American Realty Investors, Inc. — 2015 Form 10-K
Reporting period: Fiscal year ended December 31, 2015. Figures are consolidated and in U.S. dollars; amounts are in millions unless stated otherwise. ARL is an externally advised real estate company whose results include majority-owned TCI and IOT.
Business context
ARL acquires, develops, owns and sells income-producing real estate and land. At year-end, its portfolio included 48 apartment communities with 7,983 units, nine commercial properties totaling about 2.18 million square feet, a golf course, and 3,812 acres of land. Apartment occupancy averaged 94.39%. Management reported commercial occupancy above 86% on average, although individual properties varied substantially.
Key financial metrics
| Metric | 2015 | 2014 |
|---|---|---|
| Rental and other property revenue | $104.2 | $79.4 |
| Operating income (loss) | $6.3 | $(3.2) |
| Net income (loss) attributable to common shares | $(3.2), or $(0.21) per share | $28.8, or $2.28 per share |
| Net cash used in operating activities | $(34.5) | $(38.0) |
| Cash and cash equivalents at year-end | $15.2 | $12.3 |
| Total assets | $1,117.4 | $965.5 |
| Total equity | $176.9 | $179.6 |
| Debt principal | $821.5 | Not clearly stated on a comparable basis in the filing excerpt |
Operating expenses were $97.9 million, including $54.0 million of property operating costs and $21.4 million of depreciation and amortization. Mortgage and loan interest expense was $47.5 million. The reported weighted-average debt rate was 4.66%, down from 4.88%; approximately $780.4 million of debt was fixed-rate and $41.1 million variable-rate. Restricted cash was an additional $45.7 million and should not be treated as freely available liquidity.
Investing activities used $130.3 million and financing activities provided $167.8 million. The filing reports cash flow from operations remained negative. Year-end notes and interest receivable, net, were $120.2 million; the company disclosed that 91.4% of its mortgage-note portfolio was due from related parties.
Material changes versus the prior year
- Property revenue increased $24.8 million, mainly from acquisitions; reported apartment and commercial revenue rose $14.7 million and $10.1 million, respectively.
- Operating income improved by $9.5 million, from a loss to income. Higher property costs and depreciation partly offset higher revenue; general and administrative expense fell $3.4 million.
- Common shareholders moved from $28.8 million of income to a $3.2 million loss. The comparison is heavily affected by 2014 discontinued-operation gains: 2014 included $61.9 million of gains on property sales in discontinued operations, while 2015 had no sales qualifying as discontinued operations under the newly adopted accounting standard.
- 2015 included a $5.3 million impairment of the U.S. Virgin Islands golf course and related assets, written down to $3.0 million fair value.
- ARL acquired 11 apartment communities adding 1,825 units for a combined $112.2 million, plus a Texas office building for $16.8 million. It sold about 595 acres in Texas for $107.3 million and reported $18.9 million of gains on those sales; it also reported a $12.0 million gain on a $33.9 million U.S. Virgin Islands land sale. The filing’s reported total gain on land sales was $21.6 million; the transaction-level figures do not clearly reconcile to that total in the provided text.
Outlook, liquidity, risks and unusual items
- Liquidity warning: Management said cash on hand plus expected 2016 property operating cash flow may not be sufficient to meet all cash requirements. It plans selective property and land sales, refinancing or extending debt, and additional real-estate-secured borrowing. The auditor’s report also highlights this planned reliance on asset sales and refinancing.
- Scheduled note principal payments were $96.5 million in 2016 and $31.2 million in 2017. The broader contractual-obligations table reports $132.1 million due in 2016, including interest and operating leases. Refinancing availability, asset-sale proceeds and covenant compliance are key uncertainties.
- Variable-rate exposure was $41.1 million; management estimated a 100-basis-point increase in variable rates would reduce 2016 net income by about $0.4 million. A $120 million financing was amended to cap the amount at $84.4 million; it bears 30-day LIBOR plus 10.75%, is interest-only, and has a five-year term.
- Three apartment projects totaling 700 planned units were in development, with $19.9 million of costs incurred against $99.2 million projected total costs. Development faces construction-cost, timing, permitting, leasing and financing risks.
- A $75 million Mercer Crossing land sale contract involved seller financing and an inadequate down payment; ARL applied the deposit method, so it recognized no revenue and retained the asset pending satisfaction of sale-recognition criteria. The filing also describes land sold to related parties for which gains were deferred.
- Related-party governance and credit concentration are material: approximately 86.7% of ARL stock was owned by related parties; the advisor also serves TCI and IOT; and $102.5 million of net notes receivable plus $7.9 million of interest receivable was due from related-party UHF. ARL and an officer also provided limited-recourse guarantees related to a $60.35 million UHF mezzanine loan.
- ARL declared no common dividends in 2015, 2014 or 2013. Series A preferred shares carry a 10% cumulative dividend, when declared. Common shares outstanding increased to 15.5 million, partly following preferred-stock conversions.
- Litigation includes a 2015 judgment against Dynex Commercial awarding $24.8 million to former entity ART and $19.5 million to TCI, among other awards; collection and next steps were not clear in the filing. In separate Clapper litigation, claims against ARL officers and directors were dismissed in January 2016; management says ARL is not liable for the underlying judgment but fully reserved a $10 million note because of collectability concerns. The filing also describes German litigation over the Port Olpenitz investment, with recovery uncertain.
- Management reported effective disclosure controls and internal control over financial reporting; the auditor issued an unqualified opinion on the financial statements but did not attest to internal-control effectiveness.
Most important facts for investors to verify
- Near-term maturities, covenant headroom, refinancing progress and whether planned asset sales can cover 2016 cash needs.
- Unrestricted liquidity versus restricted cash, and the sustainability of negative operating cash flow despite higher property revenue.
- Collections, collateral performance and related-party exposure for UHF notes, accrued interest and guarantees.
- Closing conditions, proceeds allocation and revenue recognition for Mercer Crossing and other land transactions, including the apparent difference between individual reported gains and total land-sale gain.
- Occupancy, leasing and cash-flow trends at underperforming commercial properties, plus development budgets and funding needs.
- Recoverability and financial treatment of the Dynex judgment, the reserved ART promissory note and the unresolved German claims.