FORM 10-Q
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2005
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER: 1-11718
EQUITY LIFESTYLE PROPERTIES, INC.
(Exact name of registrant as specified in its Charter)
MARYLAND 36-3857664
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
TWO NORTH RIVERSIDE PLAZA, SUITE 800, CHICAGO, ILLINOIS 60606
(Address of principal executive offices) (Zip Code)
(312) 279-1400
(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 [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes [X] No [ ]
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act). [ ] 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:
23,313,543 shares of Common Stock as of October 28, 2005.
EQUITY LIFESTYLE PROPERTIES, INC.
TABLE OF CONTENTS
Page
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PART I - FINANCIAL STATEMENTS
ITEM 1. FINANCIAL STATEMENTS
INDEX TO FINANCIAL STATEMENTS
Consolidated Balance Sheets as of September 30, 2005 (unaudited) and
December 31, 2004.................................................. 3
Consolidated Statements of Operations for the quarters and nine
months ended September 30, 2005 and 2004 (unaudited)............... 4
Consolidated Statements of Cash Flows for the nine months ended
September 30, 2005 and 2004 (unaudited)............................ 6
Notes to Consolidated Financial Statements............................ 8
ITEM 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations......................................... 23
ITEM 3. Quantitative and Qualitative Disclosures About Market Risk....... 43
ITEM 4. Controls and Procedures.......................................... 43
PART II - OTHER INFORMATION
ITEM 1. Legal Proceedings................................................ 44
ITEM 4. Submission of Matters to a Vote of Security Holders.............. 44
ITEM 5. Other Information................................................ 44
ITEM 6. Exhibits......................................................... 44
2
EQUITY LIFESTYLE PROPERTIES, INC.
CONSOLIDATED BALANCE SHEETS
AS OF SEPTEMBER 30, 2005 AND DECEMBER 31, 2004
(AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA)
SEPTEMBER 30,
2005 DECEMBER 31,
(UNAUDITED) 2004
------------- ------------
ASSETS
Investment in real estate:
Land ........................................................ $ 494,256 $ 470,587
Land improvements ........................................... 1,522,620 1,438,923
Buildings and other depreciable property .................... 133,115 126,280
---------- ----------
2,149,991 2,035,790
Accumulated depreciation .................................... (365,121) (322,867)
---------- ----------
Net investment in real estate ............................ 1,784,870 1,712,923
Cash and cash equivalents ...................................... 9,156 5,305
Notes receivable ............................................... 11,802 13,290
Investment in and advances to joint ventures ................... 46,338 43,583
Rents receivable, net .......................................... 1,483 1,469
Deferred financing costs, net .................................. 14,831 16,162
Inventory ...................................................... 59,127 50,654
Prepaid expenses and other assets .............................. 51,332 42,903
---------- ----------
Total assets ................................................ $1,978,939 $1,886,289
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Mortgage notes payable and other ............................ $1,460,862 $1,417,251
Unsecured line of credit .................................... 68,200 115,800
Unsecured term loan ......................................... 112,800 120,000
Accounts payable and accrued expenses ....................... 46,135 36,146
Accrued interest payable .................................... 8,886 8,894
Rents received in advance and security deposits ............. 22,163 21,135
Distributions payable ....................................... 792 448
---------- ----------
Total liabilities ........................................ 1,719,838 1,719,674
---------- ----------
Commitments and contingencies
Minority interest - Common OP Units and other .................. 13,176 9,771
Minority interest - Perpetual Preferred OP Units ............... 200,000 125,000
Stockholders' equity:
Preferred stock, $.01 par value
10,000,000 shares authorized; none issued ................ -- --
Common stock, $.01 par value 50,000,000 shares authorized;
23,111,622 and 22,937,192 shares issued and outstanding
for September 30, 2005 and December 31 2004,
respectively ............................................. 224 224
Paid-in capital ............................................. 297,684 294,304
Deferred compensation ....................................... -- (166)
Distributions in excess of accumulated earnings ............. (251,983) (262,518)
---------- ----------
Total stockholders' equity ............................... 45,925 31,844
---------- ----------
Total liabilities and stockholders' equity .................. $1,978,939 $1,886,289
========== ==========
The accompanying notes are an integral part of the financial statements.
3
EQUITY LIFESTYLE PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE QUARTERS AND NINE MONTHS ENDED SEPTEMBER 30, 2005 AND 2004
(AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
QUARTERS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- ---------------------
2005 2004 2005 2004
-------- -------- --------- ---------
PROPERTY OPERATIONS:
Community base rental income ............................ $ 53,507 $ 52,219 $ 159,467 $ 152,529
Resort base rental income ............................... 16,855 14,167 55,964 39,460
Utility and other income ................................ 6,479 5,793 20,996 18,411
-------- -------- --------- ---------
Property operating revenues .......................... 76,841 72,179 236,427 210,400
Property operating and maintenance ...................... 26,153 24,513 76,969 67,745
Real estate taxes ....................................... 6,200 5,920 18,659 17,002
Property management ..................................... 4,198 3,316 11,813 9,585
-------- -------- --------- ---------
Property operating expenses (exclusive of depreciation
shown separately below) ........................... 36,551 33,749 107,441 94,332
-------- -------- --------- ---------
Income from property operations ...................... 40,290 38,430 128,986 116,068
HOME SALES OPERATIONS:
Gross revenues from inventory home sales ................ 15,706 12,568 43,393 30,691
Cost of inventory home sales ............................ (13,534) (10,817) (38,104) (26,945)
-------- -------- --------- ---------
Gross profit from inventory home sales ............... 2,172 1,751 5,289 3,746
Brokered resale revenues, net ........................... 678 536 2,095 1,621
Home selling expenses ................................... (2,290) (2,155) (6,527) (6,381)
Ancillary services revenues, net ........................ 967 759 3,479 2,392
-------- -------- --------- ---------
Income from home sales operations and other .......... 1,527 891 4,336 1,378
OTHER INCOME (EXPENSES):
Interest income ......................................... 311 309 994 1,076
Income from other investments ........................... 4,492 335 13,420 959
Other corporate expenses ................................ (259) -- (791) --
General and administrative .............................. (3,512) (2,110) (10,197) (6,689)
Rent control initiatives ................................ (194) (375) (807) (1,295)
Interest and related amortization ....................... (25,302) (23,802) (75,304) (66,972)
Loss on early debt retirement ........................... (482) -- (482) --
Depreciation on corporate assets ........................ (243) (427) (682) (1,231)
Depreciation on real estate assets ...................... (13,984) (12,440) (41,243) (34,195)
-------- -------- --------- ---------
Total other expense .................................. (39,173) (38,510) (115,092) (108,347)
-------- -------- --------- ---------
Income before minority interests, equity in income
from unconsolidated joint ventures, gain on sale of
properties and discontinued operations ............ 2,644 811 18,230 9,099
-------- -------- --------- ---------
Income (loss) allocated to Common OP Units .............. (212) 283 (3,076) (669)
Income allocated to Perpetual Preferred OP Units ........ (4,017) (2,825) (9,929) (8,459)
Equity in income from unconsolidated joint ventures ..... 2,374 657 6,094 2,986
-------- -------- --------- ---------
Income (loss) from continuing operations ............. 789 (1,074) 11,319 2,957
-------- -------- --------- ---------
DISCONTINUED OPERATIONS:
Discontinued operations ................................. 383 577 1,556 1,783
Depreciation on discontinued operations ................. -- (318) (329) (1,004)
Gain on sale of discontinued properties ................. -- -- -- 638
Minority interests on discontinued operations ........... (81) (49) (259) (268)
-------- -------- --------- ---------
Income from discontinued operations .................. 302 210 968 1,149
-------- -------- --------- ---------
NET INCOME (LOSS) AVAILABLE FOR COMMON SHARES ........ $ 1,091 $ (864) $ 12,287 $ 4,106
======== ======== ========= =========
The accompanying notes are an integral part of the financial statements.
4
EQUITY LIFESTYLE PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS (CONTINUED)
FOR THE QUARTERS AND NINE MONTHS ENDED SEPTEMBER 30, 2005 AND 2004
(AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
QUARTERS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
----------------- -----------------
2005 2004 2005 2004
------- ------- ------- -------
EARNINGS PER COMMON SHARE - BASIC:
Income (loss) from continuing operations ..................... $ 0.03 $ (0.05) $ 0.49 $ 0.13
Income from discontinued operations .......................... 0.01 0.01 0.04 0.05
------- ------- ------- -------
Net income (loss) available for Common Shares ................ $ 0.04 $ (0.04) $ 0.53 $ 0.18
======= ======= ======= =======
EARNINGS PER COMMON SHARE - FULLY DILUTED:
Income (loss) from continuing operations ..................... $ 0.03 $ (0.05) $ 0.48 $ 0.12
Income from discontinued operations .......................... 0.01 0.01 0.04 0.05
------- ------- ------- -------
Net income (loss) available for Common Shares ................ $ 0.04 $ (0.04) $ 0.52 $ 0.17
======= ======= ======= =======
Distributions declared per Common Share outstanding .......... $ 0.025 $0.0125 $ 0.075 $0.0375
======= ======= ======= =======
Weighted average Common Shares outstanding - basic ........... 23,097 22,829 23,038 22,747
======= ======= ======= =======
Weighted average Common Shares outstanding - fully diluted ... 30,149 29,846 30,008 29,188
======= ======= ======= =======
The accompanying notes are an integral part of financial statements.
5
EQUITY LIFESTYLE PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2005 AND 2004
(AMOUNTS IN THOUSANDS)
(UNAUDITED)
SEPTEMBER 30, SEPTEMBER 30,
2005 2004
------------- -------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income .................................................................... $ 12,287 $ 4,106
Adjustments to reconcile net income to
cash provided by operating activities:
Income allocated to minority interests .................................. 13,264 9,396
Early debt retirement ................................................... 482 --
Gain on sale of properties .............................................. -- (638)
Depreciation expense .................................................... 43,595 37,172
Amortization expense .................................................... 2,111 1,602
Debt premium amortization ............................................... (1,975) --
Equity in income of unconsolidated joint ventures ....................... (7,435) (3,710)
Amortization of deferred compensation ................................... 2,250 2,027
(Decrease)/increase in provision for uncollectible rents receivable ..... (354) 203
Decrease in inventory reserve ........................................... (27) --
Decrease in provision for notes receivable .............................. (169) --
Changes in assets and liabilities:
Rents receivable ........................................................ 340 243
Inventory ............................................................... (8,139) (11,927)
Prepaid expenses and other assets ....................................... (2,925) (3,998)
Accounts payable and accrued expenses ................................... 12,482 12,155
Rents received in advance and security deposits ......................... (2,935) (3,052)
--------- ---------
Net cash provided by operating activities ..................................... 62,852 43,579
--------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of rental properties .............................................. (38,681) (137,398)
Disposition of rental properties .............................................. -- 671
Joint Ventures: ...............................................................
Investments in .......................................................... (7,106) (32,377)
Distributions from ...................................................... 10,158 4,077
Net repayment (funding) of notes receivable ................................... 1,350 (1,663)
Improvements:
Improvements - corporate ................................................ (606) (245)
Improvements - rental properties ........................................ (11,516) (9,498)
Site development costs .................................................. (11,642) (9,532)
--------- ---------
Net cash used in investing activities ......................................... (58,043) (185,965)
--------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net proceeds from stock options and employee stock purchase plan .............. 2,204 5,001
Proceeds from issuance of Perpetual Preferred OP Units ........................ 75,000 --
Distributions to Common Stockholders, Common OP Unitholders, and Perpetual
Preferred OP Unitholders ................................................... (12,113) (233,858)
Issuance costs ................................................................ (78) --
Line of credit:
Proceeds ................................................................... 111,000 81,000
Repayments ................................................................. (158,600) (20,000)
Term loan repayment ........................................................... (7,200) --
Principal payments ............................................................ (43,843) (6,177)
New financing proceeds ........................................................ 34,000 --
Early debt retirement ......................................................... (924) --
Debt issuance costs ........................................................... (404) (1,728)
--------- ---------
Net cash used in financing activities ......................................... (958) (175,762)
--------- ---------
Net increase (decrease) in cash and cash equivalents ............................. 3,851 (318,148)
Cash and cash equivalents, beginning of period ................................... 5,305 325,740
--------- ---------
Cash and cash equivalents, end of period ......................................... $ 9,156 $ 7,592
========= =========
The accompanying notes are an integral part of financial statements.
6
EQUITY LIFESTYLE PROPERTIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2005 AND 2004
(AMOUNTS IN THOUSANDS)
(UNAUDITED)
SEPTEMBER 30, SEPTEMBER 30,
2005 2004
------------- -------------
SUPPLEMENTAL INFORMATION:
Cash paid during the period for interest....................................... $73,215 $ 64,034
Non-cash investing and financing activities:
Mortgage debt assumed on acquisition of real estate......................... $53,517 $347,300
Other assets and liabilities, net, acquired on acquisition of real estate... $ 2,161 $ 13,500
Minority interest of 7% partner on acquisition of NHC Portfolio............. $ -- $ 5,600
Issuance of operating partnership units in connection with the acquisition
of Monte Vista........................................................... $ -- $ 32,100
Proceeds from loan to pay insurance premiums................................ $ 2,404 $ --
The accompanying notes are an integral part of the financial statements.
7
EQUITY LIFESTYLE PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DEFINITION OF TERMS:
Equity Lifestyle Properties, Inc., a Maryland corporation, together with
MHC Operating Limited Partnership (the "Operating Partnership") and other
consolidated subsidiaries ("Subsidiaries"), are referred to herein as the
"Company", "ELS", "we", "us", and "our". Capitalized terms used but not defined
herein are as defined in the Company's Annual Report on Form 10-K (as amended by
Form 10-K/A filed on March 31, 2005, the "2004 Form 10-K") for the year ended
December 31, 2004.
PRESENTATION:
These unaudited Consolidated Financial Statements have been prepared
pursuant to the Securities and Exchange Commission ("SEC") rules and regulations
and should be read in conjunction with the financial statements and notes
thereto included in the 2004 Form 10-K. The following Notes to Consolidated
Financial Statements highlight significant changes to the Notes included in the
2004 Form 10-K and present interim disclosures as required by the SEC. The
accompanying Consolidated Financial Statements reflect, in the opinion of
management, all adjustments necessary for a fair presentation of the interim
financial statements. All such adjustments are of a normal and recurring nature.
Certain reclassifications have been made to the prior periods' financial
statements in order to conform with current period presentation.
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a) Basis of Consolidation
The Company consolidates its majority-owned subsidiaries in which it has
the ability to control the operations of the subsidiaries and all variable
interest entities with respect to which the Company is the primary beneficiary.
All inter-company transactions have been eliminated in consolidation. The
Company's acquisitions were all accounted for as purchases in accordance with
Statement of Financial Accounting Standards No. 141, "Business Combinations"
("SFAS No. 141").
In December 2003, the Financial Accounting Standards Board ("FASB") issued
Interpretation No. 46R, Consolidation of Variable Interest Entities ("FIN 46R")
- - an interpretation of ARB 51. The objective of FIN 46R is to provide guidance
on how to identify a variable interest entity ("VIE") and determine when the
assets, liabilities, non-controlling interests, and results of operations of a
VIE need to be included in a company's consolidated financial statements. A
company that holds variable interests in an entity will need to consolidate such
entity if the company absorbs a majority of the entity's expected losses or
receives a majority of the entity's expected residual returns if they occur, or
both (i.e., the primary beneficiary). The Company will apply FIN 46R to all
types of entity ownership (general and limited partnerships and corporate
interests).
The Company will re-evaluate and apply the provisions of FIN 46R to
existing entities if certain events occur which warrant re-evaluation of such
entities. In addition, the Company will apply the provisions of FIN 46R to all
new entities in the future. The Company also consolidates entities in which it
has a controlling direct or indirect voting interest. The equity method of
accounting is applied to entities in which the Company does not have a
controlling direct or indirect voting interest, but can exercise influence over
the entity with respect to its operations and major decisions. The cost method
is applied when (i) the investment is minimal (typically less than 5%) and (ii)
the Company's investment is passive.
(b) Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
8
EQUITY LIFESTYLE PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
(c) Segments
We manage all our operations on a property-by-property basis. Since each
Property has similar economic and operational characteristics, the Company has
one reportable segment, which is the operation of land lease Properties. The
distribution of the Properties throughout the United States reflects our belief
that geographic diversification helps insulate the portfolio from regional
economic influences. We intend to target new acquisitions in or near markets
where the Properties are located and will also consider acquisitions of
Properties outside such markets.
(d) Inventory
Inventory consists of new and used Site Set homes and is stated at the
lower of cost or market after consideration of the N.A.D.A. (National Automobile
Dealers Association) Manufactured Housing Appraisal Guide and the current market
value of each home included in the home inventory. Inventory sales revenues and
resale revenues are recognized when the home sale is closed. Inventory is
recorded net of an inventory reserve as of September 30, 2005 and December 31,
2004 of $573,000 and $600,000, respectively. Resale revenues are stated net of
commissions paid to employees of $1,101,000 and $846,000 for the nine months
ended September 30, 2005 and 2004, respectively.
(e) Real Estate
In accordance with SFAS No. 141, we allocate the purchase price of
Properties we acquire to net tangible and identified intangible assets acquired
based on their fair values. In making estimates of fair values for purposes of
allocating purchase price, we utilize a number of sources, including independent
appraisals that may be available in connection with the acquisition or financing
of the respective Property and other market data. We also consider information
obtained about each Property as a result of our due diligence, marketing and
leasing activities in estimating the fair value of the tangible and intangible
assets acquired.
Real estate is recorded at cost less accumulated depreciation. Depreciation
is computed on the straight-line basis over the estimated useful lives of the
assets. We use a 30-year estimated life for buildings acquired and structural
and land improvements, a ten-to-fifteen-year estimated life for building
upgrades and a three-to-seven-year estimated life for furniture, fixtures and
equipment. The values of above and below market leases are amortized and
recorded as either an increase (in the case of below market leases) or a
decrease (in the case of above market leases) to rental income over the
remaining term of the associated lease. The value associated with in-place
leases is amortized over the expected term, which includes an estimated
probability of lease renewal. Expenditures for ordinary maintenance and repairs
are expensed to operations as incurred, and significant renovations and
improvements that improve the asset and extend the useful life of the asset are
capitalized and then expensed over the asset's estimated useful life. However,
the useful lives, salvage value, and customary depreciation method used for land
improvements and other significant assets may significantly and materially
overstate the depreciation of the underlying assets and therefore understate the
net income of the Company.
We evaluate our Properties for impairment when conditions exist which may
indicate that it is probable that the sum of expected future cash flows
(undiscounted) from a Property over the anticipated holding period is less than
its carrying value. Upon determination that a permanent impairment has occurred,
the applicable Property is reduced to fair value.
For Properties to be disposed of, an impairment loss is recognized when the
fair value of the Property, less the estimated cost to sell, is less than the
carrying amount of the Property measured at the time the Company has a
commitment to sell the Property and/or is actively marketing the Property for
sale. A Property to be disposed of is reported at the lower of its carrying
amount or its estimated fair value, less costs to sell. Subsequent to the date
that a Property is held for disposition, depreciation expense is not recorded.
The Company accounts for its Properties held for disposition in accordance with
Statement of Financial Accounting Standards No. 144 ("SFAS No. 144"),
"Accounting for the Impairment or Disposal of Long-Lived Assets". Accordingly,
the results of operations for all assets sold or held for sale after January 1,
2003 have been classified as discontinued operations in all periods presented.
9
EQUITY LIFESTYLE PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
(f) Cash and Cash Equivalents
We consider all demand and money market accounts and certificates of
deposit with a maturity, when purchased, of three months or less to be cash
equivalents.
(g) Notes Receivable
Notes receivable generally are stated at their outstanding unpaid principal
balances net of any deferred fees or costs on originated loans, or unamortized
discounts or premiums net of a valuation allowance. Interest income is accrued
on the unpaid principal balance. Discounts or premiums are amortized to income
using the interest method. In certain cases we finance the sales of homes to our
customers (referred to as "Chattel Loans") which loans are secured by the homes.
The valuation allowance for the Chattel Loans is calculated based on a
comparison of the outstanding principal balance of each note compared to the
N.A.D.A. value and the current market value of the underlying manufactured home
collateral. These notes are recorded net of allowances of $81,000 and $250,000
as of September 30, 2005 and December 31, 2004, respectively.
(h) Investments in Joint Ventures
Investments in joint ventures in which the Company does not have a
controlling direct or indirect voting interest, but can exercise significant
influence over the entity with respect to its operations and major decisions,
are accounted for using the equity method of accounting whereby the cost of an
investment is adjusted for the Company's share of the equity in net income or
loss from the date of acquisition and reduced by distributions received. The
income or loss of each entity is allocated in accordance with the provisions of
the applicable operating agreements. The allocation provisions in these
agreements may differ from the ownership interests held by each investor.
Differences between the carrying amount of the Company's investment in the
respective entities and the Company's share of the underlying equity of such
unconsolidated entities are amortized over the respective lives of the
underlying assets, as applicable.
In applying the provisions of FIN 46R (see Basis of Consolidation, above),
the Company determined that its Mezzanine Investment (as hereinafter defined) is
a VIE; however, the Company concluded that it is not the primary beneficiary. As
such, the adoption of this pronouncement had no effect on the Company's
financial statements.
(i) Income from Other Investments
Income from other investments consists of ground lease income from the
Thousand Trails Transaction of $12.0 million and $0 for the nine months ended
September 30, 2005 and 2004, respectively, and income from the College Heights
preferred limited partnership investment of approximately $0.8 and $0.7 million
for the nine months ended September 30, 2005 and 2004, respectively.
10
EQUITY LIFESTYLE PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
(j) Insurance Claims
The Properties are covered against fire, flood, property damage,
earthquake, wind storm and business interruption by insurance policies
containing various deductible requirements and coverage limits. Recoverable
costs are classified in other assets as incurred. Proceeds are applied against
the asset when received. Recoverable costs relating to capital items are treated
in accordance with the Company's capitalization policy. The book value of the
original capital item is written off in the replacement period. Insurance
proceeds relating to the capital costs will be recorded as income in the period
they are received.
As disclosed in the 2004 Form 10-K, approximately 70 Florida Properties
suffered damage from the four hurricanes that struck Florida during August and
September 2004. As of September 30, 2005, total expenditures related thereto
were approximately $11.0 million. The Company has received proceeds from
insurance carriers of $0.4 million as of September 30, 2005. Approximately $0.7
million and $1.0 million for 2005 and 2004, respectively, has been charged to
operations as reserves related to these expenditures, and $0.4 million was
charged directly to operating expense in 2004. $6.0 million and $5.9 million
were included in other assets as a receivable from insurance providers as of
September 30, 2005 and December 31, 2004, respectively. In addition, on October
3, 2005 we received approximately $1.1 million from our insurance carriers,
further reducing the accounts receivable balance to $4.9 million. $2.5 million
and $0 of these expenditures have been capitalized per the Company's
capitalization policy as of September 30, 2005 and December 31, 2004
respectively. The Company expects to incur additional expenditures to complete
the work necessary to restore these Properties to their pre-hurricanes
condition.
Through September 30, 2005, the Company has submitted proofs of claims to
carriers for substantially all hurricane related expenditures referred to in the
preceding paragraph. In addition, these proofs of claims included requests for
reimbursement for inventory losses, and lost income as well as expected future
hurricane related expenditures. The Company continues to compile the information
and supporting documentation required to submit additional claims for
reimbursement. While the Company believes that it has provided timely notice to
its insurance providers and submitted claims in a timely fashion, the
recoverability of such claims and the timing of reimbursements are based on
several factors, some of which are not within the Company's control. This
process will continue to impact the Company's balance sheet and cash flow until
such claims are resolved, as it is impossible to predict with any certainty the
date that such recoveries from the insurance carriers will be received. In
addition, there is a risk that the insurance providers will dispute some or all
of the Company's claims.
(k) Restatement
During 2004, the Company changed the way it accounted for costs incurred in
pursuing certain rent control initiatives. As a result, the Company expensed
$807,000 and $1,295,000 for the nine months ended September 30, 2005 and 2004,
respectively, because the previous method of accounting for the costs was
determined to be incorrect. The Company had historically classified these costs,
primarily legal, in other assets. To the extent the Company's efforts to
effectively change the use and operations of the Properties were successful, the
Company would have capitalized the costs to land improvements as an increase in
the established value of the revised project and depreciated them over 30 years.
To the extent these efforts were not successful, the costs would have been
expensed.
(l) Reclassifications
Certain 2004 amounts have been reclassified to conform to the 2004 annual
financial presentation. Such reclassifications have no effect on the operations
or equity as originally presented.
11
EQUITY LIFESTYLE PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 2 - EARNINGS PER COMMON SHARE
Earnings per common share are based on the weighted average number of
common shares outstanding during each year. Statement of Financial Accounting
Standards No. 128, "Earnings Per Share" ("SFAS No. 128") defines the calculation
of basic and fully diluted earnings per share. Basic and fully diluted earnings
per share are based on the weighted average shares outstanding during each
period and basic earnings per share excludes any dilutive effects of options,
warrants and convertible securities. The conversion of OP Units has been
excluded from the basic earnings per share calculation. The conversion of an OP
Unit to a share of Common Stock has no material effect on earnings per common
share.
The following table sets forth the computation of basic and diluted
earnings per common share for the quarters and nine months ended September 30,
2005 and 2004 (amounts in thousands):
QUARTERS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
----------------- -----------------
2005 2004 2005 2004
------- ------- ------- -------
NUMERATORS:
INCOME FROM CONTINUING OPERATIONS:
Income (loss) from continuing operations - basic ................ $ 789 $(1,074) $11,319 $ 2,957
Amounts allocated to dilutive securities ........................ 212 (283) 3,076 669
------- ------- ------- -------
Income (loss) from continuing operations - fully diluted ........ $ 1,001 $(1,357) $14,395 $ 3,626
======= ======= ======= =======
INCOME FROM DISCONTINUED OPERATIONS:
Income from discontinued operations - basic ..................... $ 302 $ 210 $ 968 $ 1,149
Amounts allocated to dilutive securities ........................ 81 49 259 268
------- ------- ------- -------
Income from discontinued operations - fully diluted ............. $ 383 $ 259 $ 1,227 $ 1,417
======= ======= ======= =======
NET INCOME AVAILABLE FOR COMMON SHARES - FULLY DILUTED:
Net income (loss) available for Common Shares - basic ........... $ 1,091 $ (864) $12,287 $ 4,106
Amounts allocated to dilutive securities ........................ 293 (234) 3,335 937
------- ------- ------- -------
Net income (loss) available for Common Shares - fully diluted ... $ 1,384 $(1,098) $15,622 $ 5,043
======= ======= ======= =======
DENOMINATOR:
Weighted average Common Shares outstanding - basic ................. 23,097 22,829 23,038 22,747
Effect of dilutive securities:
Redemption of Common OP Units for Common Shares ................. 6,308 6,506 6,319 5,914
Employee stock options and restricted shares .................... 744 511 651 527
------- ------- ------- -------
Weighted average Common Shares outstanding - fully diluted ......... 30,149 29,846 30,008 29,188
======= ======= ======= =======
12
EQUITY LIFESTYLE PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 3 - COMMON STOCK AND RELATED TRANSACTIONS
On June 30, 2005, the Operating Partnership issued $50 million of 7.95%
Series F Cumulative Redeemable Perpetual Preference Units (the "Series F
Units"), to institutional investors. The Series F Units are non-callable for
five years and have no stated maturity or mandatory redemption. Net proceeds
from the offering were used to pay down amounts outstanding under the Company's
line of credit.
On March 24, 2005, the Operating Partnership issued $25 million of 8.0625%
Series D Cumulative Redeemable Perpetual Preference Units (the "Series D 8%
Units"), to institutional investors. The Series D 8% Units are non-callable for
five years. In addition, the Operating Partnership had an existing $125 million
of 9.0% Series D Cumulative Redeemable Perpetual Preference Units (the "Series D
9% Units") outstanding that were callable by the Company as of September 2004.
In connection with the new issue, the Operating Partnership agreed to extend the
non-call provision of the Series D 9% Units to be coterminous with the new
issue, and the institutional investors holding the Series D 9% Units agreed to
lower the rate on such units to 8.0625%. All of the units have no stated
maturity or mandatory redemption. Net proceeds from the offering were used to
pay down amounts outstanding under the Company's line of credit.
On April 8, 2005, the Company paid a $0.025 per share distribution for the
quarter ended March 31, 2005 to stockholders of record on March 25, 2005. On
July 8, 2005, the Company paid a $0.025 per share distribution for the quarter
ended June 30, 2005 to stockholders of record on June 24, 2005. On October 14,
2005, the Company paid a $0.025 per share distribution for the quarter ended
September 30, 2005 to stockholders of record on September 30, 2005. On March 24,
2005, the Operating Partnership paid distributions of 9.0% per annum on the $125
million of Series D 9% Units, and for the seven days ended March 31, 2005, the
Operating Partnership paid distributions of 8.0625% per annum on the $150
million Series D 8% Units. On June 30, 2005 the Operating Partnership paid
distributions of 8.0625% per annum on the $150 million of Series D 8% Units. On
September 30, 2005, the Operating Partnership paid distributions of 8.0625% per
annum on the $150 million of Series D 8% Units and 7.95% per annum on the $50
million of Series F 7.95% Units.
NOTE 4 - INVESTMENT IN REAL ESTATE
Investment in real estate is comprised of (amounts in thousands):
Properties Held for Long Term
SEPTEMBER 30, DECEMBER 31,
2005 2004
------------- ------------
Investment in real estate:
Land ....................................... $ 486,288 $ 462,619
Land improvements .......................... 1,489,694 1,406,246
Buildings and other depreciable property ... 131,173 124,357
---------- ----------
2,107,155 1,993,222
Accumulated depreciation ................... (351,202) (309,277)
---------- ----------
Net investment in real estate ........... $1,755,973 $1,683,945
========== ==========
Properties Held for Sale
SEPTEMBER 30, DECEMBER 31,
2005 2004
------------- ------------
Investment in real estate:
Land ....................................... $ 7,968 $ 7,968
Land improvements .......................... 32,926 32,677
Buildings and other depreciable property ... 1,942 1,923
-------- --------
42,836 42,568
Accumulated depreciation ................... (13,919) (13,590)
-------- --------
Net investment in real estate ........... $ 28,897 $ 28,978
======== ========
13
EQUITY LIFESTYLE PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 4 - INVESTMENT IN REAL ESTATE (CONTINUED)
We actively seek to acquire additional Properties and currently are engaged
in negotiations relating to the possible acquisition of a number of Properties.
At any time these negotiations are at varying stages that may include contracts
outstanding to acquire certain Properties which are subject to satisfactory
completion of our due diligence review.
During the nine months ended September 30, 2005, we acquired seven
Properties as listed in the table below. The combined investment in real estate
for these Properties was approximately $89.9 million and was funded with money
drawn from our line of credit and purchaser assumed debt (amounts in millions,
except for total sites).
TOTAL REAL NET
CLOSING DATE PROPERTY LOCATION SITES ESTATE DEBT EQUITY
- ------------ ------------------ ---------------------- ----- ------ ----- ------
June 20, 2005 San Francisco RV Pacifica, CA 182 $ 6.6 $ -- $ 6.6
August 12, 2005 Morgan Portfolio Various (5 properties) 2,929 $69.1 $53.5 $15.6
September 15, 2005 Lake George Escape Lake George, NY 576 $14.2 $ -- $14.2
----- ----- ----- -----
3,687 $89.9 $53.5 $36.4
----- ----- ----- -----
All acquisitions have been accounted for utilizing the purchase method of
accounting, and, accordingly, the results of operations of acquired assets are
included in the statements of operations from the dates of acquisition. Certain
purchase price adjustments may be recorded within one year following the
acquisitions. We acquired all of these Properties from unaffiliated third
parties.
As of March 31, 2005, the Company designated seven Properties as held for
disposition pursuant to SFAS No. 144. The Company determined that these
Properties no longer met its investment criteria. The Company expects to sell
these Properties within 12 months for proceeds greater than their net book
value. As such, the results from operations of these Properties have been
classified as income from discontinued operations. The seven Properties
classified as held for disposition are listed in the table below.
Property Location Sites
- -------- ---------------- -----
Casa Village............... Billings, MT 490
Creekside.................. Wyoming, MI 165
Del Rey.................... Albuquerque, NM 407
Five Seasons............... Cedar Rapids, IA 390
Forest Oaks................ Chesterton, IN 227
Holiday Village............ Sioux City, IA 519
Windsong................... Indianapolis, IN 268
14
EQUITY LIFESTYLE PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 4 - INVESTMENT IN REAL ESTATE (CONTINUED)
The following table summarizes the combined results of operations of the
seven Properties held for sale for the quarter ended September 30, 2005 and
2004, seven Properties held for sale and eight Properties, including one
Property sold during the second quarter of 2004, for the nine months ended
September 30, 2005 and 2004, respectively (amounts in thousands).
QUARTERS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
--------------- -----------------
2005 2004 2005 2004
------ ------ ------- -------
Rental income ....................................... $1,455 $1,646 $ 4,604 $ 5,183
Utility and other income ............................ 110 146 431 509
------ ------ ------- -------
Property operating revenues ...................... 1,565 1,792 5,035 5,692
Property operating expenses ......................... 925 987 2,743 3,095
------ ------ ------- -------
Income from property operations .................. 640 805 2,292 2,597
Income (loss) from home sales operations and other .. (18) 12 (27) (59)
Interest ............................................ (231) (231) (684) (730)
Amortization ........................................ (8) (9) (25) (25)
Depreciation ........................................ -- (318) (329) (1,004)
------ ------ ------- -------
Total other expenses ............................. (239) (558) (1,038) (1,759)
------ ------ ------- -------
Gain on sale ........................................ -- -- -- 638
Minority interest ................................... (81) (49) (259) (268)
------ ------ ------- -------
Net income from discontinued operations ............. $ 302 $ 210 $ 968 $ 1,149
====== ====== ======= =======
NOTE 5 - NOTES RECEIVABLE
As of September 30, 2005 and December 31, 2004, the Company had
approximately $11.8 million and $13.3 million in notes receivable, respectively.
These notes are recorded net of allowances of $81,000 and $250,000 as of
September 30, 2005 and December 31, 2004, respectively. The Company has
approximately $11.4 million in Chattel Loans receivable, which yield interest at
a per annum average rate of approximately 9.2%, have an average term and
amortization of 5 to 15 years, require monthly principal and interest payments
and are collateralized by manufactured homes at certain of the Properties. The
Company has approximately $403,000 in notes which bear interest at a per annum
rate of prime plus 0.5% and mature on December 31, 2011. The notes are
collateralized with a combination of Common OP Units and partnership interests
in certain joint ventures.
NOTE 6 - INVESTMENT IN AND ADVANCES TO JOINT VENTURES
The Company recorded approximately $6.1 million and $3.0 million of net
income from joint ventures, net of $1.3 million and $0.7 million of depreciation
expense for the nine months ended September 30, 2005 and 2004, respectively. The
Company received approximately $10.2 million and $4.1 million in distributions
for the nine months ended September 30, 2005 and 2004, respectively. $2.2
million and $0.5 million exceeded the Company's basis and thus was recorded in
equity in income from joint ventures. Due to the Company's inability to control
the joint ventures, the Company accounts for its investment in the joint
ventures using the equity method of accounting.
During the nine months ended September 30, 2005, the Company invested
approximately $7 million for a 50 percent preferred joint venture interest in
three properties located near Bar Harbor, Maine.
15
EQUITY LIFESTYLE PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 6 - INVESTMENT IN AND ADVANCES TO JOINT VENTURES (CONTINUED)
The following table summarizes the Company's investments in unconsolidated
joint ventures (with the number of properties shown parenthetically):
NUMBER OF ECONOMIC INVESTMENT AS OF INVESTMENT AS OF
PROPERTY LOCATION SITES INTEREST (a) SEPT. 30, 2005 DEC. 31, 2004
- -------------------------- ------------ --------- ------------ ---------------- ----------------
(in thousands) (in thousands)
Meadows Investments....... Various (2) 1,027 50% $ 184 $ 4,763
Lakeshore Investments..... Florida (2) 343 90% 51 630
Voyager................... Tucson, AZ 1,575 25% 3,185 3,010
Mezzanine Investments..... Various (11) 5,054 -- 32,096 31,207
Indian Wells.............. Indio, CA 350 30% 253 271
Diversified Investments... Various (11) 4,443 25% 3,183 3,702
Maine Portfolio........... Maine (3) 495 50% 7,386 --
------ ------- -------
13,287 $46,338 $43,583
====== ======= =======
(a) The percentages shown approximate the Company's economic interest. The
Company's legal interest may differ.
The following tables present combined summarized financial information for
the unconsolidated real estate joint ventures (amounts in thousands).
BALANCE SHEET
AS OF
----------------------------
SEPTEMBER 30, DECEMBER 31,
2005 2004
------------- ------------
ASSETS
Real estate, net.............. $190,599 $183,480
Other assets.................. 23,414 22,646
-------- --------
TOTAL ASSETS..................... $214,013 $206,126
======== ========
LIABILITIES & EQUITY
Mortgage debt & other loans... $164,642 $152,682
Other liabilities............. 15,837 13,485
Partners' equity.............. 33,534 39,959
-------- --------
TOTAL LIABILITIES AND EQUITY..... $214,013 $206,126
======== ========
STATEMENT OF OPERATIONS
FOR THE QUARTERS FOR THE NINE MONTHS
ENDED SEPT. 30, ENDED SEPT. 30,
----------------- -------------------
2005 2004 2005 2004
------- ------- ------- -------
Rentals ...................... $ 7,721 $ 5,855 $24,828 $20,043
Other Income ................. 2,323 1,816 7,147 5,794
------- ------- ------- -------
TOTAL REVENUES ............... 10,044 7,671 31,975 25,837
Operating Expenses ........... 5,997 4,600 16,613 13,555
Interest ..................... 2,278 1,880 7,047 5,461
Other Income & Expenses ...... 634 1,410 1,821 2,134
Depreciation & Amortization .. 2,820 2,545 8,434 7,440
------- ------- ------- -------
TOTAL EXPENSES ............... 11,729 10,435 33,915 28,590
------- ------- ------- -------
NET LOSS ..................... $(1,685) $(2,764) $(1,940) $(2,753)
======= ======= ======= =======
16
EQUITY LIFESTYLE PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 7 - LONG-TERM BORROWINGS
As of September 30, 2005 and December 31, 2004, the Company had outstanding
mortgage indebtedness on Properties held for the long term of approximately
$1,445 million and $1,402 million, respectively, and approximately $15 million
of mortgage indebtedness as of September 30, 2005 and December 31, 2004 for
Properties held for sale, encumbering a total of 165 of the Company's
Properties. As of September 30, 2005 and December 31, 2004, the carrying value
of such Properties was approximately $1,724 million and $1,653 million,
respectively.
During the quarter we refinanced two mortgage loans for proceeds of $34
million at a rate of 4.95% per annum. Net proceeds were used to pay down
approximately $20 million in other secured financing maturing in 2006 and to pay
$934,000 in early debt retirement costs offset by related debt premium balance
write-offs.
The outstanding mortgage indebtedness as of September 30, 2005 consists of:
- Approximately $496.7 million of mortgage debt (the "Recap") consisting
of 49 loans collateralized by 51 Properties beneficially owned by
separate legal entities that are Subsidiaries of the Company, which we
closed on October 17, 2003. Of this Mortgage Debt, $164.4 million
bears interest at 5.35% per annum and matures November 1, 2008; $79.9
million bears interest at 5.72% per annum and matures November 1,
2010; $79.1 million bears interest at 6.02% per annum and matures
November 1, 2013; and $173.3 million bears interest at 6.33% per annum
and matures November 1, 2015. The Mortgage Debt amortizes over 30
years.
- A $265.0 million mortgage note (the "$265 Million Mortgage")
collateralized by 28 Properties beneficially owned by MHC Financing
Limited Partnership. The $265 Million Mortgage has a maturity date of
January 2, 2028 and bears interest at 7.015% per annum. There is no
principal amortization until February 1, 2008, after which principal
and interest are to be paid from available cash flow and the interest
rate will be reset at a rate equal to the then 10-year U.S. Treasury
obligations plus 2.0%. The $265 Million Mortgage is presented net of a
settled hedge of $3.0 million (net of accumulated amortization of
$549,562), which is being amortized into interest expense over the
life of the loan. On October 17, 2005, the Company announced that it
had initiated the process of refinancing the $265 Million Mortgage.
See Liquidity section in the Management's Discussion and Analysis of
Financial Condition and Results of Operations portion of this Form
10-Q.
- An $89.8 million mortgage note (the "DeAnza Mortgage") collateralized
by 6 Properties beneficially owned by MHC-DeAnza Financing Limited
Partnership. The DeAnza Mortgage bears interest at a rate of 7.82% per
annum, amortizes beginning August 1, 2000 over 30 years and matures
July 1, 2010.
- A $48 million mortgage note (the "Stagecoach Mortgage") collateralized
by 7 Properties beneficially owned by MHC Stagecoach L.L.C. The
Stagecoach Mortgage bears interest at a rate of 6.98% per annum,
amortizes beginning September 1, 2001 over 10 years and matures
September 1, 2011.
- A $43 million mortgage note (the "Bay Indies Mortgage") collateralized
by one Property beneficially owned by MHC Bay Indies, L.L.C. The Bay
Indies Mortgage bears interest at a rate of 5.69% per annum, amortizes
beginning April 17, 2003 over 25 years and matures May 1, 2013.
- A $15.1 million mortgage note (the "Date Palm Mortgage")
collateralized by one Property beneficially owned by MHC Date Palm,
L.L.C. The Date Palm Mortgage bears interest at a rate of 7.96% per
annum, amortizes beginning August 1, 2000 over 30 years and matures
July 1, 2010
- Approximately $505.1 million of mortgage debt on 71 other Properties,
net of a recorded $9.4 million premium being amortized over the life
of the loans using the effective interest rate method. Scheduled
maturities for the outstanding indebtedness are at various dates
through November 1, 2027, and fixed
17
EQUITY LIFESTYLE PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 7 - LONG-TERM BORROWINGS (CONTINUED)
interest rates range from 5.16% to 8.55% per annum. Included in this
debt, the Company has a $2.4 million loan recorded to account for a
direct financing lease entered into in May 1997.
UNSECURED LOANS
TERM LOAN
The Company has a Term Loan agreement, pursuant to which it borrowed $120
million, on an unsecured basis, at LIBOR plus 1.75% per annum. The Term Loan
will be due and payable on November 10, 2007, unless this initial maturity date
is extended by the borrower for an additional two years upon satisfaction of
certain conditions. Proceeds from this debt were used to acquire KTTI Holding
Company, Inc. as part of the Thousand Trails transaction. During the nine months
ended September 30, 2005, the Company made a principal repayment of $7.2 million
on the Term Loan.
LINES OF CREDIT
The Company has a $110 million credit facility with a group of banks,
bearing interest at LIBOR plus 1.65% per annum and maturing on August 9, 2006,
which can be extended by the borrower for an additional year to August 9, 2007.
As of September 30, 2005, $49.5 million was available under this facility.
The Company has a $50 million credit facility with Wells Fargo Bank,
bearing interest at LIBOR plus 1.65% per annum and maturing on May 4, 2006,
which can be extended by the borrower for an additional year to May 4, 2007. As
of September 30, 2005, $42.3 million was available under this facility.
OTHER LOANS
During the nine months ended September 30, 2005, the Company borrowed $2.4
million to finance its insurance premium payments. As of September 30, 2005,
$890,000 remained outstanding. This loan is due in January 2006 and bears
interest at 4.07% per annum.
NOTE 8 - STOCK-BASED COMPENSATION
We account for our stock-based compensation in accordance with SFAS No. 123
and its amendment (SFAS No. 148), "Accounting for Stock Based Compensation",
which results in compensation expense being recorded based on the fair value of
the stock option compensation issued. SFAS No. 148 provided three possible
transition methods for changing to the fair value method. Effective January 1,
2003, we elected to use the modified-prospective method, which required that we
recognize stock-based employee compensation cost from the beginning of the
fiscal year in which the recognition provisions are first applied as if the fair
value method had been used to account for all employee awards granted, or
settled, in fiscal years beginning after December 15, 1994. Stock-based
compensation expense was approximately $2,250,000 and $2,027,000 for the nine
months ended September 30, 2005 and 2004, respectively.
Pursuant to the Stock Option Plan as discussed in Note 14 to the 2004 Form
10-K, certain officers, directors, employees and consultants have been offered
the opportunity to acquire shares of common stock of the Company through stock
options ("Options"). During the nine months ended September 30, 2005, Options
for 59,322 shares of common stock were exercised for proceeds of approximately
$955,000.
In December 2004, the FASB issued Statement of Financial Accounting
Standards No. 123 (revised 2004), Share-Based Payment ("FAS 123(R)"), which
replaces FAS 123. We expect to adopt FAS 123(R) on January 1, 2006 using the
modified prospective method. The adoption of this standard will have an
immaterial effect on the financial statements. Had we adopted FAS 123(R) in
prior periods, the impact of that standard would have approximated the impact of
FAS 123.
18
EQUITY LIFESTYLE PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 9 - COMMITMENTS AND CONTINGENCIES
DEANZA SANTA CRUZ
The customers of DeAnza Santa Cruz Mobile Estates, a Property located in
Santa Cruz, California, brought several actions opposing fees and charges in
connection with water service at the Property. As a result of one action, the
Company rebated approximately $36,000 to the customers. The DeAnza Santa Cruz
Homeowners Association ("HOA") then proceeded to a jury trial alleging these
"overcharges" entitled them to an award of punitive damages. In January 1999, a
jury awarded the HOA $6.0 million in punitive damages. On December 21, 2001 the
California Court of Appeal for the Sixth District reversed the $6.0 million
punitive damage award, the related award of attorneys' fees, and, as a result,
all post-judgment interest thereon, on the basis that punitive damages are not
available as a remedy for a statutory violation of the California Mobilehome
Residency Law ("MRL"). The decision of the appellate court left the HOA, the
plaintiff in this matter, with the right to seek a new trial in which it must
prove its entitlement to either the statutory penalty and attorneys' fees
available under the MRL or punitive damages based on causes of action for fraud,
misrepresentation or other tort. In order to resolve this matter, the Company
accrued for and agreed to pay $201,000 to the HOA. This payment resolved the
punitive damages claim. The HOA's attorney made a motion asking for an award of
attorneys' fees and costs in the amount of approximately $1.5 million as a
result of this resolution of the litigation. On April 2, 2003 the court awarded
attorney's fees to the HOA's attorney in the amount of $593,000 and court costs
of approximately $20,000. The Company appealed this award. On July 13, 2004, the
California Court of Appeal affirmed the award of attorney's fees in favor of the
HOA's attorney. In August 2004, the Company paid all related fees, costs and
interest.
OTHER CALIFORNIA RENT CONTROL LITIGATION
As part of the Company's effort to realize the value of its Properties
subject to rent control, the Company has initiated lawsuits against several
municipalities in California. The Company's goal is to achieve a level of
regulatory fairness in California's rent control jurisdictions, and in
particular those jurisdictions that prohibit increasing rents to market upon
turnover. Regulations in California allow tenants to sell their homes for a
premium representing the value of the future discounted rent-controlled rents.
In the Company's view, such regulation results in a transfer of the value of the
Company's stockholders' land, which would otherwise be reflected in market
rents, to tenants upon the sales of their homes in the form of an inflated
purchase price that cannot be attributed to the value of the home being sold. As
a result, in the Company's view, the Company loses the value of its asset and
the selling tenant leaves the Property with a windfall premium. The Company has
discovered through the litigation process that certain municipalities considered
condemning the Company's Properties at values well below the value of the
underlying land. In the Company's view, a failure to articulate market rents for
sites governed by restrictive rent control would put the Company at risk for
condemnation or eminent domain proceedings based on artificially reduced rents.
Such a physical taking, should it occur, could represent substantial lost value
to stockholders. The Company is cognizant of the need for affordable housing in
the jurisdictions, but asserts that restrictive rent regulation does not promote
this purpose because the benefits of such regulation are fully capitalized into
the prices of the homes sold. The Company estimates that the annual rent subsidy
to tenants in these jurisdictions is approximately $15 million. In a more well
balanced regulatory environment, the Company would receive market rents that
would eliminate the subsidy and homes would trade at or near their intrinsic
value.
In connection with such efforts, the Company announced it has entered into
a settlement agreement with the City of Santa Cruz, California and that,
pursuant to the settlement agreement, the City amended its rent control
ordinance to exempt the Company's Property from rent control as long as the
Company offers a long term lease which gives the Company the ability to increase
rents to market upon turnover and bases annual rent increases on the CPI. The
settlement agreement benefits the Company's stockholders by allowing them to
receive the value of their investment in this Property through vacancy decontrol
while preserving annual CPI based rent increases in this age-restricted
Property.
The Company has filed two lawsuits in Federal court against the City of San
Rafael, challenging its rent control ordinance on constitutional grounds. The
Company believes that one of those lawsuits was settled by the City agreeing to
amend the ordinance to permit adjustments to market rent upon turnover. The City
subsequently rejected the settlement agreement. The Court initially found the
settlement agreement was binding on the City, but then
19
EQUITY LIFESTYLE PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 9 - COMMITMENTS AND CONTINGENCIES (CONTINUED)
reconsidered and determined to submit the claim of breach of the settlement
agreement to a jury. In October 2002, the first case against the City went to
trial, based on both breach of the settlement agreement and the constitutional
claims. A jury found no breach of the settlement agreement; the Company then
filed motions asking the Court to rule in its favor on that claim,
notwithstanding the jury verdict. The Court has postponed decision on those
motions and on the constitutional claims, pending a ruling on some property
rights issues by the United States Supreme Court. In the event that the Court
does not rule in favor of the Company on either the settlement agreement or the
constitutional claims, then the Company has pending claims seeking a declaration
that it can close the Property and convert it to another use.
The Company's efforts to achieve a balanced regulatory environment
incentivize tenant groups to file lawsuits against the Company seeking large
damage awards. The homeowners association at Contempo Marin ("CMHOA"), a 396
site Property in San Rafael, California, sued the Company in December 2000 over
a prior settlement agreement on a capital expenditure pass-through after the
Company sued the City of San Rafael in October 2000 alleging its rent control
ordinance is unconstitutional. In the Contempo Marin case, the CMHOA prevailed
on a motion for summary judgment on an issue that permits the Company to collect
only $3.72 out of a monthly pass-through amount of $7.50 that the Company
believes had been agreed to by the CMHOA in a settlement agreement. On May 23,
2004, the California Court of Appeal affirmed the trial court's order dismissing
the Company's claims against the City of San Rafael. The CMHOA continues to seek
damages from the Company in this matter. The Company intends to vigorously
defend this matter. The Company believes that such lawsuits will be a
consequence of the Company's efforts to change rent control since tenant groups
actively desire to preserve the premium value of their homes in addition to the
discounted rents provided by rent control. The Company has determined that its
efforts to rebalance the regulatory environment despite the risk of litigation
from tenant groups are necessary not only because of the $15 million annual
subsidy to tenants, but also because of the condemnation risk.
Similarly, in June 2003, the Company won a judgment against the City of
Santee in California Superior Court (case no. 777094). The effect of the
judgment was to invalidate, on state law grounds, two (2) rent control
ordinances the City of Santee had enforced against the Company and other
property owners. However, the Court allowed the City to continue to enforce a
rent control ordinance that predated the two invalid ordinances (the "prior
ordinance"). As a result of the judgment the Company was entitled to collect a
one-time rent increase based upon the difference in annual adjustments between
the invalid ordinance(s) and the prior ordinances and to adjust its base rents
to reflect what the Company could have charged had the prior ordinance been
continually in effect. The City of Santee appealed the judgment. The court of
appeal and California Supreme Court refused to stay enforcement of these rent
adjustments pending appeal. After the City was unable to obtain a stay, the City
and the tenant association each sued the Company in separate actions alleging
the rent adjustments pursuant to the judgment violate the prior ordinance (Case
Nos. GIE 020887 and GIE 020524). They seek to rescind the rent adjustments,
refunds of amounts paid, and penalties and damages in these separate actions. On
January 25, 2005, the California Court of Appeal reversed the judgment in part
and affirmed it in part with a remand. The Court of Appeal affirmed that one
ordinance was unlawfully adopted and therefore void and that the second
ordinance contained unconstitutional provisions. However, the Court ruled the
City had the authority to cure the issues with the first ordinance
retroactively. On remand the trial court is directed to decide the issue of
damages to the Company which the Company believes is consistent with the Company
receiving the economic benefit of invalidating one of the ordinances and also
consistent with the Company's position that it is entitled to market rent and
not merely a higher amount of regulated rent. In the remand action, the City of
Santee filed a motion seeking restitution of amounts collected by the Company
following the judgment which motion was denied. The Company intends to
vigorously pursue its damages in the remand action and to vigorously defend the
two new lawsuits.
In addition, the Company has sued the City of Santee in Federal court
alleging all three of the ordinances are unconstitutional under the Fifth and
Fourteenth Amendments to the United States Constitution. Thus, it is the
Company's position that the ordinances are subject to invalidation as a matter
of law in the Federal court action. Separately, the Federal District Court
granted the City's Motion for Summary Judgment in the Company's Federal court
lawsuit. This decision was based not on the merits, but on procedural grounds,
including that the Company's claims were moot given its success in the state
court case. The Company will appeal the decision.
20
EQUITY LIFESTYLE PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 9 - COMMITMENTS AND CONTINGENCIES (CONTINUED)
In October 2004, the United States Supreme Court granted certiorari in
State of Hawaii vs. Chevron USA, Inc., a Ninth Circuit Court of Appeal case that
upheld the standard that a regulation must substantially advance a legitimate
state purpose in order to be constitutionally viable under the Fifth Amendment.
On May 24, 2005 the United States Supreme Court reversed the Ninth Circuit Court
of Appeal in an opinion that clarified the standard of review for regulatory
takings brought under the Fifth Amendment. The Supreme Court held that the
heightened scrutiny applied by the Ninth Circuit is not the applicable standard
in a regulatory takings analysis, but is an appropriate factor for determining
if a due process violation has occurred. The Court further clarified that
regulatory takings would be determined in significant part by an analysis of the
economic impact of the regulation. The Company believes that the severity of the
economic impact on its Properties caused by rent control will enable it to
continue to challenge the rent regulations under the Fifth Amendment and the due
process clause.
DISPUTE WITH LAS GALLINAS VALLEY SANITARY DISTRICT
In November 2004, the Company received a Compliance Order (the "Compliance
Order") from the Las Gallinas Valley Sanitary District (the "District"),
relating to the Company's Contempo Marin Property in San Rafael, California. The
Compliance Order directed the Company to submit and implement a plan to bring
the Property's domestic wastewater discharges into compliance with the
applicable District ordinance (the "Ordinance"), and to ensure continued
compliance with the Ordinance in the future.
Without admitting any violation of the Ordinance, the Company promptly
engaged a consultant to review the Property's sewage collection system and
prepare a compliance plan to be submitted to the District. The District approved
the compliance plan in January 2005, and the Company promptly took all necessary
actions to implement same.
Thereafter, the Company received a letter dated June 2, 2005 from the
District's attorney (the "June 2 Letter"), acknowledging that the Company has
"taken measures to bring the [Property's] private sanitary system into
compliance" with the Ordinance, but claiming that prior discharges from the
Property had damaged the District's sewers and pump stations in the amount of
approximately $368,000. The letter threatened legal action if necessary to
recover the cost of repairing such damage. By letter dated June 23, 2005,
counsel for the Company denied the District's claims set forth in the June 2
Letter.
On July 1, 2005, the District filed a Complaint for Enforcement of
Sanitation Ordinance, Damages, Penalties and Injunctive Relief in the California
Superior Court for Marin County, and on August 17, 2005, the District filed its
First Amended Complaint (the "Complaint"). On September 26, 2005, the Company
filed its Answer to the Complaint, denying each and every allegation of the
Complaint and further denying that the District is entitled to any of the relief
requested therein.
The Company believes that it has complied with the Compliance Order. The
Company further believes that the allegations in the Complaint are without
merit, and will vigorously defend against any such claims by the District.
OTHER
The Company is involved in various other legal proceedings arising in the
ordinary course of business. Additionally, in the ordinary course of business,
the Company's operations are subject to audit by various taxing authorities.
Management believes that all proceedings herein described or referred to, taken
together, are not expected to have a material adverse impact on the Company. In
addition, to the extent any such proceedings or audits relate to newly acquired
Properties, the Company considers any potential indemnification obligations of
sellers in favor of the Company.
21
EQUITY LIFESTYLE PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 10 - SUBSEQUENT EVENTS
On October 24, 2005, Hurricane Wilma entered Florida south of Naples
and followed an easterly path through the state, exiting on the east coast near
West Palm Beach. No injuries to our residents or our employees have been
reported. Thirty-three of our 85 Florida Properties, generally between Vero
Beach and Miami on the east coast and between Sarasota and Fort Myers on the
west coast, were impacted by the storm. Most of the impact was related to damage
to older homes, carports, aluminum awnings/siding and other debris. Newer homes
held up well during the storm; however, older homes, particularly on the east
coast, experienced higher levels of damage.
We are working towards quickly returning our Properties to full
operating condition, and expect this process to be substantially completed over
the next few weeks. Utility service in some parts of Florida's east coast
continues to be disrupted, and approximately eight Properties have no utility
service or limited utility service. One Property, Coral Cay in Margate, Florida,
containing 819 sites, is expected to be evacuated by local agencies due to
disruption in utility service and safety issues resulting from damaged homes and
debris. We will work closely with government officials to re-open the Property
as quickly as possible. A second Property, Park City West in Ft. Lauderdale,
containing 363 sites, suffered heavy wind-related damage to resident homes. We
are currently assessing the impact of this storm on our Properties.
22
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
The Company is a fully integrated owner and operator of resort and
retirement oriented properties ("Properties"). The Company leases individual
developed areas ("sites" or "pads") with access to utilities for placement of
factory built homes or recreational vehicles. As of September 30, 2005, we owned
or had an ownership interest in a portfolio of 285 Properties located throughout
the United States containing 106,494 residential sites. These Properties are
located in 28 states and British Columbia (with the number of Properties in each
state or province shown parenthetically) - Florida (84), California (47),
Arizona (35), Texas (15), Washington (13), Colorado (10), Oregon (9), Delaware
(7), Indiana (7), Pennsylvania (7), Nevada (6), North Carolina (6), Wisconsin
(5), Virginia (4), Maine (4), New York (4), Illinois (3), Iowa (2), Michigan
(2), New Jersey (2), Ohio (2), South Carolina (2), Tennessee (2), Utah (2),
Massachusetts (1), Montana (1), New Hampshire (1), New Mexico (1), and British
Columbia (1).
This report includes certain "forward-looking statements" within the
meaning of the Private Securities Litigation Reform Act of 1995. When used,
words such as "anticipate", "expect", "believe", "intend", "may be" and "will
be" and similar words or phrases, or the negative thereof, unless the context
requires otherwise, are intended to identify forward-looking statements. These
forward-looking statements are subject to numerous assumptions, risks and
uncertainties, including, but not limited to: in the age-qualified Properties,
home sales results could be impacted by the ability of potential homebuyers to
sell their existing residences as well as by financial markets volatility; in
the all-age Properties, results from home sales and occupancy will continue to
be impacted by local economic conditions, lack of affordable manufactured home
financing, and competition from alternative housing options including site-built
single-family housing; our ability to maintain rental rates and occupancy with
respect to Properties currently owned or pending acquisitions; our assumptions
about rental and home sales markets; the completion of pending acquisitions and
timing with respect thereto; the effect of interest rates as well as other risks
indicated from time to time in our filings with the Securities and Exchange
Commission. These forward-looking statements are based on management's present
expectations and beliefs about future events. As with any projection or
forecast, these statements are inherently susceptible to uncertainty and changes
in circumstances. ELS is under no obligation to, and expressly disclaims any
obligation to, update or alter its forward-looking statements whether as a
result of such changes, new information, subsequent events or otherwise.
RISK FACTORS
OUR PERFORMANCE AND COMMON STOCK VALUE ARE SUBJECT TO RISKS ASSOCIATED WITH THE
REAL ESTATE INDUSTRY.
Adverse Economic Conditions and Other Factors Could Adversely Affect the Value
of Our Properties and Our Cash Flow. Several factors may adversely affect the
economic performance and value of our Properties. These factors include:
- - changes in the national, regional and local economic climate;
- - local conditions such as an oversupply of resort and retirement oriented
properties or a reduction in demand for resort and retirement oriented
properties in the area, the attractiveness of our Properties to customers,
competition from manufactured home communities and other resort and
retirement oriented properties and alternative forms of housing (such as
apartment buildings and site-built single family homes);
- - our ability to collect rent from customers and pay maintenance, insurance
and other operating costs (including real estate taxes), which could
increase over time;
- - the failure of our assets to generate income sufficient to pay our
expenses, service our debt and maintain our Properties, which may adversely
affect our ability to make expected distributions to our stockholders;
- - our inability to meet mortgage payments on any Property that is mortgaged,
in which case the lender could foreclose on the mortgage and take the
Property;
23
- - interest rate levels and the availability of financing, which may adversely
affect our financial condition; and
- - changes in laws and governmental regulations (including rent control laws
and regulations governing usage, zoning and taxes), which may adversely
affect our financial condition.
New Acquisitions May Fail to Perform as Expected and Competition for
Acquisitions May Result in Increased Prices for Properties. We intend to
continue to acquire Properties. Newly acquired Properties may fail to perform as
expected. We may underestimate the costs necessary to bring an acquired Property
up to standards established for its intended market position. Difficulties in
integrating acquisitions may prove costly or time-consuming and could divert
management attention. Additionally, we expect that other real estate investors
with significant capital will compete with us for attractive investment
opportunities. These competitors include publicly traded REITs, private REITs
and other types of investors. Such competition increases prices for Properties.
We expect to acquire Properties with cash from secured or unsecured financings
and proceeds from offerings of equity or debt. We may not be in a position or
have the opportunity in the future to make suitable property acquisitions on
favorable terms.
Because Real Estate Investments Are Illiquid, We May Not be Able to Sell
Properties When Appropriate. Real estate investments generally cannot be sold
quickly. We may not be able to vary our portfolio promptly in response to
economic or other conditions, forcing us to accept lower than market value. This
inability to respond promptly to changes in the performance of our investments
could adversely affect our financial condition and ability to service debt and
make distributions to our stockholders.
Some Potential Losses Are Not Covered by Insurance. We carry comprehensive
liability, fire, extended coverage and rental loss insurance on all of our
Properties. We believe the policy specifications and insured limits of these
policies are adequate and appropriate. There are, however, certain types of
losses, such as lease and other contract claims, that generally are not insured.
Should an uninsured loss or a loss in excess of insured limits occur, we could
lose all or a portion of the capital we have invested in a Property, as well as
the anticipated future revenue from the Property. In such an event, we might
nevertheless remain obligated for any mortgage debt or other financial
obligations related to the Property.
DEBT FINANCING, FINANCIAL COVENANTS AND DEGREE OF LEVERAGE COULD ADVERSELY
AFFECT OUR ECONOMIC PERFORMANCE.
Scheduled Debt Payments Could Adversely Affect Our Financial Condition. Our
business is subject to risks normally associated with debt financing. The total
principal amount of our outstanding indebtedness was approximately $1.6 billion
as of September 30, 2005. Our substantial indebtedness and the cash flow
associated with serving our indebtedness could have important consequences,
including the risks that:
- - our cash flow could be insufficient to pay distributions at expected levels
and meet required payments of principal and interest;
- - we will be required to use a substantial portion of our cash flow from
operations to pay our indebtedness, thereby reducing the availability of
our cash flow to fund the implementation of our business strategy,
acquisitions, capital expenditures and other general corporate purposes;
- - our debt service obligations could limit our flexibility in planning for,
or reacting to, changes in our business and the industry in which we
operate;
- - we may not be able to refinance existing indebtedness (which in virtually
all cases requires substantial principal payments at maturity) and, if we
can, the terms of such refinancing might not be as favorable as the terms
of existing indebtedness;
- - if principal payments due at maturity cannot be refinanced, extended or
paid with proceeds of other capital transactions, such as new equity
capital, our cash flow will not be sufficient in all years to repay all
maturing debt; and
24
- - if prevailing interest rates or other factors at the time of refinancing
(such as the possible reluctance of lenders to make commercial real estate
loans) result in higher interest rates, increased interest expense would
adversely affect cash flow and our ability to service debt and make
distributions to stockholders.
Financial Covenants Could Adversely Affect Our Financial Condition. If a
Property is mortgaged to secure payment of indebtedness and we are unable to
meet mortgage payments, the mortgagee could foreclose on the Property, resulting
in loss of income and asset value. The mortgages on our Properties contain
customary negative covenants which, among other things, limit our ability,
without the prior consent of the lender, to further mortgage the Property and to
discontinue insurance coverage. In addition, our credit facilities contain
certain customary restrictions, requirements and other limitations on our
ability to incur indebtedness, including total debt to assets ratios, secured
debt to total assets ratios, debt service coverage ratios and minimum ratios of
unencumbered assets to unsecured debt. Foreclosure on mortgaged Properties or an
inability to refinance existing indebtedness would likely have a negative impact
on our financial condition and results of operations.
Our Degree of Leverage Could Limit Our Ability to Obtain Additional Financing.
Our debt to market capitalization ratio (total debt as a percentage of total
debt plus the market value of the outstanding Common Stock and Units held by
parties other than the Company) is approximately 55% as of September 30, 2005.
The degree of leverage could have important consequences to stockholders,
including an adverse effect on our ability to obtain additional financing in the
future for working capital, capital expenditures, acquisitions, development or
other general corporate purposes, and makes us more vulnerable to a downturn in
business or the economy generally.
WE DEPEND ON OUR SUBSIDIARIES' DIVIDENDS AND DISTRIBUTIONS.
Substantially all of our assets are indirectly held through the Operating
Partnership. As a result, we have no source of operating cash flow other than
from distributions from the Operating Partnership. Our ability to pay dividends
to holders of Common Stock depends on the Operating Partnership's ability first
to satisfy its obligations to its creditors and make distributions payable to
third party holders of its preferred Units and then to make distributions to MHC
Trust and common Unit holders. Similarly, MHC Trust must satisfy its obligations
to its creditors and preferred shareholders before making common stock
distributions to us.
STOCKHOLDERS' ABILITY TO EFFECT CHANGES OF CONTROL OF THE COMPANY IS LIMITED.
Provisions of Our Charter and Bylaws Could Inhibit Changes of Control. Certain
provisions of our charter and bylaws may delay or prevent a change of control of
the Company or other transactions that could provide our stockholders with a
premium over the then-prevailing market price of their Common Stock or which
might otherwise be in the best interest of our stockholders. These include the
Ownership Limit described below. Also, any future series of preferred stock may
have certain voting provisions that could delay or prevent a change of control
or other transaction that might involve a premium price or otherwise be good for
our stockholders.
Maryland Law Imposes Certain Limitations on Changes of Control. Certain
provisions of Maryland law prohibit "business combinations" (including certain
issuances of equity securities) with any person who beneficially owns ten
percent or more of the voting power of outstanding Common Stock, or with an
affiliate of the Company who, at any time within the two-year period prior to
the date in question, was the owner of ten percent or more of the voting power
of the outstanding voting stock (an "Interested Stockholder"), or with an
affiliate of an Interested Stockholder. These prohibitions last for five years
after the most recent date on which the Interested Stockholder became an
Interested Stockholder. After the five-year period, a business combination with
an Interested Stockholder must be approved by two super-majority stockholder
votes unless, among other conditions, our common stockholders receive a minimum
price for their shares and the consideration is received in cash or in the same
form as previously paid by the Interested Stockholder for its shares of Common
Stock. The Board of Directors has exempted from these provisions under the
Maryland law any business combination with Samuel Zell, who is the Chairman of
the Board of the Company, certain holders of Units who received them at the time
of our initial public offering, the General Motors Hourly Rate Employees Pension
Trust and the General Motors Salaried Employees Pension Trust, and our officers
who acquired Common Stock at the time we were formed and each and every
affiliate of theirs.
We Have a Stock Ownership Limit for REIT Tax Purposes. To remain qualified as a
REIT for U.S. federal income tax purposes, not more than 50% in value of our
outstanding shares of capital stock may be owned, directly or
25
indirectly, by five or fewer individuals (as defined in the federal income tax
laws applicable to REITs) at any time during the last half of any taxable year.
To facilitate maintenance of our REIT qualification, our charter, subject to
certain exceptions, prohibits Beneficial Ownership (as defined in our charter)
by any single stockholder of more than 5% (in value or number of shares,
whichever is more restrictive) of our outstanding capital stock. We refer to
this as the "Ownership Limit." Within certain limits, our charter permits the
Board of Directors to increase the Ownership Limit with respect to any class or
series of stock. The Board of Directors, upon receipt of a ruling from the
Internal Revenue Service, opinion of counsel, or other evidence satisfactory to
the Board of Directors and upon fifteen days prior written notice of a proposed
transfer which, if consummated, would result in the transferee owning shares in
excess of the Ownership Limit, and upon such other conditions as the Board of
Directors may direct, may exempt a stockholder from the Ownership Limit. Absent
any such exemption, capital stock acquired or held in violation of the Ownership
Limit will be transferred by operation of law to us as trustee for the benefit
of the person to whom such capital stock is ultimately transferred, and the
stockholder's rights to distributions and to vote would terminate. Such
stockholder would be entitled to receive, from the proceeds of any subsequent
sale of the capital stock transferred to us as trustee, the lesser of (i) the
price paid for the capital stock or, if the owner did not pay for the capital
stock (for example, in the case of a gift, devise of other such transaction),
the market price of the capital stock on the date of the event causing the
capital stock to be transferred to us as trustee or (ii) the amount realized
from such sale. A transfer of capital stock may be void if it causes a person to
violate the Ownership Limit. The Ownership Limit could delay or prevent a change
in control of the Company and, therefore, could adversely affect our
stockholders' ability to realize a premium over the then-prevailing market price
for their Common Stock.
CONFLICTS OF INTEREST COULD INFLUENCE THE COMPANY'S DECISIONS.
Certain Stockholders Could Exercise Influence in a Manner Inconsistent With the
Stockholders' Best Interests. As of September 30, 2005, Mr. Zell and certain
affiliated holders beneficially owned approximately 14.3% of our outstanding
Common Stock (in each case including Common Stock issuable upon the exercise of
stock options and the exchange of Units). Accordingly, Mr. Zell has significant
influence on our management and operation. Such influence could be exercised in
a manner that is inconsistent with the interests of other stockholders.
Mr. Zell and His Affiliates Continue to be Involved in Other Investment
Activities. Mr. Zell and his affiliates have a broad and varied range of
investment interests, including interests in other real estate investment
companies involved in other forms of housing, including multifamily housing. Mr.
Zell and his affiliates may acquire interests in other companies. Mr. Zell may
not be able to control whether any such company competes with the Company.
Consequently, Mr. Zell's continued involvement in other investment activities
could result in competition to the Company as well as management decisions which
might not reflect the interests of our stockholders.
RISK OF EMINENT DOMAIN AND TENANT LITIGATION.
We own Properties in certain areas of the country where real estate values
have increased faster than rental rates in our Properties either because of
locally imposed rent control or long term leases. In such areas, we have learned
that local government has investigated the possibility of seeking to take our
Properties by eminent domain at values below the value of the underlying land.
While no such eminent domain proceeding has been commenced, and we would
exercise all of our rights in connection with any such proceeding, successful
condemnation proceedings by municipalities could adversely affect our financial
condition. Moreover, certain of our Properties located in California are subject
to rent control ordinances, some of which not only severely restrict ongoing
rent increases but also prohibit us from increasing rents upon turnover. Such
regulation allows customers to sell their homes for a premium representing the
value of the future discounted rent-controlled rents. As part of our effort to
realize the value of our Properties subject to rent control, we have initiated
lawsuits against several municipalities in California. In response to our
efforts, tenant groups have filed lawsuits against us seeking not only to limit
rent increases, but to be awarded large damage awards. If we are unsuccessful in
our efforts to challenge rent control ordinances, it is likely that we will not
be able to charge rents that reflect the intrinsic value of the affected
Properties. Finally, tenant groups in non-rent controlled markets have also
attempted to use litigation as a means of protecting themselves from rent
increases reflecting the rental value of the affected Properties. An unfavorable
outcome in the tenant group lawsuits could have an adverse impact on our
financial condition.
26
ENVIRONMENTAL PROBLEMS ARE POSSIBLE AND CAN BE COSTLY.
Federal, state and local laws and regulations relating to the protection of
the environment may require a current or previous owner or operator of real
estate to investigate and clean up hazardous or toxic substances or petroleum
product releases at such property. The owner or operator may have to pay a
governmental entity or third parties for property damage and for investigation
and clean-up costs incurred by such parties in connection with the
contamination. Such laws typically impose clean-up responsibility and liability
without regard to whether the owner or operator knew of or caused the presence
of the contaminants. Even if more than one person may have been responsible for
the contamination, each person covered by the environmental laws may be held
responsible for all of the clean-up costs incurred. In addition, third parties
may sue the owner or operator of a site for damages and costs resulting from
environmental contamination emanating from that site.
Environmental laws also govern the presence, maintenance and removal of
asbestos. Such laws require that owners or operators of property containing
asbestos properly manage and maintain the asbestos, that they notify and train
those who may come into contact with asbestos and that they undertake special
precautions, including removal or other abatement, if asbestos would be
disturbed during renovation or demolition of a building. Such laws may impose
fines and penalties on real property owners or operators who fail to comply with
these requirements and may allow third parties to seek recovery from owners or
operators for personal injury associated with exposure to asbestos fibers.
WE HAVE A SIGNIFICANT CONCENTRATION OF PROPERTIES IN FLORIDA AND CALIFORNIA, AND
NATURAL DISASTERS OR OTHER CATASTROPHIC EVENTS IN THESE OR OTHER STATES COULD
ADVERSELY AFFECT THE VALUE OF OUR PROPERTIES AND OUR CASH FLOW.
As of September 30, 2005, we owned or had an ownership interest in 285
Properties located in 28 states and British Columbia, including 84 Properties
located in Florida and 47 Properties located in California. The occurrence of a
natural disaster or other catastrophic event in any of these areas may cause a
sudden decrease in the value of our Properties. While we have obtained insurance
policies providing certain coverage against damage from fire, flood, property
damage, earthquake, wind storm and business interruption, these insurance
policies contain coverage limits, limits on covered property and various
deductible amounts that the Company must pay before insurance proceeds are
available. Such insurance may therefore be insufficient to restore our economic
position with respect to damage or destruction to our Properties caused by such
occurrences. Moreover, each of these coverages must be renewed every year and
there is the possibility that all or some of the coverages may not be available
at a reasonable cost. In addition, in the event of such natural disaster or
other catastrophic event, the process of obtaining reimbursement for covered
losses, including the lag between expenditures incurred by us and reimbursements
received from the insurance providers, could adversely affect our economic
performance.
MARKET INTEREST RATES MAY HAVE AN EFFECT ON THE VALUE OF OUR COMMON STOCK.
One of the factors that investors consider important in deciding whether to
buy or sell shares of a REIT is the distribution rates with respect to such
shares (as a percentage of the price of such shares) relative to market interest
rates. If market interest rates go up, prospective purchasers of REIT shares may
expect a higher distribution rate. Higher interest rates would not, however,
result in more funds for us to distribute and, in fact, would likely increase
our borrowing costs and potentially decrease funds available for distribution.
Thus, higher market interest rates could cause the market price of our publicly
traded securities to go down.
WE ARE DEPENDENT ON EXTERNAL SOURCES OF CAPITAL.
To qualify as a REIT, we must distribute to our stockholders each year at
least 90% of our REIT taxable income (determined without regard to the deduction
for dividends paid and excluding any net capital gain). In addition, we intend
to distribute all or substantially all of our net income so that we will
generally not be subject to U.S. federal income tax on our earnings. Because of
these distribution requirements, it is not likely that we will be able to fund
all future capital needs, including for acquisitions, from income from
operations. We therefore will have to rely on third-party sources of debt and
equity capital financing, which may or may not be available on favorable terms
or at all. Our access to third-party sources of capital depends on a number of
things, including conditions in the capital markets generally and the market's
perception of our growth potential and our current and potential future
earnings.
27
Moreover, additional equity offerings may result in substantial dilution of
stockholders' interests, and additional debt financing may substantially
increase our leverage.
OUR QUALIFICATION AS A REIT IS DEPENDENT ON COMPLIANCE WITH U.S. FEDERAL INCOME
TAX REQUIREMENTS.
We believe we have been organized and operated in a manner so as to qualify
for taxation as a REIT, and we intend to continue to operate so as to qualify as
a REIT for U.S. federal income tax purposes. Qualification as a REIT for U.S.
federal income tax purposes, however, is governed by highly technical and
complex provisions of the Code for which there are only limited judicial or
administrative interpretations. Our qualification as a REIT requires analysis of
various facts and circumstances that may not be entirely within our control, and
we cannot provide any assurance that the Internal Revenue Service (the "IRS")
will agree with our analysis. These matters can affect our qualification as a
REIT. In addition, legislation, new regulations, administrative interpretations
or court decisions might significantly change the tax laws with respect to the
requirements for qualification as a REIT or the U.S. federal income tax
consequences of qualification as a REIT.
If, with respect to any taxable year, we fail to maintain our qualification
as a REIT (and specified relief provisions under the Code were not applicable to
such disqualification), we could not deduct distributions to stockholders in
computing our net taxable income and we would be subject to U.S. federal income
tax on our net taxable income at regular corporate rates. Any U.S. federal
income tax payable could include applicable alternative minimum tax. If we had
to pay U.S. federal income tax, the amount of money available to distribute to
stockholders and pay indebtedness would be reduced for the year or years
involved, and we would no longer be required to distribute money to
stockholders. In addition, we would also be disqualified from treatment as a
REIT for the four taxable years following the year during which qualification
was lost, unless we were entitled to relief under the relevant statutory
provisions. Although we currently intend to operate in a manner designed to
allow us to qualify as a REIT, future economic, market, legal, tax or other
considerations may cause us to revoke the REIT election.
28
The following chart lists the Properties acquired, invested in, or sold
since January 1, 2004.
PROPERTY TRANSACTION DATE SITES
-------- ------------------ -------
TOTAL SITES AS OF JANUARY 1, 2004 ......................... 52,482
PROPERTY OR PORTFOLIO (# OF PROPERTIES IN PARENTHESES):
O'Connell's ............................................ January 15, 2004 668
Spring Gulch ........................................... January 30, 2004 420
Paradise ............................................... February 3, 2004 950
Twin Lakes ............................................. February 18, 2004 400
Lakeside ............................................... February 19, 2004 95
Diversified Portfolio (10) ............................. February 5, 2004 2,567
NHC Portfolio (28) ..................................... February 17, 2004 11,311
Viewpoint .............................................. May 3, 2004 1,928
Cactus Gardens ......................................... May 12, 2004 430
Monte Vista ............................................ May 13, 2004 832
GE Portfolio (5) ....................................... May 14, 2004 1,155
Yukon Trails ........................................... September 8, 2004 214
Caledonia .............................................. November 4, 2004 247
Thousand Trails (57) ................................... November 10, 2004 17,911
Fremont ................................................ December 30, 2004 325
San Francisco RV ....................................... June 20, 2005 182
Morgan Portfolio (5) ................................... August 12, 2005 2,929
Lake George Escape ..................................... September 15, 2005 576
JOINT VENTURES:
Diversified Investments (11) ........................... Various 4,443
Indian Wells ........................................... February 17, 2004 350
Maine Portfolio (3) .................................... April 7, 2005 495
MEZZANINE INVESTMENTS (11) ................................ February 3, 2004 5,054
EXPANSION SITE DEVELOPMENT AND OTHER:
Sites added (reconfigured) in 2004 ..................... 147
Sites added (reconfigured) in 2005 ..................... 1,081
DISPOSITIONS:
Lake Placid ............................................ May 28, 2004 (408)
Manatee (Joint Venture) ................................ September 1, 2004 (290)
-------
TOTAL SITES AS OF SEPTEMBER 30, 2005 ...................... 106,494
=======
Since December 31, 2003, the gross investment in real estate has increased
from $1,315 million to $2,150 million. The total number of sites owned,
controlled, or in which the Company holds an investment, has increased from
52,482 as of December 31, 2003 to 106,494 as of September 30, 2005.
29
OUTLOOK
Occupancy in our Properties as well as our ability to increase rental rates
directly affect revenues. We currently have approximately 60,800 annual sites
for which we expect to have average annual revenue of approximately $4,400 per
site. We have 8,200 seasonal sites, which are leased to customers generally for
3 to 6 months, for which we expect to collect annualized rental revenues in the
range of $1,800 to $1,900 per site. We also have 6,400 transient sites, occupied
by customers who lease on a short-term basis, for which we expect to collect
annualized rental revenues in the range of $2,000 to $2,200 per site. We expect
to service 60,000 customers with these transient sites. We consider the
transient revenue stream to be our most volatile. It is subject to weather
conditions, gas prices, and other factors affecting the marginal RV customer's
vacation and travel preferences. Finally, we have approximately 17,900 Thousand
Trails sites for which we receive ground rent of $16 million annually (subject
to annual escalations). This rent is classified in Other Income in the
Consolidated Statements of Operations. We have interests in Properties
containing approximately 13,300 sites for which revenue is classified as Equity
in Income from Unconsolidated Joint Ventures in the Consolidated Statements of
Operations. The following table outlines the annual, seasonal and transient
average results as of September 30, 2005 and as of December 31, 2004:
TOTAL SITES TOTAL SITES APPROXIMATE
AS OF SEPT. 30, 2005 AS OF DEC. 31, 2004 ANNUAL
(ROUNDED TO 100S) (ROUNDED TO 100S) REVENUE RANGE
-------------------- -------------------- -------------
Community Sites ... 45,300 45,200 $5,400-$5,500
Resort Sites:
Annual ......... 15,500 13,100 $3,000-$3,200
Seasonal ....... 8,200 7,200 $1,800-$1,900
Transient ...... 6,400 6,000 $2,000-$2,200
Thousand Trails ... 17,900 17,900
Joint Ventures .... 13,300 11,800
------- -------
106,600 101,200
======= =======
SERP TERMINATION
As a result of the changes in the law relating to deferred compensation
plans, the Company, subject to the final approval of the Company's Management
Committee, has determined that it will terminate its Supplemental Retirement
Savings Plan by the end of 2005. Termination of the plan will result in taxable
distribution to the applicable participants, who will receive the assets that
are held in their plan account, net of withholding taxes. These assets include
approximately 900,000 shares of ELS common stock in the aggregate, including
approximately 825,000 shares of ELS common stock held in the plan accounts of
ELS' executive officers and directors. All of the shares of ELS common stock
held in plan accounts that are distributed will be freely tradeable without
restriction or further registration under the federal securities laws, except
for shares held in the plan accounts of executive officers and directors, which
will be subject to the manner and volume of sale requirements of Rule 144 under
the Securities Act. Termination of the Plan will have no effect on results of
operations and no material impact on the Company's balance sheet. Certain
executive officers of the Company may from time to time adopt non-discretionary,
written trading plans that comply with Commission Rule 10b5-1, or otherwise
monetize their equity-based compensation. Commission Rule 10b5-1 provides
executives with a method to monetize their equity-based compensation in an
automatic and non-discretionary manner over time.
PRIVILEGED ACCESS
On October 17, 2005 we announced that Mr. Joe McAdams has resigned from the
Company's Board of Directors in order to pursue a new venture called Privileged
Access, LP. The new company is expected to lease sites at certain of ELS'
properties for the purpose of creating flexible use products. These products
include the sale of timeshare or fractional interests in resort homes or
cottages and membership and vacation-club products. Leasing
30
our sites to Privileged Access allows us to participate in these products and
activities while achieving long-term rental of our sites. The Company has yet to
determine the impact this new relationship will have on its financial
statements.
Replacing Mr. McAdams in his positions both on the Board of Directors and
as Chairman of the Audit Committee is Mr. Phil Calian. Mr. Calian is founder and
managing partner of Kingsbury Partners, LLC, and a principal of Waveland
Investments, LLC. Both entities focus on providing capital and ownership skills
to middle-market businesses.
HURRICANE WILMA
Hurricane Wilma entered Florida south of Naples and followed an easterly
path through the state, exiting on the east coast near West Palm Beach. No
injuries to our residents or our employees have been reported. Thirty-three of
our 85 Florida properties, generally between Vero Beach and Miami on the east
coast and between Sarasota and Fort Myers on the west coast, were impacted by
the storm. Most of the impact was related to damage to older homes, carports,
aluminum awnings/siding and other debris. Newer homes held up well during the
storm; however, older homes, particularly on the east coast, experienced higher
levels of damage.
We are working towards quickly returning our properties to full operating
condition, and expect this process to be substantially completed over the next
few weeks. Utility service in some parts of Florida's east coast continues to be
disrupted, and approximately eight properties have no utility service or limited
utility service. One property, Coral Cay in Margate, Florida, containing 819
sites, is expected to be evacuated by local agencies due to disruption in
utility service and safety issues resulting from damaged homes and debris. We
will work closely with government officials to re-open the property as quickly
as possible. A second property, Park City West in Ft. Lauderdale, containing 363
sites, suffered heavy wind-related damage to resident homes.
The Company believes it has adequate insurance coverage, including business
interruption coverage. The Company does not believe the storm will have a
material impact on its financial condition or operating results.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Refer to the 2004 Form 10-K for a discussion of our critical accounting
policies, which includes impairment of real estate assets and investments,
investments in unconsolidated joint ventures, and accounting for stock
compensation. During the nine months ended September 30, 2005, there were no
changes to these policies.
31
RESULTS OF OPERATIONS
During the nine months ended September 30, 2005, the Company designated
seven Properties as held for disposition pursuant to SFAS No. 144. The Company
determined that these Properties no longer met its investment strategy. As such,
the results from operations of these Properties have been classified as income
from discontinued operations. See Note 4 for summarized information for these
Properties.
COMPARISON OF THE QUARTER ENDED SEPTEMBER 30, 2005 TO THE QUARTER ENDED
SEPTEMBER 30, 2004
PROPERTY OPERATIONS
The following table summarizes certain financial and statistical data for
the Property Operations for all Properties owned throughout both periods ("Core
Portfolio") and the Total Portfolio for the quarters ended September 30, 2005
and 2004 (amounts in thousands).
CORE PORTFOLIO TOTAL PORTFOLIO
----------------------------------------- -----------------------------------------
INCREASE / INCREASE /
2005 2004 (DECREASE) % CHANGE 2005 2004 (DECREASE) % CHANGE
------- ------- ---------- -------- ------- ------- ---------- --------
Community base rental income ............ $51,215 $49,166 $2,049 4.2% $53,507 $52,219 $1,288 2.5%
Resort base rental income ............... 2,799 2,671 128 4.7% 16,855 14,167 2,688 18.9%
Utility and other income ................ 4,861 4,701 160 3.4% 6,479 5,793 686 11.8%
------- ------- ------ --- ------- ------- ------ ----
Property operating revenues .......... 58,875 56,538 2,337 4.1% 76,841 72,179 4,662 6.5%
Property operating and maintenance (1) .. 17,562 17,093 469 2.7% 26,153 24,513 1,640 6.7%
Real estate taxes ....................... 4,996 4,882 114 2.3% 6,200 5,920 280 4.7%
Property management ..................... 2,417 2,287 130 5.7% 4,198 3,316 882 26.6%
------- ------- ------ --- ------- ------- ------ ----
Property operating expenses .......... 24,975 24,262 713 2.9% 36,551 33,749 2,802 8.3%
------- ------- ------ --- ------- ------- ------ ----
Income from property operations ......... $33,900 $32,276 $1,624 5.0% $40,290 $38,430 $1,860 4.8%
======= ======= ====== === ======= ======= ====== ====
(1) 2004 Core property operating and maintenance expense includes $750,000 in
hurricane insurance reserve.
Property Operating Revenues
The 4.1% increase in the Core Portfolio property revenues reflects (i) a
4.9% increase in rates in our community base rental income combined with a 0.8%
decrease in occupancy, (ii) a 4.7% increase in revenues for our resort base
income, and (iii) an increase in utility income due to increased rates at
certain Properties. Total Portfolio property revenues increased due to rate
increases and our 2004 acquisitions.
Property Operating Expenses
The 2.9% increase in property operating expenses in the Core Portfolio
reflects a 2.7% increase in property operating and maintenance expense due
primarily to increases in repairs and maintenance, administrative expenses and
utility expenses. The increase in real estate taxes is generally due to higher
property assessments on certain Properties. Core Portfolio property management
expense is based on a percentage of property revenues and increased 5.7% mainly
due to higher Core Portfolio revenues in 2005 and higher payroll costs. Total
Portfolio property management expense increased 26.6% primarily due to payroll,
legal and costs related to new marketing initiatives.
32
HOME SALES OPERATIONS
The following table summarizes certain financial and statistical data for
the Home Sales Operations for the quarters ended September 30, 2005 and 2004
(amounts in thousands).
HOME SALES OPERATIONS
-----------------------------------------
2005 2004 VARIANCE % CHANGE
-------- -------- -------- --------
Gross revenues from new home sales ... $ 14,885 $ 11,732 $ 3,153 26.9%
Cost of new home sales ............... (12,864) (10,128) (2,736) (27.0%)
-------- -------- ------- -----
Gross profit from new home sales ..... 2,021 1,604 417 26.0%
Gross revenues from used home sales .. 821 836 (15) (1.8%)
Cost of used home sales .............. (670) (689) 19 2.8%
-------- -------- ------- -----
Gross profit from used home sales .... 151 147 4 2.7%
Brokered resale revenues, net ........ 678 536 142 26.5%
Home selling expenses ................ (2,290) (2,155) (135) (6.3%)
Ancillary services revenues, net ..... 967 759 208 27.4%
-------- -------- ------- -----
Income from home sales and other ..... $ 1,527 $ 891 $ 636 71.4%
======== ======== ======= =====
HOME SALES VOLUMES
New home sales (1) ................ 199 134 65 48.5%
Used home sales ................... 68 94 (26) (27.7%)
Brokered home resales ............. 376 331 45 13.6%
(1) Includes third party home sales of 37 and 0 for the periods ending
September 30, 2005 and 2004 respectively.
New home sales gross profit reflects a 48.5% increase in sales volume
combined with a 4.2% increase in the gross margin due to an increase in the
average selling price of new homes. Used home sales gross profit was flat
although sales volume decreased; this was offset by an increase in the gross
selling price per used home. Brokered resale revenues reflects increased sales
volume.
33
OTHER INCOME AND EXPENSES
The following table summarizes other income and expenses for the quarters
ended September 30, 2005 and 2004 (amounts in thousands).
2005 2004 VARIANCE % CHANGE
-------- -------- -------- --------
Interest income ..................... $ 311 $ 309 $ 2 0.6%
Income from other investments ....... 4,492 335 4,157 1,244.9%
Other corporate expense ............. (259) -- (259) --
General and administrative .......... (3,512) (2,110) (1,402) 66.4%
Rent control initiatives ............ (194) (375) 181 (48.3%)
Interest and related amortization ... (25,302) (23,802) (1,500) 6.3%
Loss on early debt retirement ....... (482) -- (482) --
Depreciation on corporate assets .... (243) (427) 184 43.1%
Depreciation on real estate assets .. (13,984) (12,440) (1,544) (12.4%)
-------- -------- ------- -------
Total other (expenses) income .... $(39,173) $(38,510) $ (663) 1.7%
======== ======== ======= =======
Income from other investments increased as a result of income from the
Thousand Trails transaction. Other corporate expense increased due to the
Thousand Trails acquisition. General and administrative expense increased due to
higher payroll costs related to increased staffing, changing regulatory
environment and legal costs. Interest expense increased primarily due to higher
debt balances as a result of the 2004 acquisitions. Loss on early debt
retirement increased due to defeasance payments on refinancing during the
quarter. Depreciation expense increased due to the 2004 acquisitions.
During 2004, the Company changed the way it accounted for costs incurred in
pursuing certain rent control initiatives. As a result, the Company expensed
$194,000 and $375,000 for the quarters ended September 30, 2005 and 2004,
respectively.
EQUITY IN INCOME OF UNCONSOLIDATED JOINT VENTURES
During the quarter ended September 30, 2005, equity in income in
unconsolidated joint ventures increased $2.0 million due to a distribution from
proceeds of a refinancing at one joint venture and 2004 acquisitions.
34
COMPARISON OF THE NINE MONTHS ENDED SEPTEMBER 30, 2005 TO THE NINE MONTHS ENDED
SEPTEMBER 30, 2004
PROPERTY OPERATIONS
The following table summarizes certain financial and statistical data for
the Property Operations for all Properties owned throughout both periods ("Core
Portfolio") and the Total Portfolio for the nine months ended September 30, 2005
and 2004 (amounts in thousands).
CORE PORTFOLIO TOTAL PORTFOLIO
------------------------------------------ -------------------------------------------
INCREASE / INCREASE /
2005 2004 (DECREASE) % CHANGE 2005 2004 (DECREASE) % CHANGE
------- -------- ---------- -------- -------- -------- ---------- --------
Community base rental income ...... $152,624 $146,895 $5,729 3.9% $159,467 $152,529 $ 6,938 4.5%
Resort base rental income ......... 11,509 11,093 416 3.8% 55,964 39,460 16,504 41.8%
Utility and other income .......... 15,912 15,508 404 2.6% 20,996 18,411 2,585 14.0%
-------- -------- ------ --- -------- -------- ------- ----
Property operating revenues .... 180,045 173,496 6,549 3.8% 236,427 210,400 26,027 12.4%
Property operating and
maintenance .................... 52,129 49,666 2,463 5.0% 76,969 67,745 9,224 13.6%
Real estate taxes ................. 15,194 14,566 628 4.3% 18,659 17,002 1,657 9.7%
Property management ............... 7,586 7,095 491 6.9% 11,813 9,585 2,228 23.2%
-------- -------- ------ --- -------- -------- ------- ----
Property operating expenses .... 74,909 71,327 3,582 5.0% 107,441 94,332 13,109 13.9%
-------- -------- ------ --- -------- -------- ------- ----
Income from property operations ... $105,136 $102,169 $2,967 2.9% $128,986 $116,068 $12,918 11.1%
======== ======== ====== === ======== ======== ======= ====
Property Operating Revenues
The 3.8% increase in the Core Portfolio property revenues reflects (i) a
4.7% increase in rates for our community base rental income combined with a 0.8%
decrease in occupancy, (ii) a 3.7% increase in revenues for our resort base
rental income, and (iii) an increase in utility income due to higher utility
rates. Total Portfolio property revenues increased due to our 2004 acquisitions.
Property Operating Expenses
The 5.0% increase in the property operating expenses in the Core Portfolio
reflects a 5.0% increase in property operating and maintenance expense due
primarily to increases in administrative expenses, utility expense increases
greater than CPI, and increasing insurance expenses. The increase in real estate
taxes is generally due to higher property assessments on certain Properties.
Property management expense for the Total Portfolio, which reflects costs of
managing the Properties, increased 23.2% primarily due to payroll, legal and
costs related to new marketing initiatives.
35
HOME SALES OPERATIONS
The following table summarizes certain financial and statistical data for
the Home Sales Operations for the nine months ended September 30, 2005 and 2004
(amounts in thousands).
HOME SALES OPERATIONS
-----------------------------------------
2005 2004 VARIANCE % CHANGE
-------- -------- -------- --------
Gross revenues from new home sales .... $ 40,741 $ 27,594 $ 13,147 47.6%
Cost of new home sales ................ (35,244) (24,471) (10,773) (44.0%)
-------- -------- -------- ------
Gross profit from new home sales ...... 5,497 3,123 2,374 76.0%
Gross revenues from used home sales ... 2,652 3,097 (445) (14.4%)
Cost of used home sales ............... (2,860) (2,474) (386) (15.6%)
-------- -------- -------- ------
Gross profit from used home sales ..... (208) 623 (831) (133.4%)
Brokered resale revenues, net ......... 2,095 1,621 474 29.2%
Home selling expenses ................. (6,527) (6,381) (146) (2.3%)
Ancillary services revenues, net ...... 3,479 2,392 1,087 45.4%
-------- -------- -------- ------
Income from home sales and other ...... $ 4,336 $ 1,378 $ 2,958 214.7%
======== ======== ======== ======
HOME SALES VOLUMES
New home sales (1) ................. 512 345 167 48.4%
Used home sales .................... 206 284 (78) (27.5%)
Brokered home resales .............. 1,184 1,065 119 11.2%
(1) Includes third party home sales of 50 and 0 for the years ended September
30, 2005 and 2004 respectively.
New home sales gross profit reflects a 48.4% increase in sales volume
combined with a 31.4% increase in the gross margin due to an increase in the
average selling price of new homes. Used home gross profit reflects a decrease
in sales volume and a decrease in gross margin. Brokered resale revenues
reflects increased sales volume combined with a higher gross margin. The
increase in ancillary service revenues primarily relates to income from property
amenities at our acquisition Properties and better than expected revenues at our
Core Portfolio Properties.
36
OTHER INCOME AND EXPENSES
The following table summarizes other income and expenses for the nine
months ended September 30, 2005 and 2004 (amounts in thousands).
%
2005 2004 VARIANCE CHANGE
--------- --------- -------- -------
Interest income ...................... $ 994 $ 1,076 $ (82) (7.6%)
Income from other investments ........ 13,420 959 12,461 1,299.4%
Other corporate expense .............. (791) -- (791) --
General and administrative ........... (10,197) (6,689) (3,508) 52.4%
Rent control initiatives ............. (807) (1,295) 488 (37.7%)
Interest and related amortization .... (75,304) (66,972) (8,332) 12.4%
Loss on early debt retirement ........ (482) -- (482) --
Depreciation on corporate assets ..... (682) (1,231) 549 44.6%
Depreciation on real estate assets ... (41,243) (34,195) (7,048) 20.6%
--------- --------- ------- -------
Total other (expenses) income ..... $(115,092) $(108,347) $(6,745) 6.2%
========= ========= ======= =======
Income from other investments increased as a result of income from the
Thousand Trails transaction. Other corporate expense increased due to marketing
expense, property taxes and other costs at the Thousand Trails Properties.
General and administrative expense increased due to higher payroll costs related
to increased staffing, changing regulatory environment and legal costs. Interest
expense increased primarily due to higher debt balances as a result of the 2004
acquisitions. Loss on early debt retirement increased due to defeasance payments
on refinancing during the quarter. Depreciation expense increased due to the
2004 acquisitions.
During 2004, the Company changed the way it accounted for costs incurred in
pursuing certain rent control initiatives. As a result, the Company expensed
$807,000 and $1,295,000 for the nine months ended September 30, 2005 and 2004,
respectively.
EQUITY IN INCOME OF UNCONSOLIDATED JOINT VENTURES
During the nine months ended September 30, 2005, equity in income in
unconsolidated joint ventures increased $3.7 million due to distributions as a
result of refinancings at the joint venture properties and 2004 acquisitions.
37
LIQUIDITY AND CAPITAL RESOURCES
LIQUIDITY
As of September 30, 2005, the Company had $9.2 million in cash and cash
equivalents and $92 million available on its line of credit. The Company expects
to meet its short-term liquidity requirements, including its distributions,
generally through its working capital, net cash provided by operating activities
and availability under the existing line of credit. The Company expects to meet
certain long-term liquidity requirements such as scheduled debt maturities,
Property acquisitions and capital improvements by long-term collateralized and
uncollateralized borrowings including borrowings under its existing line of
credit and the issuance of debt securities or additional equity securities in
the Company, in addition to working capital. The table below summarizes cash
flow activity for the nine months ended September 30, 2005 and 2004 (amounts in
thousands).
FOR THE NINE MONTHS ENDED
SEPTEMBER 30,
-------------------------
2005 2004
-------- ---------
Cash provided by operating activities ... $ 62,852 $ 43,579
Cash used in investing activities ....... (58,043) (185,965)
Cash used in financing activities ....... (958) (175,762)
-------- ---------
Net increase (decrease) in cash ......... $ 3,851 $(318,148)
======== =========
OPERATING ACTIVITIES
Net cash provided by operating activities increased $19.3 million from
$43.6 million for the nine months ended September 30, 2004. The increase
reflects increased property operating income as a result of our acquisitions.
INVESTING ACTIVITIES
Net cash used in investing activities reflects the impact of the following
investing activities:
INVESTMENT IN AND ADVANCES TO JOINT VENTURES
The Company recorded approximately $6.1 million and $3.0 million of net
income from joint ventures, net of $1.3 million and $0.7 million of depreciation
expense, in the nine months ended September 30, 2005 and 2004, respectively. The
Company received approximately $10.2 million and $4.1 million in distributions
for the nine months ended September 30, 2005 and 2004, respectively, $2.2
million and $0.5 million exceeded the Company's basis and thus was recorded in
equity in income from joint ventures. Due to the Company's inability to control
the joint ventures, the Company accounts for its investment in the joint
ventures using the equity method of accounting.
During the nine months ended September 30, 2005, the Company invested
approximately $7 million for a 50 percent preferred joint venture interest in
three Properties located near Bar Harbor, Maine. The Company expects a 7% annual
yield on its investment prior to upgrade and expansion efforts.
38
ACQUISITIONS
During the nine months ended September 30, 2005, we acquired seven
Properties (see Note 4). The combined real estate investment in this Property
was approximately $89.9 million and was funded with money drawn from our line of
credit and debt assumed of $53.5 million.
The Company continues to look at acquiring additional assets and is at
various stages of negotiations with respect to potential acquisitions. Funding
is expected to be provided by either proceeds from potential dispositions, line
of credit draws, or other financing.
CAPITAL IMPROVEMENTS
Capital expenditures for improvements are identified by the Company as
recurring capital expenditures ("Recurring CapEx"), site development costs and
corporate costs. Recurring CapEx was approximately $9.0 million for the nine
months ended September 30, 2005. Capital expenditures also included $2.5 million
in hurricane related repairs in the year. We expect to incur an additional $5.7
million on hurricane related repairs. Site development costs were approximately
$11.6 million for the nine months ended September 30, 2005, and represent costs
to develop expansion sites at certain of the Company's Properties, costs for
improvements to sites when a used home is replaced with a new home. Corporate
costs were approximately $606,000 for the nine months ended September 30, 2005,
which reflects corporate office expansion projects.
DISPOSITIONS
We currently have seven all-age Properties held for disposition, of which
six are in various stages of negotiations and one is under contract to close in
mid-November, 2005 for gross sale proceeds of approximately $6.9 million. The
Company plans to reinvest the sale proceeds or use it to reduce the outstanding
line of credit debt. The Company expects to recognize a gain on disposition of
approximately $2.8 million related to this sale; however, the Company
anticipates that transactions will be structured as Internal Revenue Code
Section 1031 like-kind exchanges, resulting in a deferral of the Company's
taxable gains on the sales of this asset.
The following table summarizes the fourth quarter 2005 impact on FFO as a
result of the Company's expected disposition (amounts in thousands).
PERIOD ENDED
DECEMBER 31, 2005
-----------------
Five Seasons
-----------------
PROPERTY OPERATIONS:
Revenue ................................... $124
Operating expenses ........................ (68)
----
Income from property operations ........ 56
----
FUNDS FROM OPERATIONS .................. $ 56
====
39
FINANCING ACTIVITIES
Net cash used in financing activities reflects the following financing
activities:
MORTGAGES AND CREDIT FACILITIES
Our average long-term debt balance was $1.6 billion in the quarter, with a
weighted average interest rate of approximately 6.1% per annum. Our unsecured
debt balance consists of $112.8 million outstanding of a $120 million term loan
with a fixed interest rate of approximately 4.7% per annum, and $68.2 million
outstanding on our lines of credit, which have a current availability of
approximately $92 million.
During the third quarter we refinanced two mortgage loans for proceeds of
$34 million at a rate of 4.95% per annum. Net proceeds were used to pay down
approximately $20 million in other secured financing maturing in 2006.
Throughout the nine months ended September 30, 2005, the Company borrowed $111.0
million on its line of credit and paid down $158.6 million on the line of credit
for a net pay down of $47.6 million funded by the Company's operations and
proceeds from a preferred operating unit issue partially offset by acquisitions
(see "Equity Transactions" below). The line of credit bears interest at a per
annum rate of LIBOR plus 1.65%. In addition, we repaid $7.2 million on the
Company's Term Loan.
Certain of the Company's mortgage and credit agreements contain covenants
and restrictions including restrictions as to the ratio of secured or unsecured
debt versus encumbered or unencumbered assets, the ratio of fixed
charges-to-earnings before interest, taxes, depreciation and amortization
("EBITDA"), limitations on certain holdings and other restrictions.
As of September 30, 2005, we were subject to certain contractual payment
obligations as described in the table below (dollars in thousands).
Contractual Obligations Total 2005 (2) 2006 (3) 2007 (4) 2008 2009 Thereafter
- ----------------------- ---------- -------- -------- -------- -------- ------- ----------
Long Term Debt (1,5) .................. $1,633,858 $3,772 $91,938 $433,451 $197,694 $70,347 $836,656
Weighted average per annum interest
rates .............................. 6.06% -- 4.95% 6.21% 5.40% 6.65% 6.16%
(1) Balance excludes net premiums and discounts of $7.0 million.
(2) Balance includes principal amortization only.
(3) Includes Line of Credit repayment in 2006 of approximately $68.2 million.
We have an option to extend this maturity for one year to 2007.
(4) Includes a Term Loan repayment in 2007 of $106 million. We have an option
to extend this maturity for two successive years to 2009. We have initiated
the process to refinance approximately $293 million of secured debt
maturing in 2007 with an effective interest rate of 6.80% per annum. The
transaction is expected to generate approximately $340 million in proceeds
from loans secured by individual mortgages on 20 properties, and is
expected to close in the fourth quarter. Excess proceeds will be used to
defease debt on two cross-collateralized loan pools consisting of 35
properties, and to repay amounts borrowed under the lines of credit. The
blended interest rate on the refinancing is approximately 5.30% per annum.
The transaction costs of approximately $23 million, or $0.74 per fully
diluted share, are expected to be incurred in the fourth quarter.
(5) Includes certain capital lease obligations totaling approximately $6.5
million. These agreements expire in June 2009 and are paid semi-annually.
In addition, the Company leases land under non-cancelable operating leases
at certain of the Properties expiring in various years from 2022 to 2032 with
terms which require twelve equal payments per year plus additional rents
calculated as a percentage of gross revenues. For the nine months ended
September 30, 2005 and 2004, ground lease rent was approximately $1.2 million.
Minimum future rental payments under the ground leases are approximately $1.6
million for each of the next five years and approximately $21.7 million
thereafter.
40
EQUITY TRANSACTIONS
On June 30, 2005, the Operating Partnership issued $50 million of 7.95%
Series F Cumulative Redeemable Perpetual Preference Units (the "Series F
Units"), to institutional investors. The Series F Units are non-callable for
five years and have no stated maturity or mandatory redemption. Net proceeds
from the offering were used to pay down amounts outstanding under the Company's
line of credit.
On March 24, 2005, the Operating Partnership issued $25 million of 8.0625%
Series D Cumulative Redeemable Perpetual Preference Units (the "Series D 8%
Units"), to institutional investors. The Series D 8% Units are non-callable for
five years. In addition, the Operating Partnership had an existing $125 million
of 9.0% Series D Cumulative Redeemable Perpetual Preference Units (the "Series D
9% Units") outstanding that were callable by the Company as of September 2004.
In connection with the new issue, the Operating Partnership agreed to extend the
non-call provision of the Series D 9% Units to be coterminous with the new
issue, and the institutional investors holding the Series D 9% Units agreed to
lower the rate on such units to 8.0625%. All of the units have no stated
maturity or mandatory redemption. Net proceeds from the offering were used to
pay down amounts outstanding under the Company's line of credit.
On April 8, 2005, the Company paid a $0.025 per share distribution for the
quarter ended March 31, 2005 to stockholders of record on March 25, 2005. On
July 8, 2005, the Company paid a $0.025 per share distribution for the quarter
ended June 30, 2005 to stockholders of record on June 24, 2005. On October 14,
2005, the Company paid a $0.025 per share distribution for the quarter ended
September 30, 2005 to stockholders of record on September 30, 2005. On March 24,
2005, the Operating Partnership paid distributions of 9.0% per annum on the $125
million of Series D 9% Units, and for the seven days ended March 31, 2005, the
Operating Partnership paid distributions of 8.0625% per annum on the $150
million Series D 8% Units. On June 30, 2005 the Operating Partnership paid
distributions of 8.0625% per annum on the $150 million of Series D 8% Units. On
September 30, 2005, the Operating Partnership paid distributions of 8.0625% per
annum on the $150 million of Series D 8% Units and 7.95% per annum on the $50
million of Series F 7.95% Units.
INFLATION
Substantially all of the leases at the Properties allow for monthly or
annual rent increases which provide the Company with the opportunity to achieve
increases, where justified by the market, as each lease matures. Such types of
leases generally minimize the risk of inflation to the Company.
41
FUNDS FROM OPERATIONS
Funds from Operations ("FFO") is a non-GAAP financial measure. We believe
FFO, as defined by the Board of Governors of the National Association of Real
Estate Investment Trusts ("NAREIT"), to be an appropriate measure of performance
for an equity REIT. While FFO is a relevant and widely used measure of operating
performance for equity REITs, it does not represent cash flow from operations or
net income as defined by GAAP, and it should not be considered as an alternative
to these indicators in evaluating liquidity or operating performance.
FFO is defined as net income, computed in accordance with GAAP, excluding
gains or losses from sales of properties, plus real estate related depreciation
and amortization, and after adjustments for unconsolidated partnerships and
joint ventures. Adjustments for unconsolidated partnerships and joint ventures
are calculated to reflect FFO on the same basis. We believe that FFO is helpful
to investors as one of several measures of the performance of an equity REIT. We
further believe that by excluding the effects of depreciation, amortization and
gains or losses from sales of real estate, all of which are based on historical
costs and which may be of limited relevance in evaluating current performance,
FFO can facilitate comparisons of operating performance between periods and
among other equity REITs. Investors should review FFO, along with GAAP net
income and cash flow from operating activities, investing activities and
financing activities, when evaluating an equity REIT's operating performance. We
compute FFO in accordance with standards established by NAREIT, which may not be
comparable to FFO reported by other REITs that do not define the term in
accordance with the current NAREIT definition or that interpret the current
NAREIT definition differently than we do. FFO does not represent cash generated
from operating activities in accordance with GAAP, nor does it represent cash
available to pay distributions and should not be considered as an alternative to
net income, determined in accordance with GAAP, as an indication of our
financial performance, or to cash flow from operating activities, determined in
accordance with GAAP, as a measure of our liquidity, nor is it indicative of
funds available to fund our cash needs, including our ability to make cash
distributions.
The following table presents a calculation of FFO for the quarters and nine
months ended September 30, 2005 and 2004 (amounts in thousands):
QUARTERS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
----------------- -----------------
2005 2004 2005 2004
------- ------- ------- -------
COMPUTATION OF FUNDS FROM OPERATIONS:
Net income (loss) available for common shares ................ $ 1,091 $ (864) $12,287 $ 4,106
Income (loss) allocated to common OP Units ................... 293 (234) 3,335 937
Depreciation on real estate assets ........................... 13,984 12,440 41,243 34,195
Depreciation on unconsolidated joint ventures ................ 517 249 1,341 724
Depreciation on discontinued real estate assets .............. -- 318 329 1,004
Gain on sale of Properties and other ......................... -- -- -- (638)
------- ------- ------- -------
Funds from operations available for common shares ......... $15,885 $11,909 $58,535 $40,328
======= ======= ======= =======
Weighted average common shares outstanding - fully diluted ... 30,149 29,846 30,008 29,188
======= ======= ======= =======
42
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE OF MARKET RISK
Market risk is the risk of loss from adverse changes in market prices and
interest rates. Our earnings, cash flows and fair values relevant to financial
instruments are dependent on prevailing market interest rates. The primary
market risk we face is long-term indebtedness, which bears interest at fixed and
variable rates. The fair value of our long-term debt obligations is affected by
changes in market interest rates. At September 30, 2005 approximately 99% or
approximately $1.6 billion of our outstanding debt had fixed interest rates,
which minimizes the market risk until the debt matures. For each increase in
interest rates of 1% (or 100 basis points), the fair value of the total
outstanding debt would decrease by approximately $93.4 million. For each
decrease in interest rates of 1% (or 100 basis points), the fair value of the
total outstanding debt would increase by approximately $99.1 million.
At September 30, 2005, approximately 1% or approximately $20 million of our
outstanding debt was at variable rates. Earnings are affected by increases and
decreases in market interest rates on this debt. For each increase/decrease in
interest rates of 1% (or 100 basis points), our earnings and cash flows would
increase/decrease by approximately $196,000 annually.
ITEM 4. CONTROLS AND PROCEDURES
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
The Company's management, with the participation of the Company's Chief
Executive Officer and Chief Financial Officer, has evaluated the effectiveness
of the Company's disclosure controls and procedures as of September 30, 2005.
Based on that evaluation, the Company's Chief Executive Officer and Chief
Financial Officer concluded that the Company's disclosure controls and
procedures were effective at the reasonable assurance level as of September 30,
2005.
CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING
There were no material changes in the Company's internal control over
financial reporting during the quarter ended September 30, 2005.
43
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
See Note 9 of the Consolidated Financial Statements contained herein.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
We did not submit any matter to a vote of security holders during the three
months ended September 30, 2005.
ITEM 5. OTHER INFORMATION
On August 9, 2005, the Board of Directors of the Company approved changes
to the fee structure for the non-employee directors of the Company. Under
the new structure, the annual cash retainer paid to each non-employee
director for his or her services on the Company's Board of Directors
increases by $15,000 from $30,000 to $45,000.
ITEM 6. EXHIBITS
31.1 Certification of Chief Financial Officer Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002
31.2 Certification of Chief Executive Officer Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002
32.1 Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section
1350
32.2 Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section
1350
44
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.
EQUITY LIFESTYLE PROPERTIES, INC.
BY: /s/ Thomas P. Heneghan
-------------------------------------
Thomas P. Heneghan
President and Chief Executive Officer
(Principal Executive Officer)
BY: /s/ Michael B. Berman
-------------------------------------
Michael B. Berman
Vice President, Treasurer and
Chief Financial Officer
(Principal Financial Officer
and Principal Accounting Officer)
DATE: November 2, 2005
45