<PAGE>
UNITED STATES SECURITIES AND
EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark
One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1997
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from to .
COMMISSION FILE NUMBER 1-12269
HOMESTEAD VILLAGE INCORPORATED
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
MARYLAND
(STATE OR OTHER JURISDICTION
OF INCORPORATION OR ORGANIZATION)
74-2770966
(I.R.S. EMPLOYER
IDENTIFICATION NO.)
2100 RIVEREDGE PARKWAY
9TH FLOOR
ATLANTA, GA 30328
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES AND ZIP CODE)
(770) 303-2200
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
2030 POWERS FERRY ROAD
ATLANTA, GA 30339
(FORMER NAME, FORMER ADDRESS AND FORMER FISCAL YEAR,
IF CHANGED SINCE LAST REPORT)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing for the past 90 days.
Yes X No
The number of shares outstanding of the Registrant's common stock as of
August 11, 1997 was:25,348,638
<PAGE>
HOMESTEAD VILLAGE INCORPORATED
INDEX
<TABLE>
<CAPTION>
PAGE
NUMBER
------
<C> <S> <C>
PART I. Condensed Financial Information
Item 1. Financial Statements
Condensed Balance Sheets--June 30, 1997 (unaudited) and
December 31, 1996.......................................... 3
Condensed Statements of Operations--Three and Six-Month
Periods Ended June 30, 1997 and 1996 (unaudited)........... 4
Condensed Statements of Cash Flows--Six-Month Periods Ended
June 30, 1997 and 1996 (unaudited)......................... 5
Notes to Condensed Financial Statements (unaudited)........ 6
Independent Accountants' Review Report..................... 12
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations.................................. 13
PART II. Other Information
Item 4. Submission of Matters to a Vote of Security Holders........ 17
Item 6. Exhibits and Reports on Form 8-K........................... 17
</TABLE>
<PAGE>
HOMESTEAD VILLAGE INCORPORATED
CONDENSED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
ASSETS 1997 1996
------ ---------- ------------
(UNAUDITED)
<S> <C> <C>
Current assets:
Cash and cash equivalents.......................... $ 10,550 $ 7,415
Accounts receivable, net of allowance of $20 in
1997 and $37 in 1996.............................. 1,810 809
Other current assets............................... 680 736
-------- --------
Total current assets............................. 13,040 8,960
Property and equipment............................... 409,557 263,325
Less accumulated depreciation...................... 11,106 7,717
-------- --------
Net investment in property and equipment............. 398,451 255,608
-------- --------
Deposits and pursuit costs, including $4,793 of funds
with title companies for property acquisitions in
1997 and $3,025 in 1996............................. 9,429 5,536
Deferred loan costs, net of accumulated amortization
of $827 in 1997 and $141 in 1996.................... 35,463 29,075
Trademark and intangibles, net of accumulated
amortization of $809 in 1997 and $184 in 1996....... 33,343 21,807
Other assets......................................... 4,103 3,639
-------- --------
Total assets..................................... $493,829 $324,625
======== ========
<CAPTION>
LIABILITIES AND SHAREHOLDERS' EQUITY
------------------------------------
<S> <C> <C>
Current Liabilities:
Development costs payable.......................... $ 24,550 $ 11,328
Accounts payable................................... 32 412
Due to affiliate................................... 143 216
Accrued interest payable to affiliates............. 1,668 853
Accrued real estate taxes.......................... 1,968 2,066
Other accrued expenses............................. 5,714 2,781
-------- --------
Total current liabilities........................ 34,075 17,656
Convertible mortgage notes payable to affiliates,
net................................................. 194,870 101,309
Deferred income taxes................................ -- 1,657
-------- --------
Total liabilities................................ 228,945 120,622
Commitments and contingencies
Shareholders' equity:
Common stock, $.01 par value, 250,000,000 shares
authorized, 23,528,853 issued and outstanding in
1997 and 19,689,130 shares issued and outstanding
in 1996........................................... 235 197
Additional paid-in capital and contributed capital. 269,105 224,352
Retained earnings.................................. 10,945 7,327
Less shares in escrow.............................. (14,317) (26,477)
Less deferred compensation......................... (1,084) (1,396)
-------- --------
Total shareholders' equity....................... 264,884 204,003
-------- --------
Total liabilities and shareholders' equity....... $493,829 $324,625
======== ========
</TABLE>
The accompanying notes are an integral part of the condensed financial
statements.
3
<PAGE>
HOMESTEAD VILLAGE INCORPORATED
CONDENSED STATEMENTS OF OPERATIONS
(UNAUDITED)
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
THREE-MONTH PERIOD
ENDED SIX-MONTH PERIOD ENDED
JUNE 30, JUNE 30,
----------------------- -----------------------
1997 1996 1997 1996
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Revenues:
Room revenue............... $ 13,547 $ 8,380 $ 24,499 $ 15,133
Other revenue.............. 409 95 544 210
----------- ----------- ----------- -----------
Total revenues........... 13,956 8,475 25,043 15,343
----------- ----------- ----------- -----------
Operating expenses:
Property operating
expenses.................. 5,562 4,184 10,378 7,788
Corporate operating
expenses.................. 4,066 494 7,148 899
Depreciation and
amortization.............. 2,380 982 4,192 1,841
----------- ----------- ----------- -----------
Total operating expenses. 12,008 5,660 21,718 10,528
----------- ----------- ----------- -----------
Operating income............. 1,948 2,815 3,325 4,815
----------- ----------- ----------- -----------
Interest income.............. 148 -- 293 --
Interest expense, net of
capitalized interest........ -- (1,379) -- (2,340)
----------- ----------- ----------- -----------
Earnings before income taxes. 2,096 1,436 3,618 2,475
Provision for income taxes... -- -- -- --
----------- ----------- ----------- -----------
Net income................... $ 2,096 $ 1,436 $ 3,618 $ 2,475
=========== =========== =========== ===========
Earnings per share (Note 5):
Weighted average shares and
common equivalent shares
outstanding............... 24,521,502 24,249,178
=========== ===========
Primary earnings per common
and common equivalent
share..................... $ 0 .09 $ 0 .15
=========== ===========
Fully diluted weighted
average shares
outstanding............... 40,018,963 37,621,195
=========== ===========
Fully diluted earnings per
share..................... $ 0 .05 $ 0 .10
=========== ===========
Pro forma earnings per share:
Weighted average shares and
common equivalent shares
outstanding............... 10,679,907 10,679,907
=========== ===========
Pro forma earnings per
common and common
equivalent share.......... $ 0.13 $ 0.23
=========== ===========
</TABLE>
The accompanying notes are an integral part of the condensed financial
statements.
4
<PAGE>
HOMESTEAD VILLAGE INCORPORATED
CONDENSED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(IN THOUSANDS)
<TABLE>
<CAPTION>
SIX-MONTH PERIOD
ENDED
JUNE 30,
-------------------
1997 1996
--------- --------
<S> <C> <C>
Operating activities:
Net income.............................................. $ 3,618 $ 2,475
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation and amortization......................... 4,192 1,841
Deferred compensation................................. 234 --
Amortization of prepaid rent.......................... 150 --
Change in assets and liabilities:
Increase in accounts receivable....................... (1,001) (432)
Increase (decrease) in other current assets........... (94) 181
Decrease in accounts payable.......................... (379) (130)
Increase (decrease) in accrued real estate taxes...... (97) 279
Increase in other accrued expenses.................... 2,946 3,065
Decrease in due to affiliate.......................... (74) (168)
--------- --------
Net cash provided by operating activities........... 9,495 7,111
--------- --------
Investing activities:
Investment in properties, excluding development costs
payable................................................ (131,199) (34,425)
Increase in deposits and pursuit costs.................. (3,893) (1,327)
Increase in other assets................................ (2,298) --
--------- --------
Net cash used in investing activities............... (137,390) (35,752)
--------- --------
Financing activities:
Exercise of warrants for common stock................... 38,516 --
Proceeds from intercompany debt......................... -- 28,254
Proceeds from convertible mortgage notes................ 93,250 --
Deferred loan costs for line of credit.................. (610) --
Repurchase of stock..................................... (126) --
--------- --------
Net cash provided by financing activities........... 131,030 28,254
--------- --------
Net increase (decrease) in cash and cash equivalents...... 3,135 (387)
Cash and cash equivalents, beginning of period............ 7,415 1,896
--------- --------
Cash and cash equivalents, end of period.................. $ 10,550 $ 1,509
========= ========
Noncash investing and financing transactions:
Conversion of intercompany debt to equity............... $ -- $ 999
========= ========
Conversion of intercompany debt to convertible mortgage
notes payable.......................................... $ -- $ 77,289
========= ========
Deferred loan costs resulting from issuance of
convertible mortgage debt.............................. $ 6,465 $ --
========= ========
Decrease in deferred tax asset and deferred tax
liability.............................................. $ ( 1,657) $ --
========= ========
Increase in trademark and intangibles arising from
release of shares in escrow............................ $ 12,161 $ --
========= ========
Increase in property and equipment arising from
capitalization of deferred loan costs amortization..... $ 997 $ --
========= ========
Increase in property and equipment, and development cost
payable................................................ $ 13,222 $ --
========= ========
Increase in property and equipment, and accrued interest
payable to affiliates.................................. $ 815 $ --
========= ========
</TABLE>
The accompanying notes are an integral part of the condensed financial
statements.
5
<PAGE>
HOMESTEAD VILLAGE INCORPORATED
NOTES TO CONDENSED FINANCIAL STATEMENTS
JUNE 30, 1997
(UNAUDITED)
NOTE 1--GENERAL
The financial statements of Homestead Village Incorporated ("Homestead") as
of June 30, 1997 and for the periods ended June 30, 1997 are unaudited and
certain information and footnote disclosures normally included in financial
statements have been omitted. While management of Homestead believes that the
disclosures presented are adequate, these interim financial statements should
be read in conjunction with the financial statements and notes included in
Homestead's 1996 Annual Report on Form 10-K.
In the opinion of management, the accompanying unaudited financial
statements contain all adjustments, consisting only of normal recurring
adjustments, necessary for a fair presentation of Homestead's financial
statements for the interim periods presented. Certain reclassifications have
been made in the 1996 financial statements to conform to the 1997
presentation. The results of operations for the three and six-month periods
ended June 30, 1997 and 1996 are not necessarily indicative of the results to
be expected for the entire year.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
NOTE 2--ORGANIZATION
Homestead was formed on January 26, 1996 to develop, own, and manage
extended-stay lodging facilities under the Homestead Village(R) trademark.
Homestead's extended-stay lodging rooms are designed to appeal to guests such
as business travelers, professionals and others on a weekly basis, with most
guests staying multiple weeks.
On October 17, 1996 Homestead acquired, through a series of merger
transactions, extended-stay lodging assets operating or to be operated under
the Homestead Village trademark (the "Merger Transaction"). The net assets
related to the Homestead Village properties were acquired through the merger
of various wholly-owned subsidiaries of Security Capital Group Incorporated
("Security Capital"), Security Capital Pacific Trust ("PTR") and Security
Capital Atlantic Incorporated ("ATLANTIC"), all affiliates of Homestead, in
exchange for common stock of Homestead.
Homestead acquired the net assets of PTR's Homestead Village Group
subsidiaries (the "PTR Subsidiaries") consisting of 54 properties (or the
rights to acquire such properties) by issuance of common stock. The merger of
the PTR Subsidiaries was accounted for as a combination of entities under
common control in a manner similar to a "pooling of interests." Accordingly,
the historical results of operations for the PTR Subsidiaries were combined
with Homestead for all of 1996. Homestead had no activities from its formation
in January 1996 through June 30, 1996, thus financial results for the six
months ended June 30, 1996 consist exclusively of that of the PTR
Subsidiaries.
The acquisition of the ATLANTIC subsidiaries, consisting of 26 properties
(or the rights to acquire such properties), was accounted for as a purchase
and, accordingly, the results of the ATLANTIC subsidiaries have been included
in Homestead's results only for periods subsequent to October 17, 1996.
The acquisition of the Security Capital subsidiaries was accounted for as a
purchase and, accordingly, the results of the Security Capital subsidiaries
have been included in Homestead's results only for periods subsequent
6
<PAGE>
HOMESTEAD VILLAGE INCORPORATED
NOTES TO CONDENSED FINANCIAL STATEMENTS--(CONTINUED)
to October 17, 1996. Security Capital provided the trademark, and development
and property management expertise as well as operating systems necessary to
develop, own and operate the properties.
On November 12, 1996, PTR and ATLANTIC distributed to their shareholders the
shares of Homestead common stock received by them in the Merger Transaction.
Security Capital received 3,442,737 shares from PTR and 2,388,876 shares from
ATLANTIC. Based on shares received in the Merger Transaction (including shares
held in escrow), shares received in the distributions by PTR and ATLANTIC, and
shares obtained by exercise of Homestead warrants (see Note 5), Security
Capital owned 65.6% of Homestead's outstanding common stock at June 30, 1997.
NOTE 3--PROPERTY AND EQUIPMENT
Property and equipment consist of the following (in thousands):
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1997 1996
----------- ------------
(UNAUDITED)
<S> <C> <C>
Operating properties:
Land........................................... $ 35,867 $ 22,999
Buildings and improvements..................... 143,347 92,964
Furniture, fixtures and equipment.............. 25,655 19,376
-------- --------
204,869 135,339
Properties under construction.................... 170,913 108,692
Properties in planning and owned................. 27,759 12,256
Land held for future development................. 1,455 1,448
Land held for sale............................... 4,561 5,590
-------- --------
Total........................................ $409,557 $263,325
======== ========
</TABLE>
During the three months ended June 30, 1997, Homestead sold excess land
parcels for total proceeds of $3,490,000. Net gain recognized of $229,000 has
been included in other revenue in the accompanying statement of operations.
NOTE 4--DEBT
Convertible Mortgage Notes Payable
In connection with the Merger Transaction, Homestead obtained funding
commitment agreements from PTR and ATLANTIC which provide for aggregate
fundings of $198.8 million and $111.1 million, respectively. Under these
agreements, Homestead may call for funding from PTR and ATLANTIC for the
development of the projects acquired from PTR and ATLANTIC in the Merger
Transaction. Assuming full funding of the commitments, PTR and ATLANTIC will
receive convertible mortgage notes in stated principal amounts of $221.3
million and $98.0 million, respectively. The discount, in the case of the
notes payable to PTR, and the premium, in the case of the notes payable to
ATLANTIC, are amortized as an increase and a reduction, respectively, to
interest expense over the term of the notes using the effective interest
method. The notes are collateralized by the Homestead properties acquired in
the mergers ($242.5 million of properties at historical cost mortgaged to PTR
and $116.4 million of properties at historical cost mortgaged to ATLANTIC at
June 30, 1997), accrue interest at 9.0% on the principal amount, and require
interest only payments every six months on May 28 and November 28. The notes
are due October 31, 2006, and are callable on or after May 28, 2001.
The mortgage notes are convertible, at the option of PTR and ATLANTIC, into
shares of Homestead common stock at a conversion price equal to one share of
common stock for every $11.50 of principal amount
7
<PAGE>
HOMESTEAD VILLAGE INCORPORATED
NOTES TO CONDENSED FINANCIAL STATEMENTS--(CONTINUED)
outstanding. The fair value of the convertible mortgage notes (assuming
conversion), based upon the $17.875 closing price of Homestead's common stock
on the American Stock Exchange at June 30, 1997, was $317.8 million.
The value of the conversion feature, representing the difference between the
conversion price per share and the value per share of Homestead stock
established in the Merger Transaction, is recorded as a deferred financing cost
as the notes are funded. The deferred amounts are amortized as an increase to
interest expense over the term of the notes using the effective interest
method.
Homestead issued warrants to PTR and ATLANTIC in exchange for entering into
the funding commitment agreements. The costs associated with the issuance of
the warrants have been recorded as deferred financing costs and are amortized
to interest expense over the term of the notes using the effective interest
method. The effective interest rates on the PTR and ATLANTIC convertible
mortgage notes payable after giving effect to the related discount or premium,
conversion feature, and warrants is estimated to be 13.56% and 9.05%,
respectively. Amortization of deferred financing costs and discount and premium
included in interest expense for the six months ended June 30, 1997 was
approximately $942,000. At June 30, 1997 Homestead owed convertible mortgage
notes to PTR of $158,557,000 (funded amount of $142,438,000; carrying amount of
$142,969,000 net of unamortized discount) and owed convertible mortgage notes
to ATLANTIC of $45,874,000 (funded amount of $52,000,000; carrying amount of
$51,901,000 net of unamortized premium).
Intercompany Debt
Prior to the Merger Transaction closing date, it was assumed that the PTR
Subsidiaries borrowed on an intercompany basis from PTR to fund the acquisition
and development of the Homestead Village properties. Acquisition and
development costs were assumed to have been financed through borrowing from PTR
up through the completion date of each respective property. Upon completion of
a property, 30% of the intercompany debt associated with the property was
assumed to have been converted to contributed capital. This assumption was made
to reflect the ultimate leverage ratio (70% convertible mortgage debt and 30%
common equity) expected to exist within Homestead after the funding commitment
is fulfilled. Intercompany borrowings were assumed to bear interest at the
weighted average rate of PTR's line of credit (7.6%) for the period from
January 1, 1996 through June 30, 1996.
Line of Credit
On May 6, 1997 Homestead entered into a secured revolving line of credit
facility with Commerzbank AG, New York Branch as agent and lender ("CAG"),
which provides for borrowings of up to $50 million, subject to collateral
requirements. Borrowings bear interest at the Eurodollar rate plus 2.5% per
annum. Additionally, there is a commitment fee of .325% per annum on the
average unfunded line of credit balance. The line of credit matures May 1998
and may be extended with the approval of CAG. The line requires maintenance of
certain financial covenants, specifically, aggregate indebtedness of no more
than 65% of gross asset value, as defined, or indebtedness secured by a lien of
no more than 60% of gross asset value, as defined. Homestead must also maintain
a minimum debt service coverage ratio of earnings before interest, income
taxes, depreciation, amortization, and gains or losses on sales of assets to
debt service, as defined, of no less than 1.3 to 1 and not allow stockholders
equity to be less than $204 million. The covenants also restrict payment of
dividends without lender approval. Homestead is in compliance with all such
covenants as of June 30, 1997.
Interest
Homestead incurred total interest cost of $7,988,000 and $3,574,000 for the
six months ended June 30, 1997 and 1996, respectively, of which $7,988,000 and
$1,234,000 were capitalized, respectively. Interest paid in cash in the six
months ended June 30, 1997 and 1996 was $6,147,000 and $657,100, respectively.
8
<PAGE>
HOMESTEAD VILLAGE INCORPORATED
NOTES TO CONDENSED FINANCIAL STATEMENTS--(CONTINUED)
NOTE 5--SHAREHOLDERS' EQUITY
Warrants
Homestead issued a total of 10,000,000 warrants on the merger date which
entitles the holders to buy one share of Homestead common stock at the exercise
price of $10 per share. Warrants were issued to PTR and ATLANTIC in exchange
for entering into the funding commitment agreements (see Note 4) and Security
Capital received Homestead warrants in exchange for providing financing to
Homestead during the time between the execution of the merger agreement and the
closing date and for the use of office facilities for one year. The warrants
expire October 29, 1997.
After the initial issuance of warrants to PTR, ATLANTIC and Security Capital,
both PTR and ATLANTIC distributed the warrants to their shareholders which
resulted in Security Capital holding a total of 4,730,022 warrants after the
distribution. Homestead has the right (under an investor agreement entered into
with Security Capital at the merger closing) to request Security Capital to
exercise its warrants in minimum increments of $5,000,000. Through June 30,
1997 Security Capital exercised 5,550,000 warrants with total proceeds to
Homestead of $55,500,000. Third party holders of warrants had exercised 55,798
warrants resulting in proceeds of $557,980 through June 30, 1997. Additionally,
Security Capital has made market purchases of 2,377,895 warrants through June
30, 1997 bringing the remaining balance of its holdings of Homestead warrants
to 1,557,917.
Per Share Data
In February 1997, the Financial Accounting Standards Board issued Statement
No. 128, Earnings per Share, which is required to be adopted on December 31,
1997. At that time, Homestead will be required to change the method currently
used to compute earnings per share and to restate all prior periods. Under the
new requirements for calculating primary earnings per share, the dilutive
effect of stock options and warrants will be excluded. The impact is expected
to result in an increase in primary earnings per share of $.01 for the three
months ended June 30, 1997 and an increase of $.02 in pro forma earnings per
share for the three months ended June 30, 1996. On a year to date basis the
impact is expected to result in an increase in primary earnings per share of
$.02 for the six months ended June 30, 1997 and an increase of $.03 in pro
forma earnings per share for the six months ended June 30, 1996. The impact of
Statement 128 on the calculation of fully diluted earnings per share is not
expected to be material.
Historical earnings per share data is not presented for the six-month period
ended June 30, 1996. The outstanding shares and equity interests of the merged
entities differed substantially from the shares, warrants and convertible
mortgages outstanding after the mergers. Therefore, management does not believe
historical earnings per share data is meaningful. Pro forma earnings per share
for the three and six-month periods ended June 30, 1996 has been calculated by
dividing net income by pro forma weighted average shares outstanding assuming
shares and warrants issued to PTR in the merger had been outstanding since the
beginning of the period. Warrants are considered common stock equivalents and
are included in pro forma weighted average shares on the treasury stock method.
NOTE 6--INCOME TAXES
Deferred tax assets related primarily to: (1) the difference in the carrying
amount of deferred financing costs recognized at formation and in connection
with subsequent fundings of convertible mortgage notes payable for financial
reporting purposes and the amount recognized for tax purposes; (2) the
difference in the carrying amount of depreciable assets for tax purposes and
financial reporting purposes; and (3) tax net operating loss carry forward.
During the quarter ended June 30, 1997 Homestead determined that, for income
tax reporting purposes, the basis of the property assets acquired from PTR in
the October, 1996 merger are to be recorded at
9
<PAGE>
HOMESTEAD VILLAGE INCORPORATED
NOTES TO CONDENSED FINANCIAL STATEMENTS--(CONTINUED)
fair market value at date of transfer. This results in a tax basis for these
properties which is approximately $55 million in excess of the basis for
financial reporting purposes, which has been recorded as a fully reserved
deferred tax asset of approximately $18.7 million in the accompanying financial
statements as of June 30, 1997.
At June 30, 1997, Homestead had, for federal income tax reporting purposes,
net operating loss carryforwards of approximately $2,500,000 (net of
approximately $775,000 utilized during the period ended June 30, 1997), which
will expire in the year 2011.
Prior to the Merger Transaction on October 17, 1996, the PTR Subsidiaries
were qualified subsidiaries of PTR, a real estate investment trust and,
accordingly, were not subject to income tax. Additionally, prior to the Merger
Transaction, Homestead was a wholly-owned subsidiary of Security Capital. For
income tax reporting purposes, the net income or loss of the PTR Subsidiaries
and Homestead for the period January 1, 1996 through October 17, 1996 were
included in consolidated tax returns for PTR and Security Capital,
respectively.
NOTE 7--RELATED PARTY TRANSACTIONS
REIT and Property Management Agreements
Prior to the Merger Transaction, the PTR Subsidiaries' activities were
managed through a contract with Security Capital Pacific Incorporated (the "PTR
REIT Manager") and the PTR Subsidiaries operated the Homestead Village
properties through a contract with SCG Realty Services Incorporated (the "PTR
Property Manager"). Both the PTR REIT Manager and the PTR Property Manager were
subsidiaries of Security Capital.
The PTR REIT Manager provided both strategic and day-to-day management
services to the PTR Subsidiaries including research, asset management, capital
market services and legal and accounting services. In exchange, the REIT
management contract required the PTR Subsidiaries to pay a stipulated REIT
management fee of 16% of its defined cash flow. Such fees included in corporate
operating expenses totaled $822,000 for the six months ended June 30, 1996.
Additionally, the PTR Subsidiaries reimbursed the PTR REIT Manager for travel
and out-of-pocket costs incurred. Homestead no longer pays a management fee to
an external manager, but instead directly incurs the cost of corporate
employees.
The PTR Property Manager provided services to the PTR Subsidiaries which were
necessary for the operation of its Homestead Village extended-stay lodging
business. The property management agreement provided for fees of between 5% and
7% of gross revenues. Such property management fees included in property
operating expenses amounted to $1,048,000 for the six months ended June 30,
1996. Homestead no longer pays a property management fee but instead directly
incurs the cost of property level employees.
Administrative Services Agreement
At the consummation of the Merger Transaction, Homestead and Security Capital
entered into an administrative services agreement (the "Administrative Services
Agreement"), pursuant to which Security Capital provides Homestead with
administrative services with respect to certain aspects of Homestead's
business. These services include, but are not limited to, insurance
administration, accounts payable, internal audit, cash management, human
resources, management information systems, tax and legal administration,
research, shareholder communications and investor relations. The fees payable
to Security Capital are based on Security Capital's cost of the services
provided plus an additional 20%. Arrangements under the Administrative Services
Agreement for the provision of services are required to be commercially
reasonable and on terms not less favorable than those which could be obtained
from unaffiliated third parties. The total fee for the six months ended June
30, 1997 was $1,080,000. The Administrative Services Agreement is for an
initial term expiring on December 31, 1997 and will automatically be renewed
for one-year terms, subject to approval by a majority of the independent
members of the Homestead Board.
10
<PAGE>
HOMESTEAD VILLAGE INCORPORATED
NOTES TO CONDENSED FINANCIAL STATEMENTS--(CONTINUED)
NOTE 8--COMMITMENTS AND CONTINGENCIES
Unfunded Development Commitments
At June 30, 1997, Homestead had approximately $168 million of unfunded
commitments for developments under construction.
Finder's Agreement
In conjunction with the Merger Transaction, PTR assigned its rights and
obligations pursuant to a series of agreements with an unaffiliated person
("Finder") who developed the Homestead Village concept, and has performed
certain services. The agreements expire February 5, 2043, and provide for the
payment of fees to Finder as follows: (i) $535,000 annually with respect to the
four properties for which Finder assisted in the location, development and
initial operations; (ii) an annual amount of $7,500 per property (subject to
certain conditions as defined in the agreements) for assistance in site
location with respect to the first 35 properties constructed (other than the
four properties referred to in (i) above); (iii) 20% of the net proceeds as
defined per the agreements, upon the sale of the four properties noted in (i)
above to an unaffiliated third party; and (iv) 10% of the net proceeds as
defined per the agreement, upon the sale of the additional 35 properties to an
unaffiliated third party. No such sales have occurred to date. Effective
December 1994, the agreement to assist in the site location of any additional
properties beyond the 39 properties was terminated. Fee expense under this
agreement for the six-month periods ended June 30,1997 and 1996 was $344,000
and $320,000 respectively, which is included in property operating expenses in
the accompanying statements of operations.
11
<PAGE>
INDEPENDENT ACCOUNTANTS' REVIEW REPORT
Board of Directors and Shareholders
Homestead Village Incorporated
We have reviewed the accompanying condensed balance sheet of Homestead
Village Incorporated as of June 30, 1997, the related condensed statements of
operations for the three and six-month periods ended June 30, 1997, and the
condensed statement of cash flows for the six-month period ended June 30, 1997.
These financial statements are the responsibility of the Company's management.
We did not make a similar review of the condensed statements of operations for
the three and six-month periods ended June 30, 1996 and the condensed statement
of cash flows for the six-month period ended June 30, 1996.
We conducted our review in accordance with standards established by the
American Institute of Certified Public Accountants. A review of interim
financial information consists principally of applying analytical procedures to
financial data, and making inquiries of persons responsible for financial and
accounting matters. It is substantially less in scope than an audit conducted
in accordance with generally accepted auditing standards, which will be
performed for the full year with the objective of expressing an opinion
regarding the financial statements taken as a whole. Accordingly, we do not
express such an opinion.
Based on our review, we are not aware of any material modifications that
should be made to the accompanying condensed financial statements at June 30,
1997, and for the three and six-month periods then ended for them to be in
conformity with generally accepted accounting principles.
We have previously audited, in accordance with generally accepted auditing
standards, the balance sheet of Homestead Village Incorporated as of December
31, 1996 and the related statements of operations, shareholders' equity, and
cash flows for the year then ended (not presented herein) and in our report
dated February 24, 1997, we expressed an unqualified opinion on those financial
statements. In our opinion, the information set forth in the accompanying
condensed balance sheet as of December 31, 1996, is fairly stated, in all
material respects, in relation to the balance sheet from which it has been
derived.
Ernst & Young LLP
Dallas, Texas
July 28, 1997
12
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION
The following discussion should be read in conjunction with Homestead's
financial statements and the notes thereto in Item 1 of this report.
The statements contained in this discussion and elsewhere in this report
that are not historical facts are forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933, as amended, and Section
21E of the Securities Exchange Act of 1934, as amended. These forward-looking
statements are based on current expectations, estimates and projections about
the industry and markets in which Homestead operates, management's beliefs and
assumptions made by management. Words such as "expects", "anticipates",
"intends", "plans", "believes", "seeks", "estimates", variations of such words
and similar expressions are intended to identify such forward-looking
statements. These statements are not guarantees of future performance and
involve certain risks, uncertainties and assumptions which are difficult to
predict. Therefore, actual outcomes and results may differ materially from
what is expressed or forecasted in such forward-looking statements. Among the
important factors that could cause Homestead's actual results to differ
materially from those expressed in the forward-looking statements are (i)
changes in general economic conditions in its markets that could adversely
affect demand for Homestead's properties and (ii) changes in financial markets
and interest rates that could adversely affect Homestead's cost of capital and
its ability to meet its financing needs and obligations.
OVERVIEW
Homestead's operating results are substantially influenced by (i) the demand
for and supply of extended-stay lodging in Homestead's markets and submarkets,
(ii) occupancy and average weekly rate, (iii) the effectiveness of property
level operations and (iv) the pace and cost at which Homestead can develop
additional extended-stay lodging properties. Capital and credit market
conditions which affect Homestead's cost of capital may influence future
operating results.
Homestead's overall results of operations and financial position are
significantly influenced by its development activity. As of June 30, 1997,
Homestead has developed, owned and operated 42 Homestead Village properties
representing in the aggregate 5,724 units in 13 cities and had 43 Homestead
Village properties under construction totaling 5,800 units within 8 of these
cities as well as 15 additional cities. In addition, Homestead owns and
controls through contracts 54 development sites for which it plans to initiate
construction within the next 12 months, for a total of 139 properties in 39
cities. Units operating, under construction or in pre-development planning
aggregate 18,633 units.
Homestead's reported results in the accompanying financial statements are
also affected by certain matters of financial presentation for the mergers
through which Homestead acquired its extended stay lodging business (the
"Mergers"). The Merger with the subsidiaries of PTR was accounted for as a
combination of entities under common control in a manner similar to a pooling
of interests, thus the historical financial results of the PTR Subsidiaries
are presented for all periods prior to October 17, 1996 and, as Homestead had
no activities through June 30, 1996, the accompanying financial statements
consist exclusively of the activities of the PTR Subsidiaries for the six
months ended June 30, 1996. The Merger of the subsidiaries of ATLANTIC was
accounted for as a purchase, thus the development activities of the
subsidiaries of ATLANTIC are not reflected in the accompanying financial
statements until after the Merger closing date. The Merger of the subsidiaries
of Security Capital was also accounted for as a purchase, thus the direct
incurrence of the costs of personnel for property management and corporate
management are reflected in financial results only after the Merger closing
date.
RESULTS OF OPERATIONS
Interim Period Comparison
Net earnings increased $1.1 million (46.2%) for the six months ended June
30, 1997 as compared to the same period in 1996. The increase is attributable
to an increase of net property operating income of $6.9 million
13
<PAGE>
and a decrease in interest expense of $2.3 million, offset by an increase in
corporate operating expense of $6.2 million and an increase in depreciation and
amortization of $2.4 million. Additionally, Homestead recognized net other
revenues of $229,000 on sales of excess land parcels in 1997.
Homestead's development program was the primary reason for the increase of
$6.9 million of net property operating income with 14 more properties operating
at June 30, 1997 than at June 30, 1996. The decrease in interest expense is
also attributable to the development program as all interest costs incurred in
the first six months ended June 30, 1997 were capitalized.
The increase of $6.2 million in corporate operating expense, arising from the
post Merger change in corporate structure to an internally managed, stand alone
public company, partially offset the above gains.
Property Operations
The following table sets forth certain information for Homestead's operating
properties for the periods indicated:
<TABLE>
<CAPTION>
SIX MONTHS ENDED THREE MONTHS ENDED
JUNE 30, JUNE 30,
------------------ --------------------
1997 1996 1997 1996
-------- -------- --------- ---------
<S> <C> <C> <C> <C>
Occupancy......................... 77.6% 81.0% 78.3% 81.8%
Average Weekly Rate(1)............ $ 252 $ 218 $ 254 $ 220
Weekly RevPAR(2).................. $ 196 $ 177 $ 199 $ 180
Number of Operating Properties at
Period End....................... 42 28 42 28
Property Operating Income Margin.. 58.2% 49.2% 59.5% 50.6%
</TABLE>
- --------
(1) Average weekly rate is determined by dividing room revenue by the number
of guest room days occupied for the period and multiplying by seven.
(2) Weekly revenue per available room ("RevPAR") is determined by dividing
room revenue by the number of guest room days available for the period and
multiplying by seven.
Homestead's 14 property openings from the end of the second quarter of 1996
through the end of the second quarter of 1997 were the primary reason for the
reported room revenue increase of $9.4 million (61.9%) for the first six months
ended June 30, 1997 as compared to the same period in 1996. The increase in
room revenue was due to an increase in the average weekly rate of $33.46
(15.3%) in the first six months ended June 30, 1997 compared to 1996, offset in
part by the decline in occupancy in 1997 versus 1996.
Total property operating expenses increased from $7.8 million to $10.4
million over the same period, an increase of $2.6 million for the first six
months ended June 30, 1997. The increase is primarily due to an increase in the
number of operating properties as noted above. The increase in property
operating expenses is partially offset by the fact that in 1997 Homestead was
no longer paying a property management fee ($1,048,000 in first six months
ended June 30, 1996), but was directly incurring the costs of property
operations. Average weekly rate increases noted above, combined with the
decrease in property management fees, were the primary reasons for the improved
property operating income margin of 58.2% in 1997.
Homestead Properties Fully Operating Throughout Both Periods
Homestead had 20 properties, representing 2,755 units, that were fully
operational throughout the six months ended June 30, 1997 and 1996. Average
occupancy for such properties during the six months ended June 30, 1997 and
1996 was 77.6 % and 84.0 %, respectively. The decline in occupancy is not
projected to continue on a longer term basis and is the direct result of
implementing strategic pricing in certain markets. Average weekly rates for
such properties during the six months ended June 30, 1997 and 1996 were $242.68
and $217.33, respectively, an increase of 11.7% for the six months ended June
30, 1997 as compared to the same period in 1996. This increase in rates, offset
somewhat by the decrease in occupancy, resulted in an overall increase in
14
<PAGE>
RevPAR for the six months ended June 30, 1997 to $188.20 from $182.65 for the
same period in 1996. The RevPAR increase and the decrease in property
management fees, described above, improved the property operating income margin
for comparable properties to 55.7% for the six months ended June 30, 1997
compared to 47.5% for the same period in 1996.
Corporate Operating Expenses
Corporate operating expenses increased $6.2 million for the six months ended
June 30, 1997 as compared to the same period in 1996. This comparison is
affected by the fact that 1997 corporate expenses reflect a post merger
operating basis while 1996 operations consist only of the corporate costs and
REIT management fee allocations from PTR to the PTR Subsidiaries. The increase
is also attributable to the change in corporate structure from external
management to internal management and additional corporate costs associated
with the continued growth of the company. This change in structure involves
costs associated with operating as a public company, recruiting, relocation,
and personnel expenses and other costs to create a corporate infrastructure,
offset in part by capitalizing costs related to information technology, and the
acquisition, development or improvement of real estate.
Depreciation and Amortization
Depreciation and amortization increased $2.4 million (127.6%) for the six
months ended June 30, 1997 as compared to the same period in 1996. Depreciation
of the cost of properties and improvements is calculated using the straight-
line method over the estimated useful lives of the assets. Depreciation expense
increased approximately $1,726,000 (93.8%) for the six months ended June 30,
1997 as compared to the same period in 1996. The increase is due primarily to
new properties open for the six months ended June 30, 1997 as compared to the
same period in 1996. Homestead also recorded $625,000 in amortization expense
for the six months ended June 30, 1997 as a result of the amortization of the
Homestead Village trademark and other intangibles acquired in the Mergers.
Interest Income
Interest income of $293,000 for the six months ended June 30, 1997 was a
result of interest earned from investment of excess cash on hand.
Interest Cost
Total interest cost incurred (interest before consideration of interest costs
capitalized for the period) increased $4.4 million (123.5%) for the six months
ended June 30, 1997 as compared to the same period in 1996. The increase is due
to the increase in investments in operating and under construction properties
which were primarily funded by an increase in convertible mortgage notes
payable. Total interest cost incurred was offset by an increase in capitalized
interest of $6.8 million in the six-month period ended June 30, 1997 over the
same period in 1996. This increase in capitalized interest is the result of
Homestead's increased development activity.
ENVIRONMENTAL MATTERS
Homestead is not aware of any environmental condition on its properties that
could, nor does it expect any environmental condition on its properties to,
have a material adverse effect upon its business, results of operations or
financial position.
LIQUIDITY AND CAPITAL RESOURCES
As of June 30, 1997 Homestead had 43 properties in construction and 15
additional sites acquired for development ("in planning and owned"). Homestead
also had 39 sites under contractual control ("in planning under contractual
control") with acquisition and construction start expected to occur within
twelve months. Homestead intends to pursue additional sites for acquisition and
development with an expectation of 40 to 50 construction starts through the
year 2000.
15
<PAGE>
Unfunded development commitments for properties under construction as of
June 30, 1997 approximates $168 million. Expected future investment to develop
the properties in planning and owned as of June 30, 1997 is approximately $87
million. The estimated total investment to acquire and develop the properties
in planning under contractual control approximates $326 million.
To fund its development program Homestead has as of June 30, 1997 the
following resources available: approximately $115 million under the funding
commitment agreements from PTR and ATLANTIC, approximately $15.5 million from
the exercise of warrants by Security Capital pursuant to Homestead's investor
agreement with Security Capital, the possible exercise of approximately $28.4
million of warrants held by third parties, cash from the line of credit
described below, and cash from operations in excess of operating needs. Since
June 30 and through August 11, 1997 Security Capital has exercised warrants of
$18.1 million (which includes substantially all warrants Security Capital
purchased since June 30) and third parties exercised warrants of $64,000. The
warrants are exercisable at $10 per share and expire October 29, 1997. As of
August 11, 1997 Homestead's market price of its common stock was $16.50.
Capital resources in addition to those described above will be needed to
fund Homestead's planned developments. Homestead intends to seek additional
credit facility capacity and may issue long-term debt or additional equity
securities. There can be no assurance that Homestead will be able to obtain
such funding as and when required or on acceptable terms.
On May 6, 1997 Homestead entered into a secured revolving line of credit
facility with Commerzbank AG, New York Branch as agent and lender ("CAG"),
which provides for borrowings of up to $50 million, subject to collateral
requirements. Borrowings bear interest at the Eurodollar rate plus 2.5% per
annum. Additionally, there is a commitment fee of .325% per annum on the
average unfunded line of credit balance. The line of credit matures May 1998
and may be extended with the approval of CAG. The line requires maintenance of
certain financial covenants, specifically, aggregate indebtedness of no more
than 65% of gross asset value, as defined, or indebtedness secured by a lien
of no more than 60% of gross asset value. Homestead must also maintain a
minimum debt service coverage ratio of earnings before interest, income taxes,
depreciation, amortization, and gains or losses on sales of assets to debt
service, as defined, of no less than 1.3 to 1 and not allow stockholders
equity to be less than $204 million. The covenants also restrict payment of
dividends without lender approval. Homestead is in compliance with all such
covenants as of June 30, 1997. As of August 11, 1997, Homestead had borrowed
$12.5 million under the line of credit.
The Board of Directors has established a policy of retaining earnings to
finance Homestead's growth and for general corporate purposes and, therefore,
does not anticipate paying a cash dividend in the foreseeable future.
Operating Activities
Net cash flow provided by operating activities increased by $2.4 million
(34%) for the six months ended June 30, 1997 as compared to the same period in
1996. The increase is due primarily to Homestead property openings as
described under "--Results of Operations" as well as improvements in property
operations.
Investing and Financing Activities
During the six months ended June 30, 1997, Homestead invested $131.2 million
in Homestead properties. The amounts invested in the first six months ended
June 30, 1997 were financed primarily from the proceeds of convertible
mortgage loans from PTR and ATLANTIC and additionally by proceeds from
exercise of Homestead warrants. The amounts invested in the first six months
ended June 30, 1996 were financed primarily by intercompany borrowings by the
PTR Subsidiaries from PTR.
16
<PAGE>
PART II. OTHER INFORMATION
ITEM. 4 SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
At the Annual Meeting of Shareholders held on May 28, 1997, shareholders
elected the following Class I, Class II and Class III Directors to office:
<TABLE>
<CAPTION>
SHARES IN SHARES
DIRECTORS FAVOR WITHHELD
--------- ---------- --------
<S> <C> <C>
Class I:
David C. Dressler, Jr............................... 17,730,121 109,085
Manuel A. Garcia, III............................... 17,730,153 109,053
Class II:
Michael D. Cryan.................................... 17,730,133 109,073
Class III:
John P. Frazee, Jr.................................. 17,730,262 108,944
John C. Schweitzer.................................. 17,730,129 109,077
</TABLE>
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
<TABLE>
<C> <S>
15 Letter from Ernst & Young LLP regarding unaudited interim
financial information
27 Financial Data Schedule
</TABLE>
(b) No reports on Form 8-K were filed during this period.
17
<PAGE>
SIGNATURES
PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934, THE REGISTRANT HAS DULY CAUSED THIS REPORT TO BE SIGNED
ON ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED.
Homestead Village Incorporated
/s/ Robert C. Aldworth
-------------------------------------
Robert C. Aldworth,
Senior Vice President and Chief
Financial Officer (Principal
Financial Officer)
/s/ Robert E. Clark
-------------------------------------
Robert E. Clark,
Vice President, Treasurer and
Controller (Principal Accounting
Officer)
Date: August 14, 1997
18
<PAGE>
July 28, 1997
Board of Directors and Shareholders
Homestead Village Incorporated
We are aware of the incorporation by reference in the Registration
Statements (Form S-8, No. 333-17243 and 333-17245) pertaining to the Homestead
Village Incorporated 1996 Long-Term Incentive Plan and Homestead Village
Incorporated 1996 Outside Directors Plan of our report dated July 28, 1997
relating to the unaudited condensed interim financial statements of Homestead
Village Incorporated that are included in its Form 10-Q for the quarter ended
June 30, 1997.
Pursuant to Rule 436(c) of the Securities Act of 1933 our report is not a
part of the registration statements prepared or certified by accountants
within the meaning of Section 7 or 11 of the Securities Act of 1933.
Ernst & Young LLP
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1997
<PERIOD-END> JUN-30-1997
<CASH> 10,550,000
<SECURITIES> 0
<RECEIVABLES> 1,830,000
<ALLOWANCES> 20,000
<INVENTORY> 0
<CURRENT-ASSETS> 13,040,000
<PP&E> 409,557,000
<DEPRECIATION> 11,106,000
<TOTAL-ASSETS> 493,829,000
<CURRENT-LIABILITIES> 34,075,000
<BONDS> 0
0
0
<COMMON> 235,000
<OTHER-SE> 264,649,000
<TOTAL-LIABILITY-AND-EQUITY> 493,829,000
<SALES> 0
<TOTAL-REVENUES> 25,043,000
<CGS> 0
<TOTAL-COSTS> 21,718,000
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> 3,618,000
<INCOME-TAX> 0
<INCOME-CONTINUING> 3,618,000
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 3,618,000
<EPS-PRIMARY> .15
<EPS-DILUTED> .10
</TABLE>
