............ $ 158,844 6.12% $ 1,588
========= =======
Total decrease in TCI's
annual net income ........ $ 1,588
=======
Per share .................. $ (.20)
=======
ITEM 4. CONTROLS AND PROCEDURES
- --------------------------------
(a) Within the 90 days prior to the date of this report, TCI carried out an
evaluation, under the supervision and with the participation of TCI's
management, including TCI's Acting Principal Executive Officer and
Principal Accounting Officer, of the effectiveness of the design and
operation of TCI's disclosure controls and procedures pursuant to Exchange
Act Rule 13a-14. Based upon the evaluation, TCI's Acting Principal
Executive Officer and Principal Accounting Officer concluded that TCI's
disclosure controls and procedures are effective in timely alerting him to
material information relating to TCI (including its consolidated
subsidiaries) required to be included in TCI's periodic SEC filings.
(b) There have been no significant changes in TCI's internal controls or in
other factors that could significantly affect TCI's internal controls
subsequent to the date TCI carried out this evaluation, including any
corrective actions with regard to significant deficiencies and material
weaknesses.
33
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
- --------------------------
On October 23, 2001, TCI, IORI and ARI jointly announced a preliminary agreement
with the plaintiff's legal counsel of a class and derivative action entitled
Olive et al v National Income Realty Trust et al for complete settlement of all
disputes in the lawsuit. For further information, refer to ITEM 1. "LEGAL
PROCEEDINGS" included in TCI's Second Quarter Report on Form 10-Q for the six
months ended June 30, 2002.
On November 7, 2002, ARI announced that it intends to commence, through
subsidiaries, a tender offer for shares of common stock of TCI and IORI. The
price per share to be paid will be $17.50 for TCI shares and $19.00 for IORI
shares. ARI expects to commence the tender offer on or before November 15, 2002.
The tender offers are being made to cure a default under the settlement
resulting from ARI's failure to timely complete the SEC review process of the
registration statement for the proposed mergers with TCI and IORI. ARI will
defer further action on the mergers, pending completion of the tender offers.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
- -----------------------------------------
(a) Exhibits:
Exhibit
Number Description
------- ---------------------------------------------------------------------
99.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002, filed herewith.
(b) Reports on Form 8-K as follows:
None.
34
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.
TRANSCONTINENTAL REALTY
INVESTORS, INC.
Date: November 14, 2002 By: /s/ Ronald E. Kimbrough
-------------------------- --------------------------------
Ronald E. Kimbrough
Executive Vice President
and Chief Financial Officer
(Principal Financial and
Accounting Officer and
Acting Principal Executive
Officer)
35
Certification
I, Ronald E. Kimbrough, Executive Vice President and Chief Financial Officer
(Principal Financial and Accounting Officer and Acting Principal Executive
Officer) of Transcontinental Realty Investors, Inc. ("TCI"), certify that:
1. I have reviewed this quarterly report on Form 10-Q of TCI;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4. I am responsible for establishing and maintaining internal controls and
procedures and have:
a. designed such internal controls to insure that material information
relating to TCI and its consolidated subsidiaries is made known to me
by others within those entities, particularly for the periods
presented in this quarterly report;
b. evaluated the effectiveness of TCI's internal controls as of a date
within 90 days prior to the filing date of this quarterly report; and
c. presented in this quarterly report my conclusions about the
effectiveness of the disclosure controls and procedures based on a
date within 90 days prior to the filing date of this quarterly report;
5. I have disclosed to TCI's auditors and Audit Committee of the Board of
Directors (or persons fulfilling the equivalent function):
a. all significant deficiencies in the design or operation of internal
controls which could adversely affect TCI's ability to record,
process, summarize, and report financial data and have identified for
TCI's auditors any material weaknesses in internal controls; and
b. any fraud, whether or not material, that involves management or other
employees who have a significant role in TCI's internal controls; and
6. I have indicated in this quarterly report whether or not there were
significant changes in internal controls or in other factors that could
significantly affect internal controls subsequent to the date of my most
recent evaluation, including corrective actions with regard to significant
deficiencies and material weaknesses.
Date: November 14, 2002 /s/ Ronald E. Kimbrough
------------------------ -----------------------------------
Ronald E. Kimbrough
Executive Vice President
and Chief Financial Officer
(Principal Financial and
Accounting Officer and
Acting Principal Executive Officer)
37
TRANSCONTINENTAL REALTY INVESTORS, INC.
EXHIBITS TO
QUARTERLY REPORT ON FORM 10-Q
For the Quarter ended September 30, 2002
Exhibit Page
Number Description Number
- ------- ------------------------------------------------------ ------
99.1 Certification Pursuant to 18 U.S.C. Section 1350, as 39
Adopted Pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.
38