Transcontinental Realty Investors, Inc. — 2012 Form 10-K
Business context and period: Annual report for the year ended December 31, 2012; results are consolidated and include Income Opportunity Realty Investors, Inc. (IOT), in which TCI held 81.1% at year-end. TCI owns and operates apartments, commercial properties and land. Its portfolio included 47 apartment communities with 8,553 units, 13 commercial properties totaling about 3.4 million square feet, and approximately 4,133 acres of land. TCI is externally advised and has no employees.
Financial performance and condition
| Metric | 2012 | 2011 |
|---|---|---|
| Operating revenue | $116.1 million | $106.3 million |
| Operating income (loss) | $18.2 million | $(26.0) million |
| Net loss applicable to common shares | $(9.4) million; $(1.12) per share | $(47.4) million; $(5.67) per share |
| Cash from operating activities | $(21.1) million | $(14.1) million |
| Cash from investing activities | $67.8 million | $43.9 million |
| Cash used in financing activities | $(50.1) million | $(21.0) million |
| Cash and cash equivalents at year-end | $16.6 million | $20.0 million |
| Total assets | $1,045.3 million | $1,160.3 million |
| Stockholders’ equity | $133.1 million | $141.3 million |
- Revenue increased 9.1%. Management attributed the increase primarily to apartment developments in lease-up and higher same-property apartment revenue; apartment occupancy averaged about 95%. Commercial revenue also rose, partly because of a tenant lease-termination fee.
- Operating margin was approximately 15.7%, versus approximately negative 24.4% in 2011. The improvement chiefly reflects the prior-year impairment charge falling from $37.0 million to $4.7 million, alongside lower general and administrative expense; it did not eliminate the net loss.
- Mortgage and loan interest expense increased to $55.1 million from $51.9 million. The weighted-average debt rate fell to 5.20% from 5.74%; about $661.6 million of debt was fixed-rate and $138.0 million variable-rate.
- Year-end notes payable were $799.6 million; the balance sheet reports $808.0 million of notes and interest payables. Debt was secured by real estate with a net carrying value of $885.9 million. Scheduled principal maturities include $189.9 million in 2013. Contractual obligations, including estimated interest and operating leases, total $1.36 billion.
- Common dividends were not declared for 2012, 2011 or 2010. Book value per share was $15.82 at year-end, down from $16.88.
Fourth-quarter snapshot
For the quarter ended December 31, 2012, revenue was $31.2 million and operating income was $2.2 million; net loss applicable to common shares was $6.4 million, or $0.76 per share. In fourth-quarter 2011, revenue was $24.7 million, operating loss was $32.7 million and net loss applicable to common shares was $21.3 million, or $2.54 per share. Quarterly results are unaudited.
Material changes versus the prior year
- Net loss applicable to common shares narrowed by about $38.0 million, but TCI remained loss-making and operating cash flow worsened by $7.0 million.
- Rental and other property revenue rose $9.7 million. Impairment provisions declined $32.3 million, while depreciation and amortization rose $2.6 million and interest expense rose $3.2 million.
- Land-sale gains fell to $6.9 million from $17.0 million. TCI sold 639.87 acres in 17 transactions for $38.4 million, compared with 3,809.49 acres for $163.1 million in 2011.
- TCI reported $95.4 million of total land and income-producing property sales in 2012. Sale proceeds were often used to repay secured debt. It completed multiple apartment-loan refinancings, generally at rates near 2.85%–3.03%, and converted several construction loans to permanent financing.
- Real estate, net, declined to $897.0 million from $988.3 million, and total assets declined by $115.0 million.
Outlook, risks and unusual items
- Liquidity: Management said cash plus expected 2013 property operating cash would not be sufficient to meet all cash requirements as they come due. It plans selective property sales, refinancing or extension of debt, and additional real-estate-secured borrowing. Cash from operations was negative in 2012. The filing does not provide a clear quantified forecast of cash available or a committed funding plan for the shortfall.
- Near-term maturities and defaults: Contractual debt principal due in 2013 is substantial. The filing states that certain properties subject to sales contracts have mortgages in default, primarily for nonpayment; TCI was negotiating with lenders to settle or cure defaults. Defaults, guarantees and cross-default provisions could lead to acceleration, foreclosure or additional cash needs.
- Sales accounting and related parties: Several related-party transfers were not recognized as completed sales because of continuing involvement, guarantees, inadequate buyer investment or uncertain recovery of cost. The related properties and debt remained on TCI’s books; some assets may be transferred back. TCI reported $58.0 million of notes and interest receivable from related parties and recognized $11.7 million of related-party interest income. Related-party governance and collectability are key considerations.
- Interest-rate exposure: A 100-basis-point increase in average variable rates was estimated to reduce 2013 net income by $1.4 million. Refinancing risk remains material given the debt maturities and dependence on lenders and asset-sale proceeds.
- Impairments and sales: 2012 impairments included $2.4 million on a commercial property based on an agreement with its lender and $2.3 million on land. Several land parcels were transferred to lenders, including Pioneer Crossing, on which TCI recorded a $1.0 million loss.
- Litigation: TCI disclosed lender deficiency claims with estimated maximum aggregate exposure of approximately $20 million, if any, potentially in future years. A February 2013 appellate ruling in the long-running Dynex case favored TCI, directing entry of judgment consistent with jury findings and identifying at least $12.1 million in previously awarded damages plus $252,577 for TCI, with attorneys’ fees and interest to be determined. Further challenges were expected; the outcome is not final.
- Other unusual items: A preferred shareholder’s Series D redemption request was disputed; management expected resolution in 2013 for no more than the original $1.3 million issuance. The auditor issued an unqualified opinion on the financial statements, but did not attest to internal-control effectiveness. Management reported disclosure controls and internal control over financial reporting effective at year-end.
- Business risks: Real-estate market and tenant weakness, high leverage, concentrated regional exposure, refinancing access, construction costs and delays, illiquidity, and conflicts from overlapping ownership, directors, officers and advisors may affect results. TCI is a C corporation for tax purposes, not a REIT.
Important facts for investors to verify
- How TCI expects to cover the 2013 liquidity shortfall and $189.9 million of scheduled principal maturities, including the status of refinancing, extensions and planned asset sales.
- Which loans and properties remain in default, the extent of guarantees and cross-default exposure, and whether lender negotiations have produced binding resolutions.
- Collectability, collateral support and repayment timing for the $58.0 million of related-party receivables, including UHF notes and the interest-income recognition policy change in 2012.
- Final resolution of the Dynex litigation, including damages, attorneys’ fees, interest and any further appeals; and the outcome of the Series D redemption dispute.
- Whether property occupancy, lease renewals and commercial leasing improve, particularly given office-building vacancies and upcoming commercial lease expirations.
- The terms, approvals and economic fairness of related-party transactions, including advisory, management, brokerage and development fees and sales recorded as subject to sales contracts.