Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
This Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) is intended to help provide an understanding of the business and results of operations of Monogram Residential Trust, Inc. (which, together with its subsidiaries as the context requires, may be referred to as the “Company,” “we,” “us” or “our”). This MD&A should be read in conjunction with our condensed consolidated financial statements and the notes thereto included in this Quarterly Report on Form 10-Q. This report, including the following MD&A, contains forward-looking statements regarding future events or trends that should be read in conjunction with the factors described under “Forward-Looking Statements” in this MD&A. Actual results or developments could differ materially from those projected in such statements as a result of the factors described under “Forward-Looking Statements” as well as the risk factors described in Part I, Item 1A, “Risk Factors” of our Annual Report on Form 10-K, filed with the Securities and Exchange Commission (the “SEC”) on
February 28, 2017
.
Overview
General
We are a fully integrated self-managed real estate investment trust (“REIT”) that invests in, develops and operates high quality multifamily communities offering location and lifestyle amenities. Our principal financial goal is to increase long-term shareholder value through the operation, acquisition, and development of our multifamily communities and, when appropriate, the disposition of multifamily communities in our portfolio. We plan to achieve our financial goal by allocating capital in urban, suburban-urban and high-density suburban growth markets, with a high quality, diversified portfolio that is professionally managed. We invest in stabilized operating communities and communities in various phases of development, with a focus on communities in select markets across the United States. These primarily include luxury high-rise, mid-rise, and garden style multifamily communities. Our targeted communities include existing “core” communities, which we define as communities that are already stabilized and producing rental income, as well as communities in various phases of development, redevelopment, lease up or repositioning with the intent to transition those communities to core communities. As of
March 31, 2017
, our portfolio includes investments in
49
multifamily communities in
ten
states comprising
13,674
residential units.
Our investments may be wholly owned by us or held through joint venture arrangements with third-party investors which we define as “Co-Investment Ventures” or “CO-JVs.” These are predominately equity investments but may also include debt investments, consisting of mezzanine or bridge loans.
We target locations in primary markets and coastal regions with high job and rent growth, including transit-oriented locations and vibrant areas offering lifestyle and retail amenities, and primarily class A communities that are newer and highly amenitized with higher rents per unit for the submarket. Class A communities, where the rents are higher than the median for the submarket, have historically provided greater long-term returns than class B communities. Also, newer communities, with updated amenities and less capital and maintenance expenditures, have historically provided greater long-term returns than older communities. Further, because markets move in and out of favor, we mitigate our exposure to any given submarket by investing in a geographically diversified portfolio.
We continuously review our portfolio for long-term growth prospects and scale and operating efficiencies, and expect to continue to reposition and redeploy capital to improve long-term returns. Currently, certain of our markets are experiencing oversupply from new development, which is resulting in rental concessions and decelerating revenue growth. Some of these are in non-coastal markets, where we may decide to permanently or temporarily exit the markets, as we did in 2015 and 2017 when we exited Chicago and Orlando, respectively.
We focus on acquiring multifamily communities that we believe will produce increasing rental revenue and appreciate in value over our holding period. Our targeted acquisitions include existing core communities, as well as communities in various phases of development and lease up with the intent to transition those communities to core communities. Acquisitions provide us with immediate entries into markets, allowing more rapid earnings growth and rebalancing of our portfolio of assets than development investments.
To date, we have made investments in individual multifamily communities. In the future, we plan to continue investing in individual multifamily communities and may pursue acquisitions of portfolios or other transactions. To date, all of our acquisitions have been for cash but we may acquire individual multifamily communities or portfolios through an “UPREIT structure” or by issuing shares of our common stock. Several of our recent acquisitions have been structured as tax like-kind exchanges. Such a structure may be attractive to us, particularly when we have large tax gains. As of March 31, 2017, we had
$110.9 million
deposited in tax like-kind exchange escrows, which were partially used to complete an acquisition of a multifamily community in April 2017. As discussed below, we may also acquire interests through Co-Investment Ventures.
We invest in high quality communities in high barrier coastal markets, which have long-term diversified economic drivers. We also invest in selected growth markets that have high job and rent growth fundamentals, such as Dallas, Austin, Houston, Denver and Atlanta. These markets may change over time as local market fundamentals change, particularly trends in demand/supply, rental growth and operating expenses. Within these markets, we primarily focus on urban, suburban-urban and high-density suburban areas with higher paying jobs, convenient transportation, retail and other lifestyle amenities. These target locations are typically in infill sites, which may also include urban and suburban-urban areas, and are generally high density, lifestyle submarkets with walkable locations, near public mass transportation and employment. We believe these locations attract affluent renters, who are generally older than the typical renter demographic, and who tend to experience lower turnover and are subject to less price elasticity.
We may also incorporate into our investment portfolio lease up communities, which are generally recently completed multifamily developments that have not started or have just started leasing, and which may provide for better pricing relative to stabilized assets and a more timely realization of operating cash flow than traditional development projects. Generally, we make additional non-recurring and revenue enhancing capital improvements to aesthetically improve the community and its amenities when it allows us to increase rents and stabilize occupancy with the goal of increasing yield and improving total returns.
We invest in developments where we believe we can create value and cash flow greater than through stabilized investments on a risk adjusted basis. We seek developments with characteristics similar to our stabilized multifamily investments, but at a lower cost per unit and in locations where there are limited acquisition opportunities. Our developments also allow us to build a portfolio that is tailored to our specifications with respect to location with the latest amenities and operational efficiencies, which result in lower capital expenditures and maintenance costs. Investing in developments further allows us to maintain a younger portfolio.
In selecting development investment opportunities, we generally focus on sites that are already entitled and environmentally assessed. While entitled land carries a higher upfront cost, acquiring ready to develop land significantly shortens the development time cycle, and reduces the associated carrying costs and exposure to materials and labor cost escalations as well as the development risks. Because of our approach to development, the average time from closing on the land to the start of vertical construction for these development projects has historically averaged approximately
six
months As of
March 31, 2017
, all of our current uncompleted developments are entitled and under construction.
As discussed further below under “Co-Investment Ventures,” we enter into strategic Co-Investment Ventures with institutional investors which we believe offer efficient, cost effective capital for growth. This institutional investor equity capital generally does not carry priority or minimum returns and in some arrangements, we receive promoted interests if certain total returns are achieved. Equity from joint ventures allows us to expand the number and size of our investments, allowing us to obtain a more diversified portfolio and participation in investments that we may otherwise have deemed disproportionately too large for our current portfolio. In addition, these joint ventures may provide a very cost effective internal source of growth or capital re-allocation, if we elect to purchase or sell all of our partner’s or our ownership interest in the underlying multifamily communities. Joint ventures also allow us to earn fees for asset management, development and property management, which offset portions of our general and administrative expenses. These institutional joint venture arrangements include relatively standard market distributable cash flow provisions and are structured so that we are the manager of the Co-Investment Venture subject to certain approval rights retained by our partners.
Co-Investment Ventures
We are the managing member of each of the separate Co-Investment Ventures. Our two institutional Co-Investment Venture partners are Stichting Depositary PGGM Private Real Estate Fund, a Dutch foundation acting in its capacity as depositary of and for the account and risk of PGGM Private Real Estate Fund and its affiliates, a real estate investment vehicle for Dutch pension funds (“PGGM” or the “PGGM Co-Investment Partner”) and Milky Way Partners, L.P. (the “MW Co-Investment Partner”), the primary partner of which is Korea Exchange Bank, as Trustee for and on behalf of National Pension Service (acting for and on behalf of the National Pension Fund of the Republic of Korea Government) (“NPS”). We refer to our Co-Investment Ventures with the PGGM Co-Investment Partner as “PGGM CO-JVs,” and those with the MW Co-Investment Partner as “MW CO-JVs.”
Our arrangements with PGGM provide for additional sources of capital, fees and promoted interests over the term of the joint venture. Accordingly, while we may sell certain PGGM CO-JVs or buyout PGGM’s CO-JV interest from time to time,
in whole or in part, we expect to continue to enter into additional CO-JVs with PGGM. On the other hand, while our MW CO-JVs do provide fee income, some degree of operational efficiency and the possibility of purchasing their interests, they do not generally provide additional capital. Accordingly, we expect the aggregate number of our MW CO-JVs to decline over time as communities are sold or we buy out our partner’s ownership interest in the underlying multifamily communities.
Our other Co-Investment Ventures include strategic joint ventures with national or regional real estate developers and owners (“Developer Partners”). When we utilize third-party developers, we expect to be the controlling owner, partnering with experienced developers, but maintaining control over construction, operations, financing and disposition. When applicable, we refer to individual investments by referencing those with Developer Partners as “Developer Co-JVs.” Certain PGGM CO-JVs that also include Developer Partners are referred to as PGGM CO-JVs. We share with the PGGM Co-Investment Partner in all benefits and obligations of the Developer CO-JVs that are also PGGM CO-JVs. We are the 1% general partner of Monogram Residential Master Partnership I LP (the “Master Partnership” or the “PGGM Co-Investment Partner”) and PGGM is the 99% limited partner. We are generally a 55% owner with control of day-to-day management and operations, and the Master Partnership is generally a 45% owner in the property owning CO-JVs, all of which are consolidated.
The table below presents a summary of our Co-Investment Ventures as of
March 31, 2017
and
December 31, 2016
. The effective ownership ranges are based on our participation in distributable operating cash from our investment in the underlying multifamily community. This effective ownership is indicative of, but may differ over time from, percentages for distributions, contributions or financing requirements for each respective Co-Investment Venture. All of our Co-Investment Ventures are reported on the consolidated basis of accounting.
|
|
|
|
|
|
|
Co-Investment Structure
|
|
Number of Multifamily Communities
|
|
Our Effective
Ownership
|
PGGM CO-JVs (a)
|
|
21
|
|
|
50% to 70%
|
MW CO-JVs
|
|
14
|
|
|
55%
|
Developer CO-JVs
|
|
2
|
|
|
100%
|
Total CO-JV Multifamily Communities (b)
|
37
|
|
|
|
|
|
(a)
|
As of
March 31, 2017
and
December 31, 2016
, includes Developer Partners in
18
multifamily communities.
|
|
|
(b)
|
Total investments in multifamily communities were
49
and 51 as of
March 31, 2017
and
December 31, 2016
, respectively.
|
Property Portfolio
We invest in operating and development multifamily communities which are geographically diversified by submarket. Our geographic regions are defined by state or by region. Our portfolio is comprised of the following geographic regions and specific markets within each region where we have multifamily communities:
|
|
•
|
Colorado — Denver market
|
|
|
•
|
South Florida — Greater Miami market and Fort Lauderdale market
|
|
|
•
|
Georgia — Atlanta market
|
|
|
•
|
Mid-Atlantic — Washington, DC market and greater Philadelphia market
|
|
|
•
|
Nevada — Las Vegas market
|
|
|
•
|
New England — Greater Boston market
|
|
|
•
|
Northern California — Greater San Francisco market
|
|
|
•
|
Southern California — Greater Los Angeles market and San Diego market
|
|
|
•
|
Texas — Austin market, Dallas market, and Houston market
|
We consider a multifamily community to be stabilized generally when the multifamily community achieves 90% occupancy. The tables below present the number of communities and units, physical occupancy rates and monthly rental revenue per unit for our stabilized multifamily communities by geographic region as of
March 31, 2017
and
December 31, 2016
:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2017
|
|
December 31, 2016
|
|
|
Number of
|
|
|
|
Number of
|
|
|
|
|
Stabilized
|
|
Number of
|
|
Stabilized
|
|
Number of
|
Geographic Region
|
|
Communities
|
|
Units
|
|
Communities
|
|
Units
|
Colorado (a)
|
|
3
|
|
|
808
|
|
|
4
|
|
|
1,208
|
|
South Florida (a)
|
|
5
|
|
|
1,205
|
|
|
6
|
|
|
1,630
|
|
Georgia
|
|
1
|
|
|
329
|
|
|
1
|
|
|
329
|
|
Mid-Atlantic
|
|
5
|
|
|
1,412
|
|
|
5
|
|
|
1,412
|
|
Nevada
|
|
2
|
|
|
598
|
|
|
2
|
|
|
598
|
|
New England
|
|
4
|
|
|
958
|
|
|
4
|
|
|
958
|
|
Northern California
|
|
5
|
|
|
942
|
|
|
4
|
|
|
821
|
|
Southern California
|
|
7
|
|
|
1,654
|
|
|
7
|
|
|
1,654
|
|
Texas (a)
|
|
9
|
|
|
2,924
|
|
|
10
|
|
|
3,073
|
|
Totals
|
|
41
|
|
|
10,830
|
|
|
43
|
|
|
11,683
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Physical Occupancy Rates (b)
|
|
Monthly Rental Revenue per Unit (c)
|
|
|
March 31,
|
|
December 31,
|
|
March 31,
|
|
December 31,
|
Geographic Region
|
|
2017
|
|
2016
|
|
2017
|
|
2016
|
Colorado
|
|
93
|
%
|
|
93
|
%
|
|
$
|
1,849
|
|
|
$
|
1,853
|
|
South Florida
|
|
94
|
%
|
|
94
|
%
|
|
2,190
|
|
|
1,949
|
|
Georgia
|
|
95
|
%
|
|
92
|
%
|
|
2,031
|
|
|
2,052
|
|
Mid-Atlantic
|
|
95
|
%
|
|
94
|
%
|
|
1,985
|
|
|
1,983
|
|
Nevada
|
|
97
|
%
|
|
96
|
%
|
|
1,111
|
|
|
1,100
|
|
New England
|
|
96
|
%
|
|
95
|
%
|
|
1,767
|
|
|
1,773
|
|
Northern California
|
|
95
|
%
|
|
95
|
%
|
|
3,114
|
|
|
3,055
|
|
Southern California
|
|
95
|
%
|
|
96
|
%
|
|
2,268
|
|
|
2,256
|
|
Texas
|
|
95
|
%
|
|
95
|
%
|
|
1,591
|
|
|
1,627
|
|
Totals
|
|
95
|
%
|
|
95
|
%
|
|
$
|
1,967
|
|
|
$
|
1,925
|
|
(a) During the three months ended
March 31, 2017
, we sold the following multifamily communities (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
Multifamily Community
|
|
Location
|
|
Number of Units
|
|
Sales Contract Price
|
The District Universal Boulevard
|
|
Orlando, Florida
|
|
425
|
|
|
$
|
78.5
|
|
Skye 2905
|
|
Denver, Colorado
|
|
400
|
|
|
126.0
|
|
Grand Reserve
|
|
Dallas, Texas
|
|
149
|
|
|
42.0
|
|
Total
|
|
|
|
974
|
|
|
$
|
246.5
|
|
|
|
|
|
|
|
|
|
|
(b)
|
Physical occupancy rate is defined as the number of residential units occupied for stabilized multifamily communities as of
March 31, 2017
or
December 31, 2016
divided by the total number of residential units as of the applicable date. Not considered in the physical occupancy rate is rental space designed for other than residential use, which is primarily retail space. As of
March 31, 2017
, our stabilized multifamily communities have approximately
132,000
square feet of leasable retail space which is approximately
1%
of total rentable area. Two large retail spaces are occupied under long term leases by a national grocer and a national drug store, which make up approximately half of our retail square footage combined; the remaining retail spaces are small, generally 1,000
|
square feet or less. As of
March 31, 2017
, approximately
77%
of the
132,000
square feet of retail space was occupied. The calculations of physical occupancy rates by geographic region and total average physical occupancy rates are based upon weighted average number of residential units.
(c) Monthly rental revenue per unit has been calculated based on the leases in effect as of
March 31, 2017
or
December 31, 2016
, as applicable, for stabilized multifamily communities. Monthly rental revenue per unit only includes in-place base rents for the occupied residential units and the current market rent for vacant residential units, including the effects of any rental concessions and affordable housing payments and subsidies, plus other recurring occupancy related revenues from storage, parking, pets, trash, or other recurring resident charges. The monthly rental revenue per unit does not include non-residential rental areas, which are primarily related to retail space, and non-recurring resident charges, such as application fees, termination fees, clubhouse rentals, and late fees.
The table below presents the number of operating communities and units and physical occupancy rates for our multifamily communities in lease up by geographic region (including developments in lease up) as of
March 31, 2017
and
December 31, 2016
:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Number of Communities
|
|
Number of Units
|
|
Physical Occupancy Rates
|
Geographic Region
|
|
March 31,
2017
|
|
December 31,
2016
|
|
March 31,
2017
|
|
December 31,
2016
|
|
March 31,
2017
|
|
December 31,
2016
|
Mid-Atlantic
|
|
1
|
|
|
1
|
|
|
461
|
|
|
461
|
|
|
77
|
%
|
|
66
|
%
|
New England
|
|
1
|
|
|
1
|
|
|
392
|
|
|
392
|
|
|
74
|
%
|
|
69
|
%
|
Northern California
|
|
—
|
|
|
1
|
|
|
—
|
|
|
121
|
|
|
N/A
|
|
|
84
|
%
|
Southern California
|
|
1
|
|
|
—
|
|
|
175
|
|
|
—
|
|
|
18
|
%
|
|
N/A
|
|
Texas
|
|
1
|
|
|
1
|
|
|
365
|
|
|
365
|
|
|
45
|
%
|
|
30
|
%
|
Total
|
|
4
|
|
|
4
|
|
|
1,393
|
|
|
1,339
|
|
|
61
|
%
|
|
59
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
During the
three
months ended
March 31, 2017
, we acquired a multifamily community in lease up and a multifamily community classified as lease up as of
December 31, 2016
was reclassified as stabilized.
The table below presents the currently projected number of multifamily communities and units by geographic region that are in our development program and that are under development and construction as of
March 31, 2017
and
December 31, 2016
.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Number of Communities
|
|
Number of Units
|
Geographic Region
|
|
March 31,
2017
|
|
December 31,
2016
|
|
March 31,
2017
|
|
December 31,
2016
|
Under development and construction:
|
|
|
|
|
|
South Florida
|
|
1
|
|
|
1
|
|
|
146
|
|
|
146
|
|
Southern California
|
|
1
|
|
|
1
|
|
|
510
|
|
|
510
|
|
Total
|
|
2
|
|
|
2
|
|
|
656
|
|
|
656
|
|
See further information regarding our development program below under “Liquidity and Capital Resources — Long-Term Liquidity, Acquisition and Property Financing.”
The following table below presents our debt investments by geographic region as of both
March 31, 2017
and
December 31, 2016
:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2017
|
|
December 31, 2016
|
Geographic Region
|
|
Number of Communities
|
|
Number of Units
|
|
Number of Communities
|
|
Number of Units
|
Debt investments:
|
|
|
|
|
|
|
|
|
|
|
Texas
|
|
2
|
|
|
795
|
|
|
2
|
|
|
795
|
|
Total debt investments
|
2
|
|
|
795
|
|
|
2
|
|
|
795
|
|
|
|
|
|
|
|
|
|
|
Of these debt investments, one of the communities is in lease up and was 20% occupied as of
March 31, 2017
.
Operational Overview
The following discussion provides an overview of the Company’s operations and transactions for the
three
months ended
March 31, 2017
and should be read in conjunction with the full discussion of the Company’s operating results, liquidity, capital resources and risk factors included or incorporated by reference elsewhere in this Quarterly Report on Form 10-Q.
Property Operations
Rental revenues for the
three
months ended
March 31, 2017
increased
$7.8 million
over the comparable period of
2016
due primarily to lease up of multifamily communities in our development program, partially offset by the effects of sales of multifamily communities in 2016 and 2017. Our multifamily communities currently classified as stabilized non-comparable and lease up accounted for
$11.5 million
of the increase in rental revenues for the
three
months ended
March 31, 2017
. Since March 31, 2016,
eight
communities began lease up or reached stabilization, representing
2,180
units and approximately
18%
of our operating units as of
March 31, 2017
. These increases were partially offset by a decrease of in rental revenues related to multifamily communities sold in 2016 and 2017. During the
three
months ended
March 31, 2017
, we sold three communities with 974 units and a net book value of
$156.6 million
, and in 2016 we sold two communities with 417 units and a net book value of
$76.0 million
, combined for both years representing approximately 11% of our operating units as of
March 31, 2017
. Rental revenues from Same Store multifamily communities, as defined below, remained flat as a
0.5%
increase in rental rates, on a weighted average basis, was substantially offset by a decrease in occupancy.
Our operating results generally benefited from favorable demand fundamentals in most of our markets. Overall, we were able to increase Same Store rental revenue per unit by approximately
0.2%
since March 31, 2016. In certain markets, particularly South Florida, Southern California, Washington D.C. and Las Vegas, we were also able to significantly increase rental rates or occupancy year over year. However, in other markets, increased construction and supply of multifamily units have led to rental concessions and/or significant occupancy declines. These were primarily focused in the Houston, San Francisco, Austin, Boston and Denver markets. We believe these trends will continue into 2017, but for certain of these markets, particularly in the coastal markets, we believe the underlying demand fundamentals are still positive and, after the short term effects of oversupply are absorbed, that those markets will return to historical rental revenue growth rates. When we believe a market will underperform other investment opportunities, we will consider temporarily or permanently exiting such market, as was the case in 2015 and 2017 when we exited Chicago and Orlando, respectively.
Our operating multifamily communities include those with any recurring lease revenues, which may include developments in lease up. Our Same Store multifamily communities are defined as those that are stabilized and comparable for both the current and the prior reporting year. As of
March 31, 2017
, our operating multifamily communities included
45
communities, consisting of
35
Same Store communities,
six
stabilized communities that were not yet categorized as Same Store, and
four
communities (including one recent acquisition in lease up) in various stages of lease up. Since January 1, 2017,
eight
additional communities qualified for Same Store classification, and we sold three Same Store communities. Accordingly, since December 31, 2016, we have had a net increase of five Same Store communities from 30 Same Store communities as of
December 31, 2016
to a total of
35
Same Store communities as of
March 31, 2017
.
Lease up of Developments
During the
three
months ended
March 31, 2017
, the lease up of our development communities accounted for all of our rental revenue growth from the comparable period in
2016
. As of
March 31, 2017
, our development program includes
three
communities that are not yet stabilized.
We expect that our development program, as construction is completed and each development community leases up, will continue to account for a significant portion of revenue and operational growth. The
three
communities noted above as not yet stabilized as of
March 31, 2017
include
1,218
units and were only
66%
occupied in the aggregate as of
March 31, 2017
. Two communities were under construction and not in operations as of
March 31, 2017
. Based on our current development schedule, we expect to add these communities to our operating portfolio during the periods indicated in the table below:
|
|
|
|
|
|
|
|
|
|
|
|
Year
|
|
|
Number of Communities
|
|
Units Added to Operations
|
|
% of Total Operating Units (a)
|
April through December 2017
|
|
1
|
|
|
146
|
|
|
1
|
%
|
2018
|
|
1
|
|
|
510
|
|
|
4
|
%
|
Total
|
|
2
|
|
|
656
|
|
|
5
|
%
|
|
|
|
|
|
|
|
|
|
|
(a)
|
As of
March 31, 2017
, total operating units were
12,223
and included
four
communities in lease up (including one recent acquisition in lease up).
|
Development Activity
As of
March 31, 2017
, we have
two
multifamily communities in active construction in our development program. The
two
developments are in vertical construction, and based on the total costs incurred as a percentage of total estimated costs, are approximately
56%
complete. We expect one of these developments to be completed during 2017 and the other development to be completed by the end of 2018. Full stabilization of operations generally takes an additional nine to 18 months depending on the size of the community.
As of
March 31, 2017
, we have approximately
$115.8 million
of remaining development costs (which exclude estimated Developer Partner put options of
$28.8 million
) related to our current development program and communities recently transferred to operating real estate that still have remaining costs. As of
March 31, 2017
, approximately
$88.5 million
of our remaining development costs are expected to be funded from committed construction financing and
$10.5 million
primarily from PGGM. We generally seek property-specific construction financing at 40-60% of construction costs but may also utilize our credit facilities or other liquidity sources to fund our developments. Because we have already invested a large portion of the equity requirements for our development program, the amount drawn under our construction loans and/or credit facilities, and therefore our overall leverage, will be increasing in the near term. As these development projects stabilize, we expect to achieve deleveraging through organic growth in operations.
We capitalize project costs related to the developments, including interest expense, real estate taxes, insurance and direct overhead. Capitalized interest expense and real estate taxes are the most significant of these costs and were
$1.2 million
for the
three
months ended
March 31, 2017
, compared to
$3.1 million
in the comparable period in
2016
. Capitalization of these items ceases when the development is completed and ready for its intended use, which is usually before significant leasing occupancy has begun and leasing rental revenue is recognized. During this period, the community may be reporting an operating deficit, representing operating expenses and interest expense in excess of rental revenue. Of the
$1.2 million
capitalized for the
three
months ended
March 31, 2017
,
$0.2 million
relates to developments with no anticipated future capitalized interest and real estate taxes, and
$1.0 million
relates to developments with capitalized interest and real estate taxes expected to continue in 2017 and later.
Sales Activities
During the
three
months ended
March 31, 2017
, we sold three multifamily communities in Dallas, Texas, Orlando, Florida and Denver, Colorado with
974
units for net sales proceeds of
$242.5 million
and gains on sales of real estate of
$86.7 million
. During 2016, subsequent to March 31, 2016, we also sold two multifamily communities with
417
units. The communities sold in 2017 and 2016 reported
$3.7 million
and
$7.4 million
of revenues (through the sales date) for the
three
months ended
March 31, 2017
and
2016
, respectively. Of the five multifamily communities sold through
March 31, 2017
, approximately
$105.1 million
of the sales proceeds was used to acquire a multifamily community in lease up in January 2017, approximately
$110.1 million
was used to retire debt and
$110.9 million
was placed in a tax like-kind exchange escrow. Subsequent to
March 31, 2017
,
$70.9 million
of the like-kind exchange escrow was used to acquire a multifamily community in lease up. See “Acquisition Activities” below for additional discussion.
Acquisition Activities
In January 2017, we acquired a
175
-unit multifamily community in Los Angeles, California for a gross contract purchase price of
$105.0 million
, before any closing costs. The purchase was funded from the proceeds of the remaining 2016 tax like-kind exchange escrow and a portion from 2017 net sales proceeds. The multifamily community was acquired in lease up and as of
March 31, 2017
was
18%
occupied. Accordingly, the acquired multifamily community did not report significant operating activity during the first quarter of 2017.
In
April 2017
, we acquired a
265
-unit multifamily community in Arlington, Virginia for a gross contract purchase price of
$143.0 million
, before any closing costs. The purchase was funded from proceeds of the tax like-kind exchange escrow of approximately
$70.9 million
, the sale of a multifamily community in March 2017 and the remainder primarily funded from our credit facilities.
Results of Operations
The
three
months ended
March 31, 2017
as compared to the
three
months ended
March 31, 2016
Rental Revenues
.
The following table presents the classifications of our rental revenue for the
three
months ended
March 31, 2017
and
2016
(in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended March 31,
|
|
|
2017
|
|
2016
|
|
Change
|
Rental revenue
|
|
|
|
|
|
|
|
|
|
Same Store
|
|
$
|
54.0
|
|
|
$
|
54.0
|
|
|
$
|
—
|
|
Stabilized Non-Comparable
|
|
10.4
|
|
|
3.4
|
|
|
7.0
|
|
Lease up
|
|
5.2
|
|
|
0.7
|
|
|
4.5
|
|
Dispositions and other non-lease up developments
|
|
3.7
|
|
|
7.4
|
|
|
(3.7
|
)
|
Total rental revenue
|
|
$
|
73.3
|
|
|
$
|
65.5
|
|
|
$
|
7.8
|
|
|
|
|
|
|
|
|
Rental revenues for the
three
months ended
March 31, 2017
were
$73.3 million
compared to
$65.5 million
for the
three
months ended
March 31, 2016
. Same Store revenues, which accounted for approximately
74%
of total rental revenues for
2017
remained flat compared to the comparable period of 2016. While Same Store monthly rental revenue per unit, on a weighted average basis, for the
three
months ended
March 31, 2017
increased approximately
0.5%
, Same Store occupancy, on a weighted average basis, decreased approximately
0.8%
. In addition, communities that were stabilized non-comparable or in lease up as of
March 31, 2017
were 78% occupied as of
March 31, 2017
, compared to 30% occupied at
March 31, 2016
. Accordingly, stabilized non-comparable communities and lease ups, which include both acquisitions and developments, produced rental revenues of
$15.6 million
for the
three
months ended
March 31, 2017
,
an increase
of
$11.5 million
from the comparable period in
2016
. During
2016
, subsequent to March 31, 2016, and the three months ended
March 31, 2017
, we sold a total of five operating communities, representing a total of
1,391
units. These sold communities reported
$7.4 million
of revenue for the
three
months ended
March 31, 2016
compared to
$3.7 million
of revenue for the
three
months ended
March 31, 2017
,
a decrease
in revenue of
$3.7 million
.
Property Operating and Real Estate Tax Expenses.
The following table presents the classifications of our property operating expenses and real estate tax expenses for the
three
months ended
March 31, 2017
and
2016
(in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended March 31,
|
|
|
2017
|
|
2016
|
|
Change
|
Property operating expenses, including real estate taxes
|
|
|
|
|
|
|
|
|
|
Same Store
|
|
$
|
19.8
|
|
|
$
|
19.5
|
|
|
$
|
0.3
|
|
Stabilized Non-Comparable
|
|
4.2
|
|
|
2.8
|
|
|
1.4
|
|
Lease up
|
|
3.2
|
|
|
1.9
|
|
|
1.3
|
|
Dispositions and other non-lease up developments
|
|
1.4
|
|
|
2.6
|
|
|
(1.2
|
)
|
Corporate property management expense
|
|
2.5
|
|
|
2.6
|
|
|
(0.1
|
)
|
Total property operating expenses, including real estate taxes
|
|
$
|
31.1
|
|
|
$
|
29.4
|
|
|
$
|
1.7
|
|
|
|
|
|
|
|
|
Total property operating and real estate tax expenses for the
three
months ended
March 31, 2017
and
March 31, 2016
were
$31.1 million
and
$29.4 million
, respectively. Same Store property operating expenses and real estate taxes accounted for approximately
64%
of total property operating expenses and real estate taxes for the
three
months ended
March 31, 2017
. Stabilized non-comparable communities and lease ups, which include both acquisitions and developments, accounted for
$2.7 million
of the
increase
in total property operating and real estate tax expenses. Increases in real estate taxes was the largest component of the increase. Total real estate tax expense
increased
$1.3 million
due to the decrease in capitalized real estate taxes and higher property tax assessed valuations on our multifamily communities. Since
March 31, 2016
,
four
developments have been completed and transferred to operating real estate resulting in a decrease of
$0.4 million
in capitalized real estate taxes and a corresponding increase in real estate tax expense for the
three
months ended
March 31, 2017
as compared to the same period of
2016
. Of the remaining $0.9 million increase in real estate tax expenses, $0.8 million related to developments that stabilized in 2016 or 2017. Sales of multifamily communities during
2016
and
2017
resulted in
a decrease
in property operating expenses and real estate taxes of approximately
$1.2 million
. Corporate-related and other property management expenses of
$2.5 million
for the
three
months ended
March 31, 2017
decreased
$0.1 million
compared to the same period in
2016
.
General and Administrative Expenses.
General and administrative expenses
increased
by
$0.4 million
for the
three
months ended
March 31, 2017
compared to the same period of
2016
. The increase was primarily due to higher severance costs of
$1.2 million
and legal expenses related to matters with our former advisor of approximately $0.2 million. These increases were partially offset by our reduction in force that we undertook during mid-2016.
Interest Expense.
For the
three
months ended
March 31, 2017
and
2016
, we incurred total interest charges, net of other finance fees, of
$12.5 million
and
$12.6 million
, respectively. The slight decrease in total interest charges was due to a net
decrease
in our average debt balances of approximately
$20 million
from
March 31, 2016
to
March 31, 2017
. This decrease in interest charges was partially offset by a decrease in amounts capitalized. For the
three
months ended
March 31, 2017
and
2016
, we capitalized interest expense of
$1.0 million
and
$2.4 million
, respectively, and accordingly, recognized net interest expense for the
three
months ended
March 31, 2017
and
2016
of
$11.7 million
and
$10.4 million
, respectively. The
decrease
in capitalized interest was the result of the completion of significant portions of our development program, when interest capitalization ceases. Our weighted average interest rate for the
three
months ended
March 31, 2017
and
2016
were substantially unchanged.
Depreciation and Amortization.
Depreciation and amortization expense for the
three
months ended
March 31, 2017
and
2016
was
$31.9 million
and
$30.1 million
, respectively. Depreciation and amortization primarily includes depreciation of our consolidated multifamily communities and amortization of acquired in-place leases and other contractual intangibles. The
increase
was principally the result of a net increase in our average depreciation and amortization of real estate assets since March 31, 2016. Since
March 31, 2016
, we have transferred
$177.7 million
from construction in progress to operating real estate. These increases were only partially offset by the sales of three operating multifamily communities in the first quarter of 2017 and two operating multifamily communities in 2016 (August 2016 and December 2016), which have decreased our depreciable real estate costs by an aggregate
$246.5 million
. Since the effects of 2017 sales were only for a partial period, the effects on depreciation and amortization may be greater in future periods.
Interest Income
. Interest income for the
three
months ended
March 31, 2017
and
2016
was
$1.2 million
and
$1.7 million
, respectively. Interest income decreased
$0.5 million
due to less notes receivable principal and fewer notes receivable outstanding in 2017 as compared to 2016.
Loss on early extinguishment of debt
. For the
three
months ended
March 31, 2017
, we incurred a loss on early extinguishment of debt of
$3.9 million
principally as a result of prepayment penalties related to mortgage loans on communities sold during 2017 and repaid before maturity.
Gains on Sales of Real Estate
. Gains on sales of real estate for the
three
months ended
March 31, 2017
represents the gains recognized on the sales of Grand Reserve in February 2017 and The District Universal Boulevard and Skye 2905 in March 2017. There were no sales of real estate for the
three
months ended
March 31, 2016
.
Significant Balance Sheet Fluctuations
The discussion below relates to significant fluctuations in certain line items of our consolidated balance sheets from
December 31, 2016
to
March 31, 2017
.
Total real estate, net decreased
$63.0 million
for the
three
months ended
March 31, 2017
. This decrease was principally due to the sales of three multifamily communities carried at a net book value of
$156.6 million
. This decrease was partially offset by the acquisition of one multifamily community in January 2017 for a gross contract purchase price
$105.0 million
, before any closing costs, and
$23.5 million
of development costs and other additions to real estate incurred during the
three
months ended
March 31, 2017
.
The tax like-kind exchange escrow increase was due to the
$110.9 million
added to escrows from 2017 sales and
$56.8 million
disbursed for the 2017 acquisition of Desmond at Wilshire.
Mortgages and notes payable, net decreased
$293.3 million
while credit facilities payable, net increased
$222.1 million
. As noted above, we sold three multifamily communities during the three months ended March 31, 2017 where existing mortgages of
$110.1 million
were repaid upon the sales. Additionally, as further discussed in “Liquidity and Capital Resources — Short-Term Liquidity,” on March 30, 2017, we entered into a new unsecured credit facility and repaid six construction loans, drawing
$193.0 million
.
Cash Flow Analysis
Similar to our discussion above related to “Results of Operations,” many of our cash flow results are affected by the transition of many of our multifamily communities from lease up to stabilized operations, along with changes in the number of our developments. We anticipate continued investment in our development program and other multifamily investments. We expect these investments will increase cash flows from operating activities as the developments lease up and stabilize. However, as the existing development program is completed, we expect the pace of new development to moderate. Accordingly, our sources and uses of funds may not be comparable in future periods.
For the
three
months ended
March 31, 2017
as compared to the
three
months ended
March 31, 2016
Cash flows provided by operating activities for the
three
months ended
March 31, 2017
were
$13.9 million
as compared to cash flows provided by operating activities of
$17.9 million
for the same period in
2016
. During the
three
months ended
March 31, 2017
, we paid $1.6 million to our previous sponsor in settlement of a fee dispute. No such amounts were paid during the comparable period of 2016. Cash flows from operating activities were also negatively impacted during the three months ended March 31, 2017 due to dispositions of multifamily communities subsequent to March 31, 2016 of approximately $1.8 million.
Cash flows provided by investing activities for the
three
months ended
March 31, 2017
were
$61.3 million
compared to cash flows used in investing activities of
$27.0 million
during the comparable period in
2016
. Proceeds from the sales of real estate for the
three
months ended
March 31, 2017
were
$242.5 million
from the sale of three multifamily communities, whereas no sales occurred during the
three
months ended
March 31, 2016
. During the
three
months ended
March 31, 2017
, we acquired a multifamily community for
$105.1 million
. There were no acquisitions during the comparable period of 2016. Expenditures related to our development program during the
three
months ended
March 31, 2017
decreased
$8.9 million
compared to the same period in
2016
as the number of communities under construction decreased in 2017. We expect capital expenditures related to our development program to be a significant use of cash but potentially trending lower depending on future investment and development opportunities.
Cash flows used in financing activities for the
three
months ended
March 31, 2017
were
$90.5 million
compared to cash flows used in financing activities of
$6.7 million
for the
three
months ended
March 31, 2016
. During the
three
months ended
March 31, 2017
, we repaid
$304.3 million
of mortgage and notes payable (including all related prepayment costs), of which
$110.1 million
related to proceeds received from the sales of three multifamily communities and
$187.6 million
in repayments of construction loans from the proceeds under the unsecured credit facility. This compared to approximately
$10.7 million
of net increases in mortgage and notes payable and credit facilities for the same period of 2016. For the
three
months ended
March 31, 2017
, contributions from noncontrolling interests were
$6.1 million
compared to
$1.3 million
for the comparable period in
2016
, which was primarily used to fund construction costs.
Liquidity and Capital Resources
The Company has cash and cash equivalents of
$59.2 million
as of
March 31, 2017
. The Company also has
$500 million
of total borrowing capacity under its credit facilities with current available capacity of approximately
$419 million
based on existing collateral. As of
March 31, 2017
,
$235.0 million
in borrowings was outstanding under these facilities. Subsequent to
March 31, 2017
, we have made additional draws on our credit facilities of
$68.0 million
primarily to fund an acquisition as discussed further below. Accordingly, as of April 30, 2017, our outstanding borrowings under these credit facilities was
$303.0 million
, and we have
$116.4 million
available to draw. We may deploy these funds for additional investments in multifamily communities through both acquisition and development investments, to refinance existing mortgage and construction financings which may benefit from lower or fixed interest rates and for other corporate purposes. We may supplement our investable cash with capital from other sources including Co-Investment Ventures, real estate financing, and possibly other equity and debt offerings. We may also refinance or dispose of our investments and use the proceeds to reinvest in new investments, reduce existing debt, or use for other obligations, including distributions on our common stock. Our investments may include wholly owned and joint venture equity interests in operating or development multifamily communities and loans secured directly or indirectly by multifamily communities.
Generally, operating cash needs include our operating expenses and general and administrative expenses. We expect to meet these on-going cash requirements from our approximate share of the operations of our existing investments and anticipated new investments. However, our development communities require time to construct and lease up, and accordingly, there will be a lag before development investments are providing stabilized cash flows.
We expect to utilize our cash balances, cash flow from operating activities and our credit facilities predominantly for the uses described herein. As discussed further below, we have construction contracts in place related to our development investments, a portion of which we expect to pay from our cash balances and credit facilities as well as other sources discussed below.
Short-Term Liquidity
Our primary indicators of short-term liquidity are our cash and cash equivalents and our credit facilities. As of
March 31, 2017
, we currently have a
$300 million
unsecured credit facility (the “Unsecured Credit Facility”) and a
$200 million
revolving credit facility (the “$200 Million Facility.”) As of
March 31, 2017
, our cash and cash equivalents balance was
$59.2 million
.
Our consolidated cash and cash equivalent balance of
$59.2 million
as of
March 31, 2017
includes approximately
$28.8 million
held by individual Co-Investment Ventures. These funds are held for the benefit of these entities, including amounts for their specific operating requirements, as well as amounts available for distributions to us and our Co-Investment Venture partners. Accordingly, these amounts are only available to us for general corporate purposes after distributions to us.
Our cash and cash equivalents are invested in bank demand deposits and money market accounts. We manage these credit exposures by diversifying our investments over several financial institutions. However, because of the degree of our cash balances, a substantial portion of our holdings are in excess of U.S. federally insured limits, requiring us to rely on the credit worthiness of our deposit holders and our diversification strategy.
Cash flow from operating activities was
$13.9 million
for the
three
months ended
March 31, 2017
compared to
$17.9 million
for the comparable period in
2016
. As all of our real estate investments are accounted for under the consolidated method of accounting, we show our cash flow from operating activities gross, which includes amounts available to us and to Co-Investment Venture partners. Included in our distributions to noncontrolling interests are discretionary distributions related to ordinary operations (i.e., excluding distributions related to capital activity, primarily debt financings, to these Co-Investment Venture partners). Distributions related to operating activities to these Co-Investment Venture partners were
$6.3 million
and
$6.1 million
for the
three
months ended
March 31, 2017
and
2016
, respectively. Our net share of cash flow from operating activities was
$7.6 million
and
$11.8 million
for the
three
months ended
March 31, 2017
and
2016
, respectively. We expect increasing cash flow as developments lease up and stabilize as discussed above.
With our positive consolidated cash flow from operating activities, we are able to fund operating costs of our multifamily communities, interest expense, and general and administrative expenses from current operations. Our residents generally pay rents monthly, which generally coincides with the payment cycle for most of our operating expenses, interest and general and administrative expenses. Real estate taxes and insurance costs related to operating communities, the most significant exceptions to our 30 day payment cycle, are either paid from lender escrows, which are funded by us monthly, or
from elective internal cash reserves. Further, we expect our approximate share of operating cash flows to increase as our development program is completed and leases up. Accordingly, we do not expect to have to rely on other funding sources to meet our recurring operating, financing and administrative expenses.
Our board of directors, after considering the current and expected operations of the Company and other market and economic factors, authorizes regular distributions payable to stockholders of record with respect to a single record date each quarter. For the first quarter of 2017, our board of directors has authorized quarterly distributions in the amount of
$0.075
per share on all outstanding shares of common stock of the Company for each quarter (an annualized amount of $0.30 per share). See further discussion under “Distribution Policy — Distribution Activity” below. We expect to fund distributions, as may be authorized by our board of directors in the future, from multiple sources including cash flow from our current investments, our available cash balances, financings and dispositions.
We use, and intend to continue to use, our credit facilities to provide greater flexibility in our cash management and to provide funding for our development program, acquisitions, repositioning debt, and, on an interim basis, for our other short term needs. We also intend to draw on the credit facilities to refinance construction and other mortgage loans and to bridge liquidity requirements between other sources of capital, including other long term financing, property sales and operations. Accordingly, we expect outstanding balances under the credit facilities to fluctuate over time.
On March 30, 2017, we and the PGGM Co-Investment Partner entered into the Unsecured Credit Facility, consisting of a
$200 million
revolving credit facility (the “Revolver”) and a
$100 million
term loan. The Unsecured Credit Facility provides us with the ability from time to time to increase the facility up to
$500 million
, subject to certain conditions and allocate the increase between the Revolver and the term loan.
Pursuant to our credit facilities, we are required to maintain certain financial covenants, the most restrictive of which require us to maintain a consolidated net worth of at least $1.16 billion, consolidated total indebtedness to total gross asset value of less than
65%
, and adjusted consolidated earnings before interest, taxes, depreciation and amortization (“EBITDA”) to consolidated fixed charges of not less than
1.50
to 1 for the most recently ended four calendar quarters, and beginning December 31, 2015, a limit on distributions and share repurchases in excess of
95%
of our funds from operations generally calculated in accordance with the current definition of funds from operations adopted by the National Association of Real Estate Investment Trusts (“NAREIT”) over certain defined historical periods. See “Non-GAAP Measurements — Funds from Operations” below for additional information regarding our calculation of funds from operations and a reconciliation to GAAP net income.
The Unsecured Credit Facility advances are limited to PGGM Co-Investment activities; however, certain proceeds may be distributed to us which may be used for any purpose. Advances under the $200 Million Facility have no restrictions.
Based on our financial data as of
March 31, 2017
, we believe that we are in compliance with all provisions of the credit facilities as of that date and are therefore qualified to borrow the current availability under such credit facilities as noted in the table below. Certain prepayments may be required under the credit facilities upon a breach of covenants or borrowing conditions by the Company. Future borrowings under the credit facilities are subject to periodic revaluations, either increasing or decreasing available borrowings.
If circumstances allow us to acquire investments in all-cash transactions, we may draw on the credit facilities for the initial funding. We may also use the credit facilities for interim construction financing or to pay down debt, which could then be repaid from permanent financing.
The carrying amounts of the credit facilities, amounts available to draw and the average interest rates for the
three
months ended
March 31, 2017
, are summarized as follows (dollar amounts in millions; LIBOR at
March 31, 2017
was
0.98%
):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2017
|
|
For the Three Months Ended
March 31, 2017
|
|
|
Balance
Outstanding
|
|
Available to Draw
|
|
Interest
Rate
|
|
Average Balance Outstanding
|
|
Average Interest Rate (a)
|
|
Maximum Balance Outstanding
|
Unsecured Credit Facility
|
|
$
|
193.0
|
|
|
$
|
26.4
|
|
|
3.23
|
%
|
|
$
|
4.3
|
|
|
3.23
|
%
|
|
$
|
193.0
|
|
$200 Million Facility
|
|
42.0
|
|
|
158.0
|
|
|
3.48
|
%
|
|
15.4
|
|
|
3.30
|
%
|
|
42.0
|
|
Total credit facilities payable
|
|
235.0
|
|
|
$
|
184.4
|
|
|
|
|
$
|
19.7
|
|
|
|
|
$
|
235.0
|
|
Less: deferred financing costs, net
|
|
(4.9
|
)
|
|
|
|
|
|
|
|
|
|
|
Total credit facilities payable, net
|
|
$
|
230.1
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(a)
|
The average interest rate is based on month-end interest rates for the period.
|
For the three months ended March 31, 2017, we borrowed approximately
$193.0 million
to retire six construction loans, $28.0 million to fund the remaining amounts related to a multifamily community acquisition and approximately $4.0 million for general working capital purposes. See the following section for additional discussion related to an acquisition subsequent to
March 31, 2017
.
As we acquire other multifamily investments. complete our development program as described in this section, refinance the related construction loans and as refinancings related to property sales may require, we may use the credit facilities more frequently. We also believe we have the necessary capital market relationships, financial position and operating performance to add other borrowings, which could provide additional capital resources and more flexibility in managing our liquidity requirements.
Long-Term Liquidity, Acquisition and Property Financing
We currently have various sources to provide long-term liquidity and to fund investments, including our available cash balances, credit facilities, Co-Investment Ventures, other debt financings, property dispositions, and debt investment repayments. We may also supplement those sources by selling equity or debt securities of the Company if and when we believe it is appropriate to do so.
As discussed above, as of
March 31, 2017
, we have cash balances and a total borrowing capacity of
$500 million
under our credit facilities with current available capacity of approximately
$419 million
based on existing collateral. These funding sources are available for additional investments in acquisitions and developments, including our existing development program. We may also use these sources for interim or long term deleveraging of our permanent property financings. To the extent our investments are in developments, the time period to invest the funds and achieve a stabilized return could be longer. Accordingly, our cash requirements during this period may reduce the amounts otherwise available for other investments.
During the
three
months ended
March 31, 2017
, we acquired a
175
-unit multifamily community located in Los Angeles, California for a net cash cost of
$105.1 million
. The acquisition was funded from a multifamily community sale in December 2016 (where all of the net proceeds had been placed in a tax like-kind exchange escrow for
$56.8 million
), a multifamily community sale in February 2017 with net proceeds after retirement of debt of
$19.9 million
, and the remainder from our credit facilities. Subsequent to
March 31, 2017
, we acquired a
265
-unit multifamily community in Arlington, Virginia for a net cash cost of approximately
$143.9 million
. The acquisition was funded from a multifamily community sale in March 2017 of
$126.0 million
, where the funds net of a related mortgage retirement, had been placed in a tax like-kind exchange escrow for
$70.9 million
and the remainder was funded from our credit facilities. Accordingly, as of April 30, 2017, including normal working capital activity, our total outstanding credit facility borrowings are
$303.0 million
and current available to draw is approximately
$116.4 million
. We may consider reducing our credit facility outstanding balances by placing long term mortgage financing on these or other multifamily communities, other property dispositions or by using other capital sources.
Both of these acquisitions were in lease up at acquisition, and as of April 30, 2017 are approximately 26% occupied, on a weighted average basis. While these multifamily communities did not produce significant cash flow for the three months ended March 31, 2017, we expect increasing contributions to operating cash flow as the communities lease up.
We may also increase the number and diversity of our investments by entering into new Co-Investment Ventures, as we have done with our existing partners in prior years. As of
March 31, 2017
, PGGM has unfunded commitments of approximately
$8.6 million
related to PGGM CO-JVs in which they have already invested of which our co-investment share is approximately
$14.7 million
. Substantially all of these committed amounts relate to existing development projects. In addition to capital already committed by PGGM through this arrangement, they may have certain rights of first refusal to commit up to an additional
$33.5 million
plus any amounts distributed to PGGM from sales or financings of PGGM CO-JVs entered into on or after December 20, 2013. If PGGM were to invest the additional
$33.5 million
, our co-investment share would be approximately
$41.7 million
assuming a 55% ownership by us and a
45%
ownership in the investment by PGGM. PGGM is an investment vehicle for Dutch pension funds. According to the website of PGGM’s sponsor, PGGM’s sponsor managed approximately
205
billion euro (approximately
$218 billion
, based on exchange rates as of
March 31, 2017
) in pension assets for over
2.8 million
people as of
March 2017
. Accordingly, we believe PGGM has adequate financial resources to meet its funding commitments and its PGGM CO-JV obligations.
The MW Co-Investment Partner does not have any commitment or rights of first refusal for any additional investments.
As of
March 31, 2017
, we have
20
Developer CO-JVs,
18
of these through PGGM CO-JVs. These Developer CO-JVs were established for the development of multifamily communities, where the Developer Partners are or were providing development services for a fee and a back-end interest in the development but are not expected to be a significant source of capital. Of these
20
Developer CO-JVs,
15
have stabilized operating communities,
three
have communities in lease up (including developments in lease up) and
two
have development communities. Other than the developments described in the development table below, we do not have any firm commitments to fund any other Co-Investment Ventures.
While we are the managing member of each of the separate Co-Investment Ventures, with respect to PGGM CO-JVs and MW CO-JVs, our management rights are subject to operating plans prepared by us and approved by our partners, who retain approval rights with respect to certain major decisions. In each of our PGGM CO-JVs and MW CO-JVs, we and, under certain circumstances, our partners have buy/sell rights which, if exercised by us, may require us to acquire the respective Co-Investment Partner’s ownership interest, or if exercised by our respective Co-Investment Partner, may require us to sell our ownership interest. Alternatively, in the event of a dispute, the governing documents may require (or the partners may agree to) a sale of the underlying property to a third party. For tax purposes relating to the status of PGGM and NPS as foreign investors, the underlying properties of PGGM CO-JVs and MW CO-JVs are held through subsidiary REITs, and the agreements generally require the investments to be sold by selling the interests in the subsidiary REITs rather than as property sales. Federal tax law was signed into law in December 2015 that may allow increased use of property sales in certain circumstances with certain qualified Co-Investment Venture partners.
For each equity investment, we evaluate the use of new or existing debt, including under our credit facilities. Accordingly, depending on how the investment is structured, we may utilize financing at our company level (primarily related to our wholly owned investments) or at the Co-Investment Venture level, where the specific property owning entities are the borrowers. For wholly owned acquisitions, we may acquire communities with all cash and then later or once a sufficient portfolio of unsecured communities is in place, obtain secured or unsecured financing. We may also use our credit facilities to fully or partially fund development costs, which we may later finance with construction or permanent financing. If debt is used, we generally expect it to be secured by the property (either individually or pooled), including rents and leases. As of
March 31, 2017
, all loans, other than borrowings under our credit facilities, consist of individually secured property debt.
Company level debt is defined as debt that is a direct obligation of the Company or its wholly owned subsidiaries. Co-Investment Venture level debt is defined as debt that is an obligation of the Co-Investment Venture and is not an obligation or contingency for us but does allow us to increase our access to capital. Lenders for these Co-Investment Venture mortgages and notes payable have no recourse to us other than industry-standard carve-out guarantees for certain matters such as environmental conditions, and standard “bad boy” carve-outs, including but not limited to, misuse of funds and material misrepresentations. As of
March 31, 2017
, there are
six
construction loans where we have provided partial guarantees for the repayment of debt. Total commitments under these construction loans is
$352.0 million
,
$331.7 million
of which is outstanding. The total amount of our guarantees, if fully drawn, is
$72.8 million
and our outstanding guarantees for these construction loans as of
March 31, 2017
is
$68.4 million
.
While interest rates began increasing in the fourth quarter of 2016, in relation to historical averages, favorable long-term, fixed rate financing terms are currently available for high quality, lower leverage multifamily communities. As of
March 31, 2017
, the weighted average interest rate on our Company level and Co-Investment Venture level communities fixed interest rate financings was
3.7%
and
3.3%
, respectively. As of
March 31, 2017
, the remaining maturity term on our Company
level and Co-Investment Venture level fixed interest rate financings was approximately
2.4 years
and
2.7 years
, respectively, prior to the exercise of any extension options.
As of
March 31, 2017
,
$602.3 million
or
41%
of our debt is floating rate, of which
$331.8 million
is construction financing. Interest rate caps can be an effective instrument to mitigate increases in short-term interest rates without incurring additional costs while interest rates are below the cap rate. As of
March 31, 2017
, we have interest rate caps with a notional amount of
$100 million
(
17%
of our total consolidated floating rate debt) at a LIBOR cap rate of
1.75%
. As of March 31, 2017, 30-day LIBOR was
0.98%
, which was an increase of 0.21% from December 31, 2016. Accordingly, given the potential risk of higher floating rates, we will evaluate increasing our fixed rate debt through refinancings with fixed rates or increase our use of interest rate hedges, including interest rate caps and/or swaps.
Based on current market conditions and our investment and borrowing policies, we would expect our approximate share of operating property debt financing to be in the range of approximately 40% to 55% of gross assets following the completion of our current development program and upon stabilization and permanent financing of our portfolio. As part of the PGGM CO-JV governing agreements, the PGGM CO-JVs may not have individual permanent financing leverage greater than 65% or aggregate permanent financing leverage greater than 50% of the Co-Investment Venture’s property fair values unless the respective Co-Investment Venture partner approves a greater leverage rate. Our other Co-Investment Ventures also restrict overall leverage, ranging between 55% and 70%. These limitations may be removed with the consent of the Co-Investment Venture partners. Further, the $200 Million Facility limits leverage to 55% of gross assets and requires us to maintain an EBITDA fixed charge coverage ratio of
1.50
x, each as defined in the applicable loan agreements. We believe these provisions will not restrict our access to debt financing, or our ability to execute our strategies.
We may also use individual development construction financing for our developments as an additional source of capital; however, we may use other sources described in this section. If financing is utilized, these financings may be structured as conventional construction loans or so-called construction to permanent loans. Conventional construction loans are usually floating rate with terms of three to four years, with extension options of one to two years. When using floating rate construction loans, we may employ interest rate hedges to manage our interest rate exposure. We expect to use lower leverage and accordingly, we expect these loan amounts to range between 40% and 60% of total costs. Construction to permanent loans are usually fixed rate and for a longer term of seven to ten years. Accordingly, these loans are best suited when we are looking to lock in long-term financing rates. Both types of development financing require granting the lender a full security interest in the community and may require that we provide partial recourse guarantees to the lender regarding the completion of the development within a specified time and cost and a repayment of all or a portion of the financing. When we use financing, we expect to obtain construction financing separately for each development, generally when we have entered into general contractor construction contracts and obtained necessary local permits. We may close additional loans as the development projects progress, which may include different structures, as well as potentially use other sources. See the development tables below for additional discussion of our existing development activity.
As of
March 31, 2017
, the total carrying amount of all of our debt and our approximate pro rata share is summarized as follows (dollar amounts in millions; LIBOR at
March 31, 2017
was
0.98%
):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Carrying
Amount
|
|
Weighted Average
Interest Rate
|
|
Maturity
Dates
|
|
Our Approximate
Share (a)
|
Company Level
|
|
|
|
|
|
|
|
|
|
|
Permanent mortgage - fixed interest rate
|
|
$
|
181.1
|
|
|
3.71%
|
|
2018 to 2021
|
|
$
|
181.1
|
|
$200 Million Facility (b)
|
|
42.0
|
|
|
Monthly LIBOR + 2.50%
|
|
2019
|
|
42.0
|
|
Total Company Level
|
|
223.1
|
|
|
|
|
|
|
223.1
|
|
|
|
|
|
|
|
|
|
|
Co-Investment Venture Level - Consolidated:
|
|
|
|
|
|
|
|
|
|
|
Permanent mortgages - fixed interest rates
|
|
635.2
|
|
|
3.23%
|
|
2017 to 2023
|
|
365.5
|
|
Permanent mortgage - variable interest rate (c)
|
|
35.5
|
|
|
Monthly LIBOR +
1.94%
|
|
2017
|
|
19.6
|
|
Construction loans - fixed interest rate (d):
|
|
|
|
|
|
|
|
|
Operating
|
|
52.3
|
|
|
4.00%
|
|
2018
|
|
26.1
|
|
Construction loans - variable interest rates (e):
|
|
|
|
|
|
|
|
|
Operating
|
|
312.0
|
|
|
Monthly LIBOR + 2.07%
|
|
2018
|
|
182.0
|
|
In construction
|
|
19.8
|
|
|
Monthly LIBOR + 2.15%
|
|
2019 to 2020
|
|
10.9
|
|
Unsecured Credit Facility:
|
|
|
|
|
|
|
|
|
Revolver (b)
|
|
93.0
|
|
|
Monthly LIBOR + 2.25%
|
|
2021
|
|
51.6
|
|
Term loan
|
|
100.0
|
|
|
Monthly LIBOR + 2.25%
|
|
2022
|
|
55.5
|
|
Total Co-Investment Venture Level - Consolidated
|
|
1,247.8
|
|
|
|
|
|
|
711.2
|
|
Total Company and Co-Investment Venture level
|
|
1,470.9
|
|
|
|
|
|
|
$
|
934.3
|
|
Less: deferred financing costs, net
|
|
(11.9
|
)
|
|
|
|
|
|
|
Total all levels
|
|
$
|
1,459.0
|
|
|
|
|
|
|
|
|
|
(a)
|
Our approximate share for Co-Investment Ventures and Property Entities is calculated based on our participation in distributable operating cash, as applicable. Our approximate share is used in calculating certain of our loan covenants, and accordingly, is used by management, lenders and analysts in measuring and managing our leverage. These amounts are the contractual amounts and exclude unamortized adjustments from business combinations. This effective ownership is indicative of, but may differ over time from, percentages for distributions, contributions or financing requirements. See below at “Non-GAAP Measurements — Our Approximate Share” for a reconciliation of total carrying amount to our approximate share.
|
|
|
(b)
|
Includes a one year extension option.
|
|
|
(c)
|
Includes an $11.3 million mortgage that matured in April 2017 and was refinanced subsequent to
March 31, 2017
.
|
|
|
(d)
|
Includes
one
loan with a total commitment of
$53.5 million
and a two year extension option. As of
March 31, 2017
, there is
$1.2 million
remaining to draw under the construction loan. We may elect not to fully draw down on the unfunded commitment.
|
|
|
(e)
|
Includes
seven
loans with total commitment of
$432.0 million
. As of
March 31, 2017
, the Company has partially guaranteed
six
of these loans with total commitments of
$352.0 million
, and as of
March 31, 2017
,
$68.4 million
is recourse to the Company. Our percentage guarantee on each of these loans ranges from 5% to 25%. These loans include one to two year extension options. As of
March 31, 2017
, there is
$100.3 million
remaining to draw under the construction loans. We may elect not to fully draw down any unfunded commitment.
|
The total commitment, the outstanding balance, and the remaining balance available to draw under our construction loans by type as of
March 31, 2017
, are provided in the table below (in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Construction Loan Classification of Underlying Multifamily Communities
|
|
Total Commitment
|
|
Total Carrying Amount
|
|
Remaining to Draw
|
|
Our Approximate Share of Remaining to Draw (a)
|
In Construction
|
|
$
|
104.4
|
|
|
$
|
19.8
|
|
|
$
|
84.6
|
|
|
$
|
54.9
|
|
Operating
|
|
381.1
|
|
|
364.3
|
|
|
16.8
|
|
|
10.1
|
|
Total
|
|
$
|
485.5
|
|
|
$
|
384.1
|
|
|
$
|
101.4
|
|
|
$
|
65.0
|
|
|
|
|
|
|
|
|
|
|
|
|
(a)
|
Our approximate share is used in calculating certain of our loan covenants, and accordingly, is used by management, lenders and analysts in measuring and managing our leverage. See below at “Non-GAAP Measurements — Our Approximate Share” for an explanation for determining this metric.
|
We may not draw all amounts available to draw, and we may use other sources to fund our developments and other investments.
Certain of these debts contain covenants requiring the maintenance of certain operating performance and debt leverage levels. As of
March 31, 2017
, we believe we and the respective borrowers were in compliance with these covenants.
As of
March 31, 2017
, contractual principal payments for our mortgages and notes payable and credit facilities for each of the five subsequent years and thereafter are as follows (in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year
|
|
Company Level
|
|
Consolidated Co-Investment Venture Level
|
|
Our Approximate Share (a)
|
April through December 2017 (b)
|
|
$
|
2.8
|
|
|
$
|
180.2
|
|
|
$
|
102.5
|
|
2018
|
|
63.9
|
|
|
368.6
|
|
|
274.8
|
|
2019
|
|
102.4
|
|
|
162.2
|
|
|
206.4
|
|
2020
|
|
1.2
|
|
|
172.9
|
|
|
96.4
|
|
2021
|
|
52.8
|
|
|
201.5
|
|
|
164.1
|
|
Thereafter
|
|
—
|
|
|
162.4
|
|
|
90.1
|
|
|
|
(a)
|
Our approximate share is used in calculating certain of our loan covenants, and accordingly, is used by management, lenders and analysts in measuring and managing our leverage. See below at “Non-GAAP Measurements — Our Approximate Share.”
|
|
|
(b)
|
Includes an $11.3 million mortgage that matured in April 2017 and was refinanced subsequent to
March 31, 2017
.
|
We would expect to refinance borrowings at or prior to their respective maturity dates and to refinance the conventional construction loans with longer term debt upon stabilization of the development, which may include our Unsecured Credit Facility. We may also exercise extension options. There is no assurance that at those times market terms would allow financings at comparable interest rates or leverage levels. In addition, we would anticipate that for some of these communities, lower leverage levels may be beneficial and may require additional equity or capital contributions from us or the Co-Investment Venture partners. We expect to use our available cash or other sources discussed in this section to fund any such additional capital contributions.
Government-sponsored entities (“GSEs”) have been an important financing source for multifamily communities. The U.S. government continues to discuss potential restructurings of the GSEs including partial or full privatizations which could affect the availability of such financing to multifamily community owners. Accordingly, we have and will continue to maintain other lending relationships. As of
March 31, 2017
, approximately
22%
(compared to 40% at December 31, 2016) of all permanent financings currently outstanding by us, the Co-Investment Ventures and Property Entities were originated by GSEs.
None of our construction financings or credit facilities are being provided by GSEs. Furthermore, other loan providers, primarily insurance companies and to a lesser extent banks and collateralized mortgage-backed securitizations lenders (“CMBs”), have been a significant source for multifamily community financing, and we expect this trend to continue, particularly for our type of multifamily communities and our leverage levels. Accordingly, if the GSEs are restructured, we believe there are or will be sufficient other lending sources to provide financing to the multifamily sector; however in such an event, the cost of financing could increase.
Additional sources of long-term liquidity may include increased leverage on our existing investments, either for individual communities or pools of communities. As of
March 31, 2017
, the leverage on our stabilized operating portfolio, as measured by GAAP property cost before accumulated depreciation and amortization, was approximately
44%
. Although it is not our current strategy, through refinancings, we may be able to generate additional liquidity by increasing this leverage within our targeted leverage range. In addition, as of
March 31, 2017
,
13
multifamily communities (
nine
of which are held through Co-Investment Ventures) with combined total GAAP property cost, before accumulated depreciation and amortization, of approximately
$741.6 million
were not encumbered by any secured debt. As of
March 31, 2017
, our unsecured debt was
$193.0 million
, with an excess of unencumbered GAAP property cost to unsecured debt of
$548.6 million
. For these and other multifamily communities held in a Co-Investment Venture, we will generally need partner approval to obtain or increase leverage.
We may use our credit facilities to provide bridge or long-term financing for our wholly owned communities. Where the credit facilities are used as bridge financing, we would use proceeds on a temporary basis until we could secure permanent financing. The proceeds of such permanent financing would then be available to repay borrowings under the credit facilities. However, the credit facilities may also be used on a longer term basis, similar to permanent financing. See “—Short-Term Liquidity” above for a discussion of availability of the credit facilities.
Property dispositions may be a source of capital which may be recycled into investments in multifamily development or operating communities with higher long-term growth potential or into other investments with more favorable earnings prospects. We may also use sales proceeds for other uses, including but not limited to the pay down of debt, common stock buy backs or distributions on our common stock, which may include capital gain distributions. We look at a variety of factors in evaluating dispositions including current and projected market conditions, the age of the community, our critical mass of operating communities in the market, where we would look to dispose of communities before major improvements are required, increasing risk of competition, changing submarket fundamentals, and compliance with applicable federal REIT tax requirements, including capital gain distributions. For all PGGM CO-JVs and MW CO-JVs, we need approval from the other partner to dispose of an investment. During 2016, we sold two multifamily communities (one held by a PGGM CO-JV) for total gross proceeds of $121.5 million. During the three months ended March 31, 2017, we sold three multifamily communities for total gross proceeds of
$242.5 million
, repaying
$110.1 million
in mortgage loans.
Other potential future sources of capital may include proceeds from arrangements with other joint venture partners and undistributed cash flow from operating activities. We may also obtain other debt financing, including additional credit facilities, or sell debt or equity securities of the Company.
Our development investment activity includes both equity and loan investments. Equity investments are structured on our own account or with Co-Investment Venture partners. Loan investments include mezzanine loans and bridge loans.
We classify our development investments as follows:
|
|
•
|
Lease up - A multifamily community is considered in lease up when the community has begun leasing. A certificate of occupancy may be obtained as units are completed in phases, and accordingly, lease up may occur prior to final completion of the multifamily community. A multifamily community is considered complete when substantially constructed and capable of generating all significant revenue sources, at which point the community is no longer classified as a development.
|
|
|
•
|
Under development and construction - A multifamily community is considered under development and construction once we have signed a general contractor agreement and vertical construction has begun and ends once lease up has started.
|
|
|
•
|
Pre-development - A multifamily community is considered in pre-development during finalization of budgets, permits and plans and ends once a general contractor agreement has been signed and vertical construction has commenced. As of
March 31, 2017
, we have no development investments classified as pre-development.
|
The following table, which may be subject to finalization of budgets, permits and plans, summarizes our equity development investments not completed as of
March 31, 2017
, all of which are investments in consolidated Co-Investment Ventures (dollar amounts in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Community
|
|
Location
|
|
Effective Ownership (a)
|
|
Units
|
|
Total Costs Incurred as of March 31, 2017
|
|
Estimated Quarter (“Q”) of Completion(b)
|
Under development and construction:
|
|
|
|
|
|
|
Caspian Delray Beach
|
|
Delray Beach, FL
|
|
55%
|
|
146
|
|
|
$
|
41.5
|
|
|
2Q 2017
|
Lucé
|
|
Huntington Beach, CA
|
|
65%
|
|
510
|
|
|
91.5
|
|
|
3Q 2018
|
Total development portfolio
|
|
656
|
|
|
$
|
133.0
|
|
|
|
|
|
(a)
|
Our effective ownership represents our participation in distributable operating cash and may change over time as certain milestones related to budgets, plans and completion are achieved. This effective ownership is indicative of, but may differ from, percentages for distributions, contributions or financing requirements. All development investments are subject to Developer CO-JV promoted interests.
|
|
|
(b)
|
The estimated quarter of completion is primarily based on contractual completion schedules adjusted for reasonably known conditions. The dates may be subject to further adjustment, both accelerations and delays, due to elective changes in the project or conditions beyond our control, such as weather, availability of materials and labor or other force majeure events. The table does not include communities that are classified as completed but may still have retainage and other development true-up costs that have not been paid as of
March 31, 2017
.
|
As of
March 31, 2017
, we have entered into construction and development contracts with
$82.1 million
remaining to be paid. These construction costs are expected to be paid during the completion of the development and construction period, generally 24 months. These construction contracts provide for guaranteed maximum pricing from the general contractor and/or completion and cost overrun guarantees from the Developer Partners for a portion but not all of the construction and development costs, which will serve to provide some protection to us from pricing increases or cost overruns. We also manage these costs by buying out or locking in the hard construction costs. As of
March 31, 2017
, for our remaining projects under vertical development, substantially all of the hard construction costs have been bought out, reducing potential future cost exposure.
In managing our development risk, our strategy is to partner with experienced developers and obtain guaranteed maximum construction contracts. The developers will generally receive a promoted interest after we receive certain minimum annual returns. We have or generally expect to have substantial control over property operations, financing and sale decisions, but the developers may have rights to sell or put their interests at a set price after a prescribed period, usually one year after substantial completion. Further, developments also typically require a period to permit, plan, construct and lease up before realizing cash flow from operations. We have and expect to continue to minimize these risks by selecting development projects that have already completed a portion of the early development stages; however, the time from investment to stabilized operations could be two to three years. During these periods, we may use available cash or other liquidity sources to fund our non-operating requirements, including a portion of distributions paid to our common stockholders. The use of these proceeds could reduce the amount otherwise available for new investments.
Developments also entail risks related to development schedules, costs and lease up. Local governmental entities have approval rights over new developments, where the permitting process and other approvals can result in delays and additional costs. Estimated construction costs are based on labor, material and other market conditions at the time budgets are prepared. Although we intend to use guaranteed maximum construction contracts, not all construction costs may be covered. In addition, actual costs may differ due to the available supply of labor and materials and as market conditions change. Rental rates at lease up are subject to local economic factors and demand, competition and absorption trends, which could be different than the assumptions used to underwrite the development. Accordingly, there can be no assurance that all development projects will be completed at all and/or completed in accordance with the projected schedule, cost estimates or revenue projections.
Developments classified as pre-development, where we have not entered into final construction contracts, are further subject to market conditions. Depending on such factors as material and labor costs, anticipated supply, projected rents and the state of the local economy, the cost and completion projections could be adjusted, including adjusting the plans and cost or deferring the development until market fundamentals are more favorable.
As of
March 31, 2017
, we have approximately
$115.8 million
of remaining development costs (which excludes estimated Developer Partner put options of
$28.8 million
) related to our current development program and communities recently transferred to operating real estate that still have remaining costs. We project that we will fund these costs as follows (in millions):
|
|
|
|
|
|
|
|
Anticipated Sources of Funding
|
Construction loan draws under binding loan commitments
|
|
$
|
88.5
|
|
Co-Investment Venture partner contributions
|
|
10.5
|
|
Other
|
|
16.8
|
|
Total
|
|
$
|
115.8
|
|
|
|
|
All of the Co-Investment Venture partner contributions are under binding commitments from our Co-Investment Venture partners. All of the projected construction loan draws are available under binding loan commitments as of
March 31, 2017
and we expect the other balance to be funded by credit facilities or other capital sources.
Subsequent to
March 31, 2017
, we received notice of a Developer Partner exercising its developer put of $2.8 million. We anticipate funding the payment from our Unsecured Credit Facility, Co-Investment Partner contributions and/or available cash.
Each of our existing developments in our development program have committed construction financing, based on current market information. While we are currently not in need of additional construction financing, we believe construction financing is available for potential future developments. Although we have observed some tightening in construction loan availability, we believe current construction financing at competitive market terms is still generally available at 40-60% of cost and at floating rates in the range of 200 basis points to 325 basis points over 30-day LIBOR. (As of
March 31, 2017
, 30-day LIBOR was
0.98%
.) There is no assurance that any of these terms would still be available at the time of any future financing. We expect to utilize the liquidity sources noted above to fund the non-financed portions of the developments. However, with our liquidity position, we may elect to wait until the communities are stabilized to obtain financing, particularly for smaller developments or choose not to finance at all. See above for additional information regarding our development financings.
We make debt investments in multifamily developments generally for the interest earnings; however, our two debt investments provide us with certain rights to acquire the underlying multifamily communities after completion. As of
March 31, 2017
, we have
two
wholly owned debt investments both of which are fully funded. The debt investments are secured by equity pledges in the borrower which is generally subordinate to a first lien construction loan. We believe each of the borrowers is in compliance with our debt agreements. These debt investments, which generally carry interest rates at
15%
, are most in demand during the time in the economic cycle when developers have limited options for securing development capital. As development capital has generally returned to the multifamily sector, there may be fewer investment opportunities at the returns that we require. Accordingly, we expect our current outstanding mezzanine loans to be paid off near maturity or during the contractual extension periods, and we may have a smaller amount replaced by new mezzanine loans. We may also, on a shorter term basis, provide temporary bridge financing for Co-Investment Ventures, where there is satisfactory collateral for us and where we contemplate the eventual take out of such bridge financing with permanent financing.
The following table summarizes our debt investments, all of which are wholly owned, in multifamily developments as of
March 31, 2017
(dollar amounts in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Community
|
|
Location
|
|
Units
|
|
Total Commitment
|
|
Amounts Advanced as of March 31, 2017
|
|
Fixed Interest Rate
|
|
Maturity Date (a)
|
Mezzanine loans:
|
|
|
|
|
|
|
|
|
|
|
|
|
Jefferson at Stonebriar
(b)
|
|
Frisco, TX
|
|
424
|
|
$
|
16.7
|
|
|
$
|
16.7
|
|
|
15.0
|
%
|
|
June 2018
|
Jefferson at Riverside
(b)
|
|
Irving, TX
|
|
371
|
|
10.4
|
|
|
10.4
|
|
|
15.0
|
%
|
|
June 2018
|
Total loans
|
|
|
|
795
|
|
$
|
27.1
|
|
|
$
|
27.1
|
|
|
15.0
|
%
|
|
|
|
|
(a)
|
The maturity date may be extended for one year at the option of the borrower after meeting certain conditions, generally with the payment of an extension fee of 0.50% of the applicable loan balance.
|
|
|
(b)
|
We have the right to acquire the multifamily communities from the borrower subject to the first lien construction loan in the event the borrower decides to sell the property. Absent a default, the borrower has sole discretion related to the disposition of the multifamily community.
|
Due to their recent construction, non-recurring property capital expenditures for our multifamily communities are generally not expected to be significant in the near term. The average age of our operating communities since substantial completion or redevelopment is approximately
five
years. We would expect operating capital expenditures to be funded from the Co-Investment Ventures or our cash flow from operating activities. For the
three
months ended
March 31, 2017
and 2016, we spent approximately
$2.6 million
and
$2.0 million
, respectively, in recurring and non-recurring capital expenditures. These may include value add improvements that allow us to increase rents per unit.
Distribution Policy
Distributions are authorized at the discretion of our board of directors based on an analysis of our prior performance, market distribution rates of our industry peer group, expectations of performance for future periods, including actual and anticipated operating cash flow, changes in market capitalization rates for investments suitable for our portfolio, capital expenditure needs, dispositions, general financial condition and other factors that our board of directors deems relevant. The board’s decision will be influenced, in part, by its obligation to ensure that we maintain our status as a REIT.
As development, lease up or redevelopment communities are completed and begin to generate distributable income, we may have additional funds available to distribute to our common stockholders. However, there may be a lag before receiving distributable income from our investments while they are under development or lease up. During this period, we may use portions of our available cash balances, credit facilities and other sources to fund a portion of the distributions paid to our common stockholders, which could reduce the amount available for new investments. We may also refinance or dispose of our investments and use the proceeds to fund distributions on our common stock (including capital gain distributions) or return capital to our shareholders, which may affect the timing or availability of future operating cash flow or we may reinvest the proceeds in new investments to generate additional operating cash flow. There is no assurance that these future investments will achieve our necessary targeted returns or that these sources will be available in future periods to maintain our current level of distributions.
Many of the factors that can affect the availability and timing of cash distributions to stockholders are beyond our control, and a change in any one factor could adversely affect our ability to pay future distributions. There can be no assurance that future cash flow will support paying our currently established distributions or maintaining distributions at any particular level or at all. The $200 Million Facility contains limitations that may restrict our ability to pay distributions in excess of
95%
of our funds from operations generally calculated in accordance with the current definition of funds from operations adopted by NAREIT over certain defined historical periods, generally a trailing 12-month period. (See “Non-GAAP Measurements — Funds from Operations” below for additional information regarding our calculation of funds from operations and a reconciliation to GAAP net income.)
Distribution Activity
The following table shows the regular distributions declared for the
three
months ended
March 31, 2017
and
2016
(in millions, except per share amounts):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended
March 31,
|
|
|
2017
|
|
2016
|
|
|
Total
Distributions
Declared (a)
|
|
Declared
Distributions
Per Share (a)
|
|
Total Distributions Declared (a)
|
|
Declared Distributions Per Share (a)
|
First Quarter
|
|
$
|
12.5
|
|
|
$
|
0.075
|
|
|
$
|
12.5
|
|
|
$
|
0.075
|
|
Total
|
|
$
|
12.5
|
|
|
$
|
0.075
|
|
|
$
|
12.5
|
|
|
$
|
0.075
|
|
|
|
|
|
|
|
|
|
|
(a) Represents distributions accruing during the period. The board of directors authorizes regular distributions to be paid to stockholders of record with respect to single record dates and payment dates for each quarter.
Our board of directors authorized a quarterly distribution in the amount of
$0.075
per share on all outstanding shares of common stock of the Company for the
second
quarter of
2017
. The quarterly distribution will be paid on
July 7, 2017
to stockholders of record at the close of business on
June 30, 2017
.
Cash flow from operating activities
exceeded
regular distributions by
$1.4 million
and
$5.4 million
for the
three
months ended
March 31, 2017
and
2016
, respectively. By reporting our investments on the consolidated method of accounting, our cash flow from operating activities includes not only our approximate share of cash flow from operating activities but also the share related to noncontrolling interests. Accordingly, our reported cash flow from operating activities includes cash flow attributable to our consolidated joint venture investments. During the
three
months ended
March 31, 2017
, we distributed an estimated
$6.3 million
of cash flow from operating activities to these noncontrolling interests, effectively reducing the share of cash flow from operating activities available to us to approximately
$7.6 million
, which was
less than
our regular distributions by
$4.9 million
. For the
three
months ended
March 31, 2016
, we distributed an estimated
$6.1 million
of cash flow from operating activities to noncontrolling interests, effectively reducing the share of cash flow from operating activities to approximately
$11.8 million
, which was
less than
our regular distributions by
$0.7 million
. Funds from operations
were less than
regular distributions by
$1.6 million
for the
three
months ended
March 31, 2017
. Our regular distributions exceeded funds from operations by
$0.1 million
for the
three
months ended
March 31, 2016
. (See “Non-GAAP Measurements — Funds from Operations” below for additional information regarding our calculation of funds from operations and a reconciliation to GAAP net income.)
Operating results for 2017 were impacted by the items noted in the “Operational Overview” section discussed above. These factors include the sales of operating communities in 2017 and 2016 and the reinvestment in lease up multifamily communities. Operating results were also affected by developments recently reaching the time period when certain previously capitalized costs related to interest and property tax expenses are now expensed and leasing activity has not reached stabilized operations resulting in increased interest and property tax expenses in 2017 as compared to previous years. Over the long-term, as our development and lease up investments are completed and leased up, we expect that more of our regular distributions will be paid from our approximate share of cash flow from operating activities. However, operating performance cannot be accurately predicted due to numerous factors, including our ability to invest capital at favorable accretive yields, the financial performance of our investments, including our developments once operating, spreads between investment capitalization rates and financing rates, and the types and mix of assets available for investment.
Off-Balance Sheet Arrangements
We generally do not use or seek out off-balance sheet arrangements.
We currently have no off-balance sheet arrangements that are reasonably likely to have a current or future material effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.
Contractual Obligations
Substantially all of our Co-Investment Ventures include buy/sell provisions, generally currently available for PGGM and the MW Co-Investment Partner and for Developer Partners, generally available after the tenth year after completion of the development. Substantially all of our Developer CO-JVs include mark to market provisions, which if elected, are generally available after the seventh year after formation of the Developer CO-JV. Under most of these provisions and during specific periods, a partner could make an offer to purchase the interest of the other partner and the other partner would have the option to accept the offer or purchase the offering partner’s interest at that price or in the case of a mark to market provision, we can purchase the Developer Partner’s interest at the established market price or sell the multifamily community. As of
March 31, 2017
, no buy/sell arrangements have been triggered or mark to market provisions are available; however, we may need additional liquidity sources in order to meet our obligations under any future buy/sell arrangements.
Most of our Developer CO-JVs include put provisions for the Developer Partner. The put provisions generally become exercisable one year after substantial completion of the project for a specified purchase price, which at
March 31, 2017
have a contractual total of approximately
$28.8 million
for all such Developer CO-JVs. As of
March 31, 2017
,
$8.6 million
of puts are eligible for exercise by certain of our Developer Partners but have not been exercised. The put provisions are recorded as redeemable noncontrolling interests in our consolidated balance sheets at the time they become contractual, and as of
March 31, 2017
, we have recorded approximately
$28.8 million
as redeemable noncontrolling interests. Generally a sale of the property or the election of a mark to market terminates the Developer Partner’s put provision. Subsequent to March 31, 2017, one of our Developer Partners has exercised their put option for $2.8 million, which we expect to pay in the second quarter of 2017.
The multifamily communities in which we have investments may have commitments to provide affordable housing. Under these arrangements, we generally receive from the resident a below-market rent, which is determined by a local or national authority. In certain markets, a local or national housing authority may make payments covering some or substantially all of the difference between the restricted rent paid by residents and market rents. In connection with our acquisition of The Gallery at NoHo Commons, we assumed an obligation to provide affordable housing through 2048. As partial reimbursement for this obligation, the California housing authority will make level annual payments of approximately $2.0 million through 2028 and no reimbursement for the remaining 20-year period. We may also be required to reimburse the California housing authority if certain operating results are achieved on a cumulative basis during the term of the agreement. At the time of the acquisition, we recorded a liability of $14.0 million based on the fair value of the terms over the life of the agreement. In addition, we will record rental revenue from the California housing authority on a straight-line basis, deferring a portion of the collections as deferred lease revenues. As of
March 31, 2017
and
December 31, 2016
, we have approximately
$19.1 million
and
$19.5 million
, respectively, of carrying value for deferred lease revenues related to The Gallery at NoHo Commons.
As previously discussed under “Liquidity and Capital Resources — Long-Term Liquidity, Acquisition and Property Financing,” we have entered into construction and development contracts with
$82.1 million
remaining to be paid as of
March 31, 2017
. We expect to enter into additional construction and development contracts related to our current and future development investments.
Non-GAAP Measurements
In addition to amounts presented in accordance with GAAP, we also present certain supplemental non-GAAP measurements. These measurements are not to be considered more relevant or accurate than the measurements presented in accordance with GAAP. In compliance with SEC requirements, our non-GAAP measurements are reconciled to net income, the most directly comparable GAAP performance measure. For all non-GAAP measurements, neither the SEC nor any other regulatory body has passed judgment on these non-GAAP measurements.
Funds from Operations
Funds from operations (“FFO”) is a non-GAAP performance financial measure that is widely recognized as a measure of REIT operating performance. We use FFO as currently defined by NAREIT to be net income (loss), computed in accordance with GAAP excluding gains (or losses) from sales of property (including deemed sales and settlements of pre-existing relationships), plus depreciation and amortization on real estate assets, impairment write-downs of depreciable real estate or of investments in unconsolidated real estate partnerships, joint ventures and subsidiaries that are driven by measurable decreases in the fair value of depreciable real estate assets, and after related adjustments for unconsolidated partnerships, joint ventures and subsidiaries and noncontrolling interests. We believe that FFO is helpful to our investors and our management as a measure of operating performance because it excludes real estate-related depreciation and amortization, impairments of depreciable real estate, gains and losses from property dispositions, and extraordinary items, and as a result, when compared year to year, highlights the impact on operations from trends in occupancy rates, rental rates, operating costs, development activities (including capitalized interest and other costs during the development period), general and administrative expenses, and interest costs, which may not be immediately apparent from net income. Historical cost accounting for real estate assets in accordance with GAAP assumes that the value of real estate and intangibles diminishes predictably over time independent of market conditions or the physical condition of the asset. Since real estate values have historically risen or fallen with market conditions (which includes property level factors such as rental rates, occupancy, capital improvements, status of developments and competition, as well as macro-economic factors such as economic growth, interest rates, demand and supply for real estate and inflation), many industry investors and analysts have considered the presentation of operating results for real estate companies that use historical cost accounting alone to be insufficient. FFO is also a useful measurement because it is included as a basis for certain covenants in our $200 Million Facility. As a result, our management believes that the use of FFO, together with the required GAAP presentations, is helpful for our investors in understanding our performance. Factors that impact FFO include property operations, start-up costs, fixed costs, acquisition expenses, interest on cash held in accounts or loan investments, income from portfolio properties, operating costs during the lease up of developments, interest rates on
acquisition financing and general and administrative expenses. In addition, FFO will be affected by the types of investments in our and our Co-Investment Ventures’ portfolios, which may include, but are not limited to, equity and mezzanine and bridge loan investments in existing operating properties and properties in various stages of development and the accounting treatment of the investments in accordance with our accounting policies.
FFO should not be considered as an alternative to net income (loss), nor as an indication of our liquidity, nor is it indicative of funds available to fund our cash needs, including our ability to fund distributions. FFO is also not a useful measure in evaluating net asset value because impairments are taken into account in determining net asset value but not in determining FFO. Although the Company has not historically incurred any significant impairment charges, investors are cautioned that we may not recover any impairment charges in the future. Accordingly, FFO should be reviewed in connection with other GAAP measurements. We believe our presentation of FFO is in accordance with the NAREIT definition; however, our FFO may not be comparable to amounts calculated by other REITs.
The following table presents our calculation of FFO, net of noncontrolling interests, and provides additional information related to our operations for the
three
months ended
March 31, 2017
and
2016
(in millions, except per share amounts):
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended
March 31,
|
|
|
2017
|
|
2016
|
Net income (loss) attributable to common stockholders
|
|
$
|
76.0
|
|
|
$
|
(8.3
|
)
|
Real estate depreciation and amortization (a)
|
|
31.7
|
|
|
29.9
|
|
Gains on sales of real estate
|
|
(86.7
|
)
|
|
—
|
|
Less: noncontrolling interest adjustments
|
|
(10.1
|
)
|
|
(9.2
|
)
|
FFO attributable to common stockholders - NAREIT defined
|
|
$
|
10.9
|
|
|
$
|
12.4
|
|
|
|
|
|
|
GAAP weighted average common shares outstanding - basic
|
|
167.0
|
|
|
166.7
|
|
GAAP weighted average common shares outstanding - diluted
|
|
167.8
|
|
|
167.3
|
|
|
|
|
|
|
Net income (loss) per common share - basic and diluted
|
|
$
|
0.45
|
|
|
$
|
(0.05
|
)
|
FFO per common share - basic and diluted
|
|
$
|
0.06
|
|
|
$
|
0.07
|
|
(a) The real estate depreciation and amortization amount represents consolidated real estate-related depreciation and amortization of intangibles.
The following additional information is presented in evaluating the presentation of net income (loss) attributable to common stockholders in accordance with GAAP and our calculations of FFO:
|
|
•
|
For the
three
months ended
March 31, 2017
and
2016
, we capitalized interest of
$1.0 million
and
$2.4 million
, respectively, on our real estate developments. These amounts are included as an addition in presenting net income (loss) and FFO attributable to common stockholders.
|
|
|
•
|
For the
three
months ended
March 31, 2017
and
2016
, we incurred
$3.9 million
of GAAP expenses related to our early extinguishment of debt. Of this amount, approximately $3.6 million was paid in cash.
|
|
|
•
|
For the
three
months ended
March 31, 2017
, we incurred
$0.9 million
of general and administrative expense, excluding stock compensation expense of
$0.3 million
, related to our elimination of the general counsel position.
|
|
|
•
|
For the
three
months ended
March 31, 2017
and
2016
, we incurred stock compensation expense of
$1.1 million
and
$0.6 million
, respectively.
|
As noted above, we believe FFO is helpful to investors as a measure of operating performance. FFO is not indicative of our cash available to fund distributions since other uses of cash, such as capital expenditures and principal payment of debt related to investments in unconsolidated real estate joint ventures, are not deducted when calculating FFO.
Our Approximate Share
In addition to our consolidated GAAP balances, we present selected non-GAAP information representing our approximate share of the financial amount, which considers our economic allocation of the GAAP reported balance. We believe presenting our approximate share may be useful in analyzing our consolidated financial information by highlighting amounts that are economically attributable to our shareholders. Our approximate share is also relevant to our investors and lenders as it highlights operations and capital available for our lenders and investors and is the basis used for several of our loan covenants. However, our approximate share does not include amounts related to our consolidated operations and should not be considered a replacement for corresponding GAAP amounts presented on a consolidated basis. Investors are cautioned that our approximate share amounts should only be used to assess financial information in the limited context of evaluating amounts attributable to shareholders. Our approximate share measurements are included above under “Liquidity and Capital Resources” along with the corresponding GAAP balance.
The following table reconciles total debt per the consolidated balance sheet to our approximate share of Company and Co-Investment Venture level debt (in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2017
|
Total Debt per Consolidated Balance Sheet
|
|
$
|
1,459.0
|
|
Plus: Deferred financing costs, net
|
|
11.9
|
|
Less: Noncontrolling Interests Adjustments
|
|
(536.6
|
)
|
Our approximate share of Company and Co-Investment Venture level debt
|
|
$
|
934.3
|
|
Forward-Looking Statements
This Quarterly Report on Form 10-Q contains “forward-looking statements” as that term is defined under the Private Securities Litigation Reform Act of 1995. You can identify forward-looking statements by our use of the words “believe,” “expect,” “anticipate,” “intend,” “estimate,” “assume,” “project,” “plan,” “may,” “seek,” “shall,” “will” and other similar expressions in this Form 10-Q, that predict or indicate future events and trends and that do not report historical matters. These statements include, among other things, statements regarding our intent, belief or expectations with respect to:
|
|
•
|
our potential development, redevelopment, acquisition or disposition of communities;
|
|
|
•
|
the timing and cost of completion of multifamily communities under construction, reconstruction, development or redevelopment;
|
|
|
•
|
the timing of lease up, occupancy and stabilization of multifamily communities;
|
|
|
•
|
the anticipated operating performance of our communities;
|
|
|
•
|
cost, yield, revenue, and earnings estimates;
|
|
|
•
|
the sale of multifamily communities and the use of proceeds;
|
|
|
•
|
our declaration or payment of distributions;
|
|
|
•
|
our joint venture activities;
|
|
|
•
|
our policies regarding investments, indebtedness, acquisitions, dispositions, financings and other matters;
|
|
|
•
|
our qualification as a REIT under the Internal Revenue Code;
|
|
|
•
|
the real estate markets in the markets in which our properties are located and in the U.S. in general;
|
|
|
•
|
the availability of debt and equity financing;
|
|
|
•
|
general economic conditions including the potential impacts from the economic conditions;
|
|
|
•
|
trends affecting our financial condition or results of operations; and
|
|
|
•
|
changes to U.S. tax laws and regulations in general or specifically related to REITs or real estate.
|
We cannot assure the future results or outcome of the matters described in these statements; rather, these statements merely reflect our current expectations of the approximate outcomes of the matters discussed. We do not undertake a duty to update these forward-looking statements, and therefore they may not represent our estimates and assumptions after the date of this report. You should not rely on forward-looking statements because they involve known and unknown risks, uncertainties and other factors, some of which are beyond our control. These risks, uncertainties and other factors may cause our actual results, performance or achievements to differ materially from the anticipated future results, performance or achievements expressed or implied by these forward-looking statements. You should carefully review the discussion under Part I, Item 1A,
“Risk Factors” of our Annual Report on Form 10-K, filed with the SEC on
February 28, 2017
, and the factors as described above and below for further discussion of risks associated with forward-looking statements.
Some of the factors that could cause our actual results, performance or achievements to differ materially from those expressed or implied by these forward-looking statements include, but are not limited to, the following:
|
|
•
|
we may abandon or defer development opportunities for a number of reasons, including changes in local market conditions which make development less desirable, increases in costs of development, increases in the cost of capital or lack of capital availability, resulting in losses;
|
|
|
•
|
construction costs of a community may exceed our original estimates;
|
|
|
•
|
we may not complete construction and lease up of communities under development or redevelopment on schedule, resulting in increased interest costs and construction costs and a decrease in our expected rental revenues;
|
|
|
•
|
we may dispose of multifamily communities due to factors including changes in local market conditions, better future net earnings opportunities or capital reallocation, where the redeployment of the capital may negatively impact our financial results and cash flows;
|
|
|
•
|
newly acquired communities may not stabilize according to our estimated schedule, which may negatively impact our financial results and cash flows;
|
|
|
•
|
occupancy rates and market rents may be adversely affected by competition and local economic and market conditions which are beyond our control;
|
|
|
•
|
financing may not be available on favorable terms or at all, and our cash flows from operations and access to cost effective capital may be insufficient for the growth of our development program which could limit our pursuit of opportunities;
|
|
|
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our cash flows may be insufficient to meet required payments of principal and interest, and we may be unable to refinance existing indebtedness or the terms of such refinancing may not be as favorable as the terms of existing indebtedness;
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our cash flows may be insufficient to maintain or increase our dividend payments; and
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we may be unsuccessful in managing changes in our portfolio composition.
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Critical Accounting Policies and Estimates
The preparation of financial statements in conformity with GAAP requires management to use judgment in the application of accounting policies, including making estimates and assumptions. If our judgment or interpretation of the facts and circumstances relating to various transactions had been different, or different assumptions were made, it is possible that different accounting policies would have been applied, resulting in different financial results or a different presentation of our financial statements. Our critical accounting policies consist primarily of the following: (a) principles of consolidation, (b) cost capitalization, (c) asset impairment evaluation, (d) classification and income recognition of noncontrolling interests, and (e) determination of fair value. Our critical accounting policies and estimates have not changed materially from the discussion of our significant accounting policies found in Management’s Discussion and Analysis and Results of Operations in our Annual Report on Form 10-K, filed with the SEC on
February 28, 2017
.
New Accounting Pronouncements
In May 2014, the FASB issued updated guidance with respect to revenue recognition. The revised guidance outlines a single comprehensive model for entities to use in accounting for revenue arising from contracts with customers and supersedes current revenue recognition guidance, including industry-specific revenue guidance. The revised guidance will replace most existing revenue and real estate sale recognition guidance in GAAP when it becomes effective. The standard specifically excludes lease contracts, which is our primary recurring revenue source; however, our accounting for the sale of real estate will be required to follow the revised guidance. The revised guidance allows for the use of either the full or modified retrospective transition method. Expanded quantitative and qualitative disclosures regarding revenue recognition will be required for contracts that are subject to this guidance. This guidance is effective for fiscal years and interim periods within those years beginning after December 15, 2017. Early adoption is permitted for annual periods beginning after December 15, 2016. We have not yet selected a transition method and are currently evaluating each of our revenue streams for the effect that the adoption of the revised guidance will have on our consolidated financial statements and related disclosures. We do not expect the new guidance to have a significant effect on the recognition of our real estate sales; however, such final determination can only be made based on the specific terms of such sale. We plan to adopt the guidance effective January 1, 2018.
In February 2016, the FASB issued a new standard which sets out the principles for the recognition, measurement, presentation and disclosure of leases for lessees and lessors. The new standard requires lessees to apply a dual approach, classifying leases as either finance or operating based on the principle of whether or not the lease is effectively a financed purchase of the leased asset by the lessee. This classification will determine whether the lease expense is recognized based on an effective interest method or on a straight-line basis over the term of the lease. A lessee is also required to record a right-of-use asset and a lease liability for all leases with a term of greater than 12 months regardless of their classification. Leases with a term of 12 months or less, which are our primary lease term, will be accounted for similar to existing guidance for operating leases today. The new standard requires lessors to account for leases using an approach that is substantially equivalent to existing guidance for sales-type leases, direct financing leases and operating leases. This guidance is effective for fiscal years and interim periods within those years beginning after December 31, 2018, and early adoption is permitted. This standard must be applied as of the beginning of the earliest comparative period presented in the year of adoption. We are currently evaluating our leases to determine the impact this standard may have on our consolidated financial statements and related disclosures. As a lessee, we have a limited number of agreements, mostly related to our office space and office equipment. As a lessor, our primary multifamily community leases are less than one year, and we expect that only our long-term leases, primarily retails leases, will be affected.
In August 2016, the FASB issued guidance which addresses the diversity in practice in how certain cash receipts and cash payments are presented and classified in the statement of cash flows. This update addresses eight specific cash flow issues with the objective of reducing the existing diversity in practice. In November 2016, the FASB issued additional guidance requiring that a statement of cash flows explains the change during the period in the total of cash, cash equivalents, and amounts generally described as restricted cash or restricted cash equivalents. As a result, amounts generally described as restricted cash and restricted cash equivalents should be included with cash and cash equivalents when reconciling the beginning of period and end of period total amounts shown on the statement of cash flows. The guidance is effective for annual periods beginning after December 15, 2017. Early adoption is permitted, including adoption in an interim period using a retrospective transition method to each period presented. We are currently evaluating the full impact of the new standard.
For other new accounting standards issued by FASB or other standards setting bodies, we believe the impact of other recently issued standards that are not yet effective will not have a material impact on our consolidated financial statements upon adoption.
Inflation
The real estate market has not been affected significantly by inflation in the past several years due to a relatively low inflation rate. The majority of our lease terms are less than 12 months and reset to market if renewed. The majority of our leases also contain protection provisions applicable to reimbursement billings for utilities. Should inflation return, due to the short-term nature of our leases, multifamily investments are considered good inflation hedges.
Inflation may affect the costs of developments we invest in, primarily related to construction commodity prices, particularly lumber, steel and concrete. Commodity pricing has a history of volatility and inflation could be more of a larger or smaller factor in the future, particularly for projects with a longer development period. We intend to mitigate these inflation consequences through guaranteed maximum construction contracts, developer cost overrun guarantees and pre-buying materials when reasonable to do so. Increases in construction prices could lower our return on the developments and reduce amounts available for other investments.
Inflation may also affect the overall cost of debt, as the implied cost of capital increases. Although interest rates have risen in the last six months, interest rates are still below their historical averages. However, if the Federal Reserve tightens credit in response to or in anticipation of inflation concerns, interest rates could rise. We intend to mitigate these risks through long-term fixed interest rate loans and interest rate hedges, which to date have included interest rate caps.
REIT Tax Election
We have elected to be taxed as a REIT under Sections 856 through 860 of the Code and have qualified as a REIT since the year ended December 31, 2007. To qualify as a REIT, we must meet a number of organizational and operational requirements, including a requirement that we distribute at least 90% of our REIT taxable income to our stockholders. As a REIT, we generally will not be subject to federal income tax at the corporate level. We are organized and operate in such a manner as to qualify for taxation as a REIT under the Code, and we intend to continue to operate in such a manner, but no assurance can be given that we will operate in a manner so as to remain qualified as a REIT.