Transcontinental Realty Investors, Inc. — Q2 2013 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2013. Amounts are in U.S. dollars; financial statement amounts below are in millions unless noted. TCI is an externally advised real estate company with apartments, commercial properties, land, and mortgage investments. At quarter-end it reported 45 apartment communities with 8,033 units, 10 commercial properties, and 4,105 acres of land.
Financial performance and position
| Metric | Q2 2013 | Q2 2012 | Six months 2013 | Six months 2012 |
|---|---|---|---|---|
| Rental and other property revenue | $26.340 | $26.421 | $52.285 | $52.221 |
| Operating income | $5.326 | $5.769 | $10.031 | $9.625 |
| Net income (loss) applicable to common shares | $11.750 | $2.005 | $8.367 | $(2.479) |
| Basic and diluted EPS | $1.40 | $0.23 | $0.99 | $(0.29) |
- Six-month continuing operations produced a net loss of $6.778 million, versus a $4.744 million loss in 2012. Q2 continuing operations were slightly profitable at $0.205 million.
- Reported earnings were substantially supported by gains on property sales in discontinued operations: $24.265 million for the first half, including $18.074 million in Q2. Six-month net income was $9.144 million before non-controlling interests and preferred dividends.
- Six-month operating margin was approximately 19.2% (operating income divided by property revenue), compared with approximately 18.4% in 2012. Property revenue was nearly flat; operating income increased modestly.
- At June 30, total assets were $969.814 million, down from $1,045.344 million at year-end 2012. Net real estate was $836.255 million. Cash was $8.994 million, down from $16.620 million.
- Total debt shown in the debt schedule, including accrued interest and stock-secured notes, was $741.494 million. Shareholders’ equity was $124.719 million; total equity including non-controlling interests was $141.762 million.
- Cash flow from operations was negative. The cash flow statement reports $15.437 million used for the first half; MD&A gives $15.707 million, an inconsistency in the filing. Investing activities provided $74.035 million, largely from property sales; financing activities used $66.224 million. Cash declined by $7.626 million.
Changes and notable transactions
- First-half sales of income-producing properties generated $75.874 million of proceeds; land sales added $2.537 million. Major disposals included the Verandas at City View and Laguna Vista apartment complexes and several commercial properties. TCI reported a $6.2 million gain on Verandas and a $6.1 million gain on Laguna Vista.
- Mortgage and loan interest expense declined to $19.246 million for the first half from $22.398 million, which management attributed mainly to apartment refinancings at low fixed rates and reduced related-party obligations. Refinancing and loan charges remained significant: $7.209 million of loan charges and prepayment penalties for the half.
- Q2 general and administrative expense rose to $1.616 million from $0.771 million, mainly due to professional services and advisor cost reimbursements.
- TCI refinanced several apartment mortgages, generally at 2.50% interest with 40-year amortization schedules. The filing also identifies $114.721 million of variable-rate notes at a weighted average 4.33%; a one-percentage-point rate increase was estimated to reduce annual net income by $1.147 million, or $0.14 per share.
Outlook, risks, and unusual items
- Management expects property operations to generate excess cash in 2013, but says it will not be sufficient to meet all obligations as due. Its stated plan is to sell land and income-producing properties, refinance or extend debt, and obtain additional real-estate-secured borrowing. No earnings or revenue guidance was provided.
- Several land mortgages were undergoing modification or extension discussions. Related-party property transfers whose sales recognition is deferred include assets with mortgages reported in default, primarily for nonpayment; TCI says it is negotiating with lenders.
- A July 22, 2013 amendment to a contract for nine apartment communities made deposits refundable only if HUD does not approve the loan transfers. The sale was not classified as held for sale at June 30; reclassification depended on HUD approval.
- In the Amoco building settlement, TCI issued a $5.0 million note due March 2015. The note includes conditional forgiveness of $3.5 million if repaid by March 1, 2014, or $2.5 million if repaid later but before March 1, 2015.
- In the Dynex litigation, a Texas appeals court ordered entry of a judgment based on prior jury findings, including damages for TCI, and ordered reconsideration of attorney fees and interest. TCI described the ruling as favorable but anticipated further challenges. Separately, management estimated possible aggregate exposure from deficiency claims at up to approximately $20 million, if any, in future years.
- TCI reported a $72.1 million net deferred tax asset offset by a 100% valuation allowance because realization was not considered more likely than not. Management reported no material environmental liability known and no material adverse impact expected from ordinary-course litigation, while noting litigation and environmental risks.
- Related-party dealings are significant: ARL subsidiaries owned approximately 83.8% of TCI’s common stock, and Pillar serves as external advisor and cash manager. Management cautions that related-party transactions may not be on arm’s-length terms.
Most important facts for investors to verify
- Reconcile the cash-flow disclosure: $15.437 million used in the statement versus $15.707 million in MD&A.
- Assess whether property-sale proceeds and gains can be repeated; distinguish continuing operating results from discontinued operations and disposal gains.
- Review upcoming debt maturities, land-loan extensions, refinancing access, and the cash needs associated with the proposed nine-property sale and HUD approval.
- Evaluate the defaulted related-party property loans, the $5.0 million Amoco settlement note and its forgiveness terms, and potential deficiency-claim exposure.
- Monitor related-party receivables, fees, transfers, and the collectability and repayment timing of notes receivable, including UHF loans.
- Confirm liquidity against the company’s stated expectation that operating cash will not cover all obligations as they come due.