American Realty Investors, Inc. — Q3 2022 Form 10-Q
Reporting period: Three and nine months ended September 30, 2022. Unaudited results are consolidated and include the company’s 78.4%-owned subsidiary, Transcontinental Realty Investors (TCI). The company invests in multifamily and commercial real estate and land, primarily in the Southern United States; substantially all operations are conducted through TCI. Unless otherwise noted, amounts below are in millions of dollars.
Financial results and position
- Revenue: Q3 revenue was $8.3 million, down 21% from $10.5 million a year earlier; nine-month revenue was $24.2 million, down 27% from $33.4 million. Rental revenue was $7.6 million in Q3 and $22.3 million year to date.
- Operating results: Q3 net operating loss was $3.2 million versus $5.2 million; the nine-month loss was $10.7 million versus $16.9 million. Segment profit declined to $2.9 million in Q3 from $4.0 million, and to $9.8 million year to date from $13.7 million.
- Net income and EPS: Net income attributable to the company was $302.3 million in Q3 ($18.72 per share) and $329.9 million for nine months ($20.43 per share), compared with $19.4 million ($1.20) and $10.2 million ($0.63), respectively, in 2021. These results were dominated by the VAA joint-venture portfolio sale and should not be viewed as a measure of recurring property earnings.
- Key unusual earnings items: Equity income from unconsolidated joint ventures was $464.1 million in Q3 and $471.4 million year to date, versus $3.5 million and $11.5 million in 2021, mainly reflecting the VAA sale. The company recorded an $81.5 million income tax provision in Q3 and $81.6 million year to date. Foreign-currency gains were $19.4 million year to date. Gain on asset sales/write-downs was $16.6 million year to date, versus $24.3 million.
- Supplemental FFO: FFO adjusted for debt-extinguishment and foreign-currency items was $14.9 million in Q3 and $24.7 million for nine months, compared with $1.2 million and $17.8 million in 2021. The filing cautions that FFO is not GAAP cash flow or a substitute for net income.
- Cash flow: Nine-month operating cash flow was negative $6.9 million, compared with negative $7.7 million. Investing provided $154.9 million, including joint-venture distributions; financing used $71.5 million, primarily for debt payments. Cash, cash equivalents and restricted cash totaled $149.2 million at September 30, up from $72.7 million at year-end. Short-term investments were another $75.3 million.
- Debt and liquidity: Mortgages and other notes payable were $158.5 million and bonds payable were $127.5 million, for total reported debt of $286.0 million, down from $372.8 million at year-end. Total liabilities were $394.4 million; total equity was $755.8 million. Management said cash and expected collections should meet cash requirements, but also disclosed that operating cash may not cover all obligations and that asset sales, refinancing and additional borrowing may be needed.
Material changes and developments
- On September 16, VAA completed the sale of 45 properties for $1.811 billion, recognizing a $738.7 million gain at the joint venture. The company reported an initial $182.8 million distribution, which included repayment of its $113.0 million mezzanine loan, accrued interest and contributed capital, offset in part by the remaining Earn Out Obligation.
- On November 1, after quarter-end, the company received a further $203.9 million cash distribution and full operational control of VAA’s seven-property Holdback Portfolio. It was in the process of assuming the portfolio’s mortgage debt.
- Revenue and segment profit fell largely because of property dispositions, including Toulon, Sugar Mill Phase III and properties previously sold. The company also sold Fruitland Park and land parcels during 2022.
- Assets rose to $1.150 billion from $770.6 million at year-end, primarily reflecting the increased investment in unconsolidated joint ventures and liquidity from the VAA transaction. Real estate on the balance sheet declined to $270.2 million from $296.4 million.
Outlook, risks and contingencies
- Management plans to use VAA proceeds for further income-producing real estate investment, debt reduction and general corporate purposes. It also expects to fund liquidity needs through property operations, note collections, property sales, refinancing and additional secured borrowing; no quantified earnings guidance was provided.
- Debt refinancing remains important. Bonds mature in January and July 2023, and certain property loans also have near-term maturities. The company reported a minimum debt-service-coverage covenant breach on 770 South Post Oak; surplus property cash must be held in a lender-controlled account until compliance is achieved for two consecutive quarters. It was also working to modify, extend or refinance certain land loans.
- Commercial property occupancy had declined. Management considered the decline potentially temporary, but said the effects of COVID-19 and related economic uncertainty remained difficult to predict. Other cited risks include leasing demand, interest rates, financing availability, development costs and delays, property-sale timing, and uninsured or environmental losses.
- Related-party exposure is significant: the company is externally managed by Pillar, and reported substantial related-party receivables, notes and interest income. The filing cautions that related-party transactions may not be on arm’s-length terms.
- The Clapper litigation had resulted in a take-nothing judgment, with an appeal pending. The Berger matter was stipulated for dismissal with prejudice, but the filing describes a court process for shareholder notice and possible final dismissal. The filing does not provide a clear update confirming the final disposition.
Important facts for investors to verify
- How much of the VAA proceeds is available to the company after bond-covenant restrictions, debt assumptions and any remaining obligations.
- The final terms and timing for assuming the Holdback Portfolio mortgages, and the portfolio’s operating performance after control transferred.
- Near-term bond and property-loan refinancing outcomes, including covenant compliance at 770 South Post Oak and the status of land-loan extensions.
- The sustainability of recurring rental income and cash generation given lower reported revenue, negative operating cash flow and commercial occupancy pressure.
- The calculation and cash-tax implications of the $81.6 million year-to-date tax provision, and the continuing level and collectability of related-party receivables and notes.