<PAGE> 1
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[ X ] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1998
------------------
OR
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ____________ to _________________
Commission file number: 1045281
-------
CAPTEC NET LEASE REALTY, INC.
-----------------------------
(Exact name of registrant as specified in its charter)
Delaware 38-3368333
-------- ----------
(State or other jurisdiction (IRS Employer
of incorporation or organization) Identification Number)
24 Frank Lloyd Wright Drive, Ann Arbor, Michigan 48106
------------------------------------------------ -----
(Address of principal executive offices) (Zip Code)
(734) 994-5505
--------------
(Registrant's telephone number)
Not Applicable
--------------
(Former name, former address and former fiscal year, if changed since last year)
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 filing requirements
for the past 90 days. Yes X No
----- -----
APPLICABLE ONLY TO CORPORATE ISSUERS: Indicate the number of shares
outstanding of each of the registrant's classes of common equity, as of
November 14, 1998 (the latest practicable date).
<TABLE>
<S> <C>
Common Stock, $.01 par value 9,508,108
---------------------------- ---------
(Class) (Number of shares)
</TABLE>
1
<PAGE> 2
CAPTEC NET LEASE REALTY, INC.
CONTENTS
<TABLE>
<CAPTION>
ITEM NO. PAGE
- -------- ----
<S> <C> <C>
PART I FINANCIAL INFORMATION
1 Financial Statements:
Balance Sheet 3
Statements of Operations 4
Statement of Changes in Stockholders' Equity 5
Statements of Cash Flows 6
Notes to Financial Statements 7 - 9
2 Management's Discussion and Analysis of
Financial Condition and Results of Operations 10 - 13
3 Quantitative and Qualitative Disclosures about Market Risk 13
PART II OTHER INFORMATION
Other Information 14-15
</TABLE>
2
<PAGE> 3
CAPTEC NET LEASE REALTY, INC.
(A DELAWARE CORPORATION)
BALANCE SHEET
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
1998 1997
---- ----
ASSETS (unaudited)
- ------
<S> <C> <C>
Cash and cash equivalents $ 1,257,967 $ 3,528,129
Investments:
Properties subject to operating leases, net 222,846,698 151,491,551
Loans to affiliates, collateralized by mortgage loans 6,018,800 13,061,845
Investment in affiliated limited partnerships 4,395,000 -
Other loans - 703,950
Other loans, related party 409,376 421,920
Financing leases, net - 1,274,044
------------- -------------
Total investments 233,669,874 166,953,310
Short-term loans to affiliates 8,902,016 7,449,505
Unbilled rent 3,173,290 2,271,043
Accounts receivable 458,478 651,481
Due from affiliates 475,066 186,625
Other assets 1,868,368 661,875
------------- -------------
Total assets $ 249,805,059 $ 181,701,968
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
- ------------------------------------
Liabilities:
Notes payable $ 109,984,988 $ 42,746,189
Accounts payable 2,369,399 1,434,668
Due to affiliates 124,828 -
Dividends payable - 1,854,082
Federal income tax payable 719,000 719,000
Security deposits held on leases 194,406 141,892
------------- -------------
Total liabilities 113,392,621 46,895,831
------------- -------------
Stockholders' Equity:
Common stock, ($.01 par value) authorized: 40,000,000
shares; issued and outstanding: 9,508,108 95,081 95,081
Paid in capital 134,711,056 134,711,056
Retained earnings 1,606,301 -
------------- -------------
Total stockholders' equity 136,412,438 134,806,137
------------- -------------
Total liabilities and stockholders' equity $ 249,805,059 $ 181,701,968
============= =============
</TABLE>
3
<PAGE> 4
CAPTEC NET LEASE REALTY, INC.
(A DELAWARE CORPORATION)
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
---------------------------------- -----------------------------------
PREDECESSOR PREDECESSOR
1998 1997 1998 1997
---- ---- ---- ----
(unaudited) (unaudited)
<S> <C> <C> <C> <C>
Revenue:
Rental income $ 6,329,897 $ 2,978,121 $ 16,591,995 $ 7,974,798
Interest income on loans to affiliates 241,213 242,018 791,332 749,787
Interest income on short-term loans to affiliates 264,142 113,615 622,770 360,587
Interest and other income 577,319 119,153 1,442,697 251,894
-------------- ------------- -------------- -------------
Total revenue 7,412,571 3,452,907 19,448,794 9,337,066
-------------- ------------- -------------- -------------
Expenses:
Interest 2,087,771 1,712,025 4,502,375 4,419,226
Management fees, affiliates 342,862 523,288 883,973 1,347,086
General and administrative 342,928 213,841 1,140,880 464,769
Depreciation and amortization 825,364 398,394 2,173,983 1,076,043
Provision for unbilled rent 865,311 - 865,311 -
-------------- ------------- -------------- -------------
Total expenses 4,464,236 2,847,548 9,566,522 7,307,124
-------------- ------------- -------------- -------------
Income before loss on sale of
properties and income tax 2,948,335 605,359 9,882,272 2,029,942
Loss on sale of properties (891,722) - (1,144,891) (58,687)
-------------- ------------- -------------- -------------
Income before income tax 2,056,613 605,359 8,737,381 1,971,255
Provision for income tax - 206,000 - 167,000
-------------- ------------- -------------- -------------
Net income $ 2,056,613 $ 399,359 $ 8,737,381 1,804,255
-------------- ------------- -------------- -------------
Redeemable preferred stock dividend requirements 1,875,000 5,625,000
------------- -------------
Loss attributable to common stock $ (1,475,641) $ (3,820,745)
------------- -------------
Income (Loss) per common share:
Basic $ 0.22 $ (1.51) $ 0.92 $ (3.90)
-------------- ------------- -------------- -------------
Diluted $ 0.22 $ 0.92
-------------- --------------
Weighted average number of common shares
outstanding 9,508,108 980,330 9,508,108 980,330
-------------- ------------- -------------- -------------
</TABLE>
4
<PAGE> 5
CAPTEC NET LEASE REALTY, INC.
(A DELAWARE CORPORATION)
STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1998
(unaudited)
<TABLE>
<CAPTION>
Total
Common Paid-In Retained Stockholders'
Stock Capital Earnings Equity
----- ------- -------- ------
<S> <C> <C> <C> <C>
BALANCE, JANUARY 1, 1998 $ 95,081 $ 134,711,056 $ - $ 134,806,137
Net income - - 8,737,381 8,737,381
Common stock dividends ($0.375 per share) - - (7,131,080) (7,131,080)
-------- ------------- ----------- -------------
BALANCE, SEPTEMBER 30, 1998 $ 95,081 $ 134,711,056 $ 1,606,301 $ 136,412,438
======== ============= =========== =============
</TABLE>
5
<PAGE> 6
CAPTEC NET LEASE REALTY, INC.
(A DELAWARE CORPORATION)
STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1998 AND 1997
(unaudited)
<TABLE>
<CAPTION>
Predecessor
1998 1997
CASH FLOWS FROM OPERATING ACTIVITIES: ---- ----
<S> <C> <C>
Net income $ 8,737,381 $ 1,804,255
Adjustments to net income:
Depreciation and amortization 2,173,984 1,076,043
Amortization of debt issuance costs 264,202 393,750
Loss on sale of property 891,722 58,687
Increase in unbilled rent (902,247) (1,193,366)
Decrease in accounts receivable and other assets (129,852) (288,099)
Increase in accounts payables 934,731 925,522
------------ -----------
Net cash provided by operating activities 11,969,921 2,776,792
------------ -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of properties subject to operating leases (74,495,244) (32,157,979)
Advances on loans to affiliates, collateralized by
mortgage loans - (3,041,324)
Acquisition of properties subject to financing leases - (370,164)
Advances on short-term loans to affiliates (1,452,511) -
Collections on short-term loans to affiliates - 1,000,636
Proceeds from the disposition of property 1,475,935 704,723
Collections on loans to affiliates, collateralized by
mortgage loans 7,043,045 -
Collection of principal on other loans 716,494 63,289
Investments in affiliated partnerships (4,395,000) -
Collection of principal on financing leases - (3,127)
Lease security deposits 52,514 15,123
------------ -----------
Net cash used in investing activities (71,054,767) (33,788,823)
------------ -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Dividends paid on common stock (8,985,161) -
Borrowings of notes payable 109,984,988 30,342,875
Debt issuance costs (1,438,954) -
Repayments of notes payable (42,746,189) (64,066)
Dividends paid on redeemable preferred stock - (2,375,000)
------------ -----------
Net cash provided by financing activities 56,814,684 27,903,809
------------ -----------
NET CASH FLOWS (2,270,162) (3,108,222)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 3,528,129 3,862,159
------------ -----------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 1,257,967 $ 753,937
============ ===========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for interest $ 2,683,944 $ 3,837,033
============ ===========
</TABLE>
6
<PAGE> 7
CAPTEC NET LEASE REALTY, INC.
NOTES TO FINANCIAL STATEMENTS
1. THE COMPANY AND ITS SIGNIFICANT ACCOUNTING PRINCIPLES:
a. MERGER: Captec Net Lease Realty, Inc., a Delaware corporation ("Captec"
or the "Company"), was formed in August 1997 to continue and expand the
acquisition and investment activities of Captec Net Lease Realty, Inc., a
Michigan corporation ("Net Lease Michigan"), and Captec Net Lease Realty
Advisors, Inc., a Michigan corporation ("Advisors Michigan"). Net Lease
Michigan was formed in October 1994 for the purpose of investing in
long-term net leased restaurant and retail real estate and commenced
operations in February 1995. Advisors Michigan was formed in October 1994
for the purpose of providing certain advisory services to Net Lease
Michigan and also commenced operations in February 1995. The Company
completed its initial public offering (the "Offering") in November 1997
and has subsequently operated as a real estate investment trust ("REIT").
In connection with the Offering, Net Lease Michigan and Advisors Michigan
were merged into the Company effective September 30, 1997 in exchange for
1,315,440 shares of the Company's common stock, par value $.01 (the
"Common Stock"), and 50,000 shares of redeemable preferred stock.
Subsequently, a reverse split of .745249 shares for each share of Common
Stock was effected, resulting in 980,330 shares outstanding. The
accompanying financial statements account for the merger as a purchase of
Net Lease Michigan by Advisors Michigan in accordance with Accounting
Principles Board Opinion No. 16. Accordingly, the cost of the acquisition
was $5,161,000 (318,607 split adjusted shares issued to the shareholders
of Advisors Michigan at an assumed fair value of $16.20 per share) and the
assets acquired and liabilities assumed of Net Lease Michigan were
recorded at their estimated fair values (resulting in an increase to
historical recorded value of properties subject to operating leases of
$5,161,000). In addition, as the principal business activities of the
Company consist of the activities performed by Net Lease Michigan, Net
Lease Michigan is deemed to be the "predecessor" company for financial
reporting purposes and the accompanying statements of operations and cash
flows for the period ended September 30, 1997 are of Net Lease Michigan.
b. UNAUDITED INTERIM FINANCIAL INFORMATION: The balance sheet as of
September 30, 1998 and the statements of operations and cash flows for the
three months and nine months ended September 30, 1998 and 1997 have not
been audited. In the opinion of management, all adjustments (consisting of
normal recurring accruals) considered necessary for a fair presentation
have been reflected therein. Results of operations for the interim periods
are not necessarily indicative of results for the full year.
c. INVESTMENT IN AFFILIATED PARTNERSHIPS - consists of the general
partnership interests in Captec Franchise Capital Partners L.P. III and
Captec Franchise Capital Partners L.P. IV, which were acquired in August
1998. The investment in each of the affiliates represents a 1% interest
and is accounted for by the cost method.
7
<PAGE> 8
CAPTEC NET LEASE REALTY, INC.
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
2. PROPERTIES SUBJECT TO OPERATING LEASES:
The Company's real estate portfolio is leased to tenants under long-term
net operating leases. The lease agreements generally provide for monthly
rents based upon a percentage of the property's cost. The initial term of
the leases typically ranges from 15 to 20 years, although the Company in
certain cases will enter into leases with terms that are shorter or
longer. Most leases also provide for one or more five year renewal
options. In addition, certain leases provide the tenant one or more
options to purchase the properties at a predetermined price, generally
only during stated window periods during the fifth to seventh lease years.
The Company's investment in real estate includes capitalized acquisition
and interest costs which have been allocated between land and buildings
and improvements on a pro rata basis. The net investment in properties
subject to operating leases as of September 30, 1998 is comprised of the
following:
<TABLE>
<S> <C>
Land $ 77,410,195
Buildings and improvements 135,897,842
Construction draws on properties 13,479,918
------------
226,787,955
Less accumulated depreciation (3,941,257)
------------
Total $222,846,698
============
</TABLE>
The Company periodically invests in properties under construction. All
construction draws are subject to the terms of a standard lease agreement
with the Company which fully obligates the tenant to the long-term lease
for all amounts advanced under construction draws.
3. NOTES PAYABLE:
In February 1998, the Company entered into a credit facility (the "Credit
Facility"), which is used to provide funds for the acquisition of
properties and working capital, and repaid all amounts outstanding under
the Company's prior credit facility. Under the Credit Facility, which has
a three year term, the Company may borrow up to $175.0 million subject to
certain borrowing base restrictions that are dependent on cash basis lease
revenue. The Company had borrowed approximately $110.0 million at
September 30, 1998. The Credit Facility contains covenants which, among
other restrictions, require the Company to maintain a minimum net worth,
a maximum leverage ratio, and specified interest coverage and fixed
charge coverage ratios. Due to the filing of Boston Chicken Inc. ("Boston
Chicken") for Chapter 11 bankruptcy protection, the Company currently is
in violation of a financial covenant under the Credit Facility and is
precluded from additional borrowings under the Credit Facility. The
Credit Facility lender has agreed to forebear from taking any action
against the Company pursuant to the Credit Facility until and including
December 31, 1998. The Company is currently negotiating with the Credit
Facility lender for a resolution which would eliminate the violation and
allow the Company to continue to incur additional indebtedness under the
Credit Facility. The Credit Facility bears interest at an annual rate of
LIBOR plus a spread ranging from 1.25% to 1.50%, set quarterly depending
on the Company's leverage ratio. Commitment fees and closing expenses
paid in conjunction with the Credit Facility have been capitalized in
other assets and are being amortized and classified as interest expense
over the initial term of the Credit Facility.
8
<PAGE> 9
CAPTEC NET LEASE REALTY, INC.
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
4. INCOME TAX:
The Company has elected to be taxed as a REIT effective September 1, 1997
under the Internal Revenue Code of 1986, as amended (the "Code"). As a
result, the Company generally will not be subject to federal income
taxation at the corporate level provided it distributes annually at least
95.0% of its REIT taxable income, as defined in the Code, to its
stockholders and satisfies certain other requirements.
5. EARNINGS PER SHARE:
Stock options representing 650,000 shares of Common Stock currently
outstanding under the Company's Long-Term Incentive Plan were excluded
from the computation of diluted earnings per share because their exercise
price was in excess of the average market price of the Company's Common
Stock during the three months and nine months ended September 30, 1998.
6. DERIVATIVE FINANCIAL INSTRUMENTS:
The Company uses derivative financial instruments to manage interest rate
exposures which exist as a part of its ongoing business operations. At
September 30, 1998 the Company had interest rate swap contracts
outstanding with a total notional amount of $50 million, and interest rate
cap contracts outstanding with a total notional amount of $25 million.
On June 15, 1998 the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 133, "Accounting for
Derivative Instruments and Hedging Activities ("FAS 133"). FAS 133 is
effective for all quarters of all fiscal years beginning after June 15,
1999 (January 1, 2000 for the Company). FAS 133 requires that all
derivative instruments be recorded on the balance sheet at their fair
value. Changes in the fair value of derivatives are recorded each period
in current earnings or other comprehensive income, depending on whether a
derivative is designated as part of a hedge transaction and, if it is, the
type of hedge transaction. Management of the Company has not yet
determined the impact that the adoption of FAS 133 will have on its
earnings or statement of financial position.
7. PROVISION FOR UNBILLED RENT:
On October 6, 1998, Boston Chicken and the majority of their operating
subsidiaries filed for Chapter 11 bankruptcy protection. As a consequence,
14 of the Company's 27 Boston Chicken leases are expected to be rejected.
During the three months ended September 30, 1998, the Company recorded a
one-time non-cash charge of approximately $865,000 related to unbilled
rents on properties leased to Boston Chicken and its subsidiaries and
affiliates. The monthly rental revenue impact as a result of the rejected
leases is approximately $135,000. The monthly rental revenue from all 27
Boston Chicken leases was approximately $269,000.
8. RELATED PARTY TRANSACTIONS:
Effective July 1, 1998, the interest rate on the master revolving note to
affiliates and short-term loans to affiliates increased from 8.0% per
annum to 10.0% per annum. The increase resulted in approximately $94,000
of additional interest income for the three months ended September 30,
1998.
In August 1998, the Company purchased the general partnership interests
in affiliated limited partnerships which are engaged in substantially the
same business as the Company. The Company acquired the interests for $4.4
million in the aggregate, $4.0 million of which was used to offset
amounts included in short-term loans to affiliates.
9. SUBSEQUENT EVENTS:
In October 1998, the Company declared dividends to its shareholders of
$3,565,540, or $0.375 per share of common stock, which was paid on October
15, 1998.
9
<PAGE> 10
PART I - FINANCIAL INFORMATION
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
The Company acquires, develops and owns freestanding properties which are
leased on a long-term triple-net basis to operators of national and
regional chain restaurants and retailers. Triple-net leases generally
impose on the lessee all of the obligations of repairs, maintenance, real
property taxes, assessments, utilities and insurance. The Company's leases
typically provide for minimum rent plus specified fixed periodic rent
increases or, in certain limited circumstances, indexation to CPI and/or
percentage rent.
As of September 30, 1998, Captec owned 161 properties, located in 31
states, with a cost basis of $226.8 million. The properties are leased to
46 operators of 29 distinct restaurant concepts such as Applebee's,
Bennigan's and Denny's; 15 retailers such as Best Buy, Athlete's Foot,
Blockbuster Video and Office Depot; and 2 automotive dealers operating
under the BMW and Nissan brands. The restaurant and retail, including
automobile dealership, markets represent 73% and 27%, respectively, of
annual rental revenue from the aggregate portfolio as of September 30,
1998.
The Company completed the Offering in November 1997 and has operated and
elected to be taxed as a REIT.
RESULTS OF OPERATIONS
THREE MONTHS ENDED SEPTEMBER 30, 1998. During the three months ended
September 30, 1998 (the "Quarter"), total revenue increased 115% to $7.4
million as compared to $3.5 million for the three months ended September
30, 1997 (the "1997 Quarter"). Rental revenue increased 113% to $6.3
million for the Quarter as compared to $3.0 million for the 1997 Quarter.
The increase in rental revenue resulted principally from the acquisition
of 8 net leased properties for the Quarter and the benefit of a full
period of rental revenue from properties acquired and leased in preceding
periods. Interest and other income on investments increased by 128% to
$1.1 million for the Quarter as compared to $475,000 for the 1997
Quarter, primarily as a result of fee income earned from affiliated
limited partnerships.
Interest expense increased by 22% to $2.1 million for the Quarter as
compared to $1.7 million for the 1997 Quarter. The increase was primarily
due to additional borrowings under the Company's Credit Facility used to
fund the acquisitions of properties. General and administrative expenses,
including management fees to affiliates, decreased 7% to $686,000 for the
Quarter as compared to $737,000 for the 1997 Quarter, as the commencement
of salaries and benefits and other incremental costs related to operating
as a public REIT were offset by reductions in management fees paid to
affiliates. Depreciation and amortization increased 107% to $825,000 for
the Quarter as compared to $398,000 for the 1997 Quarter, primarily due to
the continued acquisition of net leased properties and the effect of a
full period of depreciation of properties acquired and leased in the
preceding periods.
On October 6, 1998, Boston Chicken and the majority of their operating
10
<PAGE> 11
subsidiaries filed for Chapter 11 bankruptcy protection. As a consequence,
14 of the Company's 27 Boston Chicken leases are expected to be rejected.
During the Quarter, the Company incurred a one-time non-cash charge of
approximately $865,000 related to unbilled rents on properties leased to
Boston Chicken and its subsidiaries and affiliates. The Company
currently does not anticipate any impairment write-downs related to the
rejected leases.
As a result of a termination of a direct financing lease, the Company
incurred a loss of approximately $892,000 on the disposition of the
related assets.
As a result of the foregoing, the Company's net income increased 415% to
$2.1 million for the Quarter as compared to $399,000 for the 1997 Quarter.
NINE MONTHS ENDED SEPTEMBER 30, 1998. During the nine months ended
September 30, 1998 ("1998"), total revenue increased 108% to $19.4 million
as compared to $9.3 million for the nine months ended September 30, 1997
("1997"). Rental revenue increased 108% to $16.6 million for 1998 as
compared to $8.0 million for 1997. The increase in rental revenue resulted
principally from the acquisition of 49 net leased properties in 1998 and
the benefit of a full period of rental revenue from properties acquired
and leased in preceding periods. Interest and other income on investments,
including interest income on loans to affiliates, increased by 110% to
$2.9 million for 1998 as compared to $1.4 million for 1997, primarily as a
result of fee income earned from affiliated limited partnerships.
Interest expense increased by 2% to $4.5 million in 1998 as compared to
$4.4 million for 1997. The decrease was primarily due to the reduction of
debt in November, 1997 related to the Offering, offset by interest on
$110.0 million of additional debt used to fund the acquisition of
properties since the Offering. General and administrative expenses,
including management fees to affiliates, increased 12% to $2.0 million for
1998 as compared to $1.8 million for 1997, primarily due to the
commencement of salaries and benefits and other incremental costs related
to operating as a public REIT, offset by reductions in management fees
paid to affiliates. Depreciation and amortization increased 102% to $2.2
million for 1998 as compared to $1.1 million for 1997, primarily due to
the continued acquisition of net leased properties and the effect of a
full period of depreciation of properties acquired and leased in the
preceding periods.
As a result of the foregoing, the Company's net income increased 385% to
$8.7 million for 1998 as compared to $1.8 million for 1997.
LIQUIDITY AND CAPITAL RESOURCES
The Company's principal use of funds is for property development and
acquisition, payment of interest on its outstanding indebtedness, and
payment of operating expenses and dividends. Historically, interest
expense, operating expenses and dividends have been paid out of cash flows
from operations. Property acquisitions have typically been funded out of
proceeds from equity offerings and borrowings. The Company expects to meet
its liquidity requirements (principally property development and
acquisition) through a variety of future sources of capital, including
long-term secured and unsecured indebtedness and the issuance of
additional equity or debt securities.
The Company's leases generally provide for specified periodic rent
increases including fixed increase amounts, and in limited circumstances
indexation to CPI and/or percentage rent. In addition, most of the
Company's leases require the lessee to pay all operating costs and
expenses including repairs, maintenance, real property taxes, assessments,
utilities and insurance, thereby substantially reducing the Company's
exposure to increases in costs and operating expenses. Based upon these
factors, the Company does not anticipate significant capital demands
related to the management of its properties.
11
<PAGE> 12
At September 30, 1998, the Company had cash and cash equivalents of $1.3
million. For 1998, the Company generated cash from operations of $12.0
million as compared to $2.2 million for 1997. Cash generated from
operations provides funds for distributions to shareholders in the form of
quarterly dividends. Any excess cash from operations may also be used for
investment in properties.
CREDIT FACILITY. On February 26, 1998 the Company entered into the Credit
Facility which is used to provide funds for the acquisition of properties
and working capital, and repaid all amounts outstanding under the prior
credit facility.
The Credit Facility has a three year term and borrowings are subject to
borrowing base restrictions that are dependent on cash basis lease
revenue. The Credit Facility contains covenants which, among other
restrictions, require the Company to maintain a minimum net worth, a
maximum leverage ratio, and specified interest and fixed charge coverage
ratios. Due to the Boston Chicken bankruptcy filing, the Company is
currently in violation of a financial covenant and is precluded from
additional borrowings under the Credit Facility. The Credit Facility
lender has agreed to forebear from taking any action against the Company
pursuant to the Credit Facility until and including December 31, 1998.
The Company is currently negotiating with the Credit Facility lender for
a resolution which would eliminate the violation and allow the Company
to continue to incur additional indebtedness under the Credit Facility.
The Credit Facility bears interest at an annual rate of LIBOR plus a
spread ranging from 1.25% to 1.50%, set quarterly depending on the
Company's leverage ratio, or at the Company's option, the bank's base
rate. At September 30, 1998, the spread over LIBOR was 1.40%. The Credit
Facility will expire in February 2001 and may be renewed annually
thereafter, one year in advance of maturity subject to the consent of the
lender. Upon expiration, the entire outstanding balance of the Credit
Facility will mature and become immediately due and payable. At that time,
the Company expects to refinance such debt either through additional debt
financings secured by individual properties or groups of properties, by
unsecured private or public debt offerings or by additional equity
offerings.
PROPERTY ACQUISITIONS AND COMMITMENTS. During 1998, the Company acquired
$64.5 million of completed properties and the balance of investments in
properties under construction increased $9.9 million, resulting in a net
increase in investments in properties of $74.4 million. In August 1998,
the Company purchased the general partnership interests in affiliated
limited partnerships which are engaged in substantially the same business
as the Company. The Company acquired the interests for $4.4 million in the
aggregate, $4.0 million of which was used to offset amounts included in
short-term loans to affiliates.
As of September 30, 1998 the Company's commitments to acquire properties
totaled $107 million. The commitments are subject to various conditions to
closing which are described in the contracts or letters of intent relating
to these properties. In addition, in the ordinary course of business the
Company is in negotiations regarding the proposed acquisition of other
properties and related co-development opportunities. The Company may
enter into commitments to acquire some of these prospective properties in
the future. The Company expects to finance its acquisition commitments
through a variety of future sources of capital, including borrowings
under the Credit Facility, other long-term secured and unsecured
indebtedness and the issuance of additional equity or debt securities.
12
<PAGE> 13
DIVIDENDS. The Company intends to pay a regular quarterly dividend on its
common stock of $.375 per share (which if annualized would be $1.50 per
share). Dividends of $3,565,540 were paid on April 16, 1998, July 14,
1998, and October 15, 1998, related to the first, second, and third
quarter declared dividends, respectively. The Company expects to pay
future dividends from cash available for distributions. The Company
believes that cash from operations will be sufficient to allow the
Company to make distributions necessary to enable the Company to
continue to qualify as a REIT.
The Company historically has paid quarterly dividends on its redeemable
preferred stock. After payment of the accrued preferred stock dividends
and the redemption and exchange of the Company's outstanding redeemable
preferred stock from the proceeds of the Offering, the Company's preferred
stock dividend requirement has been eliminated.
YEAR 2000
The Year 2000 issue is a result of the way computer programs historically
manipulate date information based on a two-digit year ("98" instead of
"1998"). The issue is that the "00" year designation can potentially
cause miscalculations or failures within the computer system if "00" is
misinterpreted as the year 1900 instead of the year 2000. These failures
could potentially lead to temporary disruption of operations and the
inability to conduct normal business activities.
The Company predominantly uses standard application software supported by
third party vendors. Information has been obtained from key third-party
financial software vendors that comprise the core business applications
indicating the core software systems are currently Year 2000 compliant.
The Company is in the process of identifying key business partners, such
as financial institutions and lessees, to assess their status of Year
2000 readiness. Upon completion of the assessment process, a strategy on
how to address each partner will be developed based on the relative
importance of each relationship. Documentation regarding the state of
readiness of business partners will be compiled as the assessment
progresses.
The Company's major software applications are currently Year 2000
compliant, and the core computing infrastructure including personal
computers and network server hardware and software are all compliant.
Therefore, the Company does not anticipate the total cost of Year 2000
compliance to have a material adverse effect on the Company's business or
results of operations. The Company has incurred minimal costs to date
related to Year 2000 compliance.
The failure to identify and correct material Year 2000 problems adequately
could result in an interruption to or failure of certain normal business
activities or operations. These interruptions or failures could adversely
affect the Company's financial condition; however, the extent of the
impact can not presently be determined. The Company is dependent upon the
Year 2000 readiness information provided by its vendors and external
business partners, and their ability to achieve Year 2000 compliance with
their computer systems.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
None.
13
<PAGE> 14
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS. None.
ITEM 2. CHANGES IN SECURITIES. None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES. None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. None.
ITEM 5. OTHER INFORMATION.
ELECTION OF DIRECTORS
On October 7, 1998 the Board of Directors elected William J. Chadwick and
Albert T. Adams as directors.
William J. Chadwick, 50, is a managing director of Chadwick, Saylor & Co.,
Inc., a real estate investment bank and a registered investment advisor, which
he founded in 1990. Mr. Chadwick is also the founder of CS Securities, Inc., an
affiliated broker-dealer, where he holds the position of Chariman. Presently,
Mr. Chadwick is a member of the Pension Real Estate Association, and formerly
has served as its Chairman and President as well as a member of its Executive
Committee. Additionally, he is a member of the Editorial Board of The REIT
Journal. From 1985 through 1990, Mr. Chadwick held the position of President
of PSI Institutional Realty Advisors ("PSI"), a subsidiary of Public Storage
Inc., which provided real estate investment management services to pension
funds and other tax-exempt institutional investors. Prior to his work with PSI,
Mr. Chadwick served as a partner at the law firm of Paul, Hastings, Janofsky &
Walker, where he was a member of the Management Committee and Chairman of the
Tax Department. Mr. Chadwick has held important advisory positions with the
U.S. Department of Treasury and the U.S. Department of Labor. Mr. Chadwick
holds a Juris Doctorate degree from Vanderbilt University School of Law and a
bachelor's degree from St. Lawrence University.
Albert T. Adams, 47, has been a partner with the Cleveland law firm of Baker &
Hostletler LLP since 1984, and has served as chief legal counsel for the Company
since 1997. He has been affiliated with the practice since 1977, providing legal
counsel to privately held and publicly owned corporations, in connection with
mergers, acquisitions, the public and private sales of subsidiaries, and other
corporate issues. Mr. Adams holds a Juris Doctorate, Master of Business
Administration and Bachelor of Science degrees from Harvard University. In
addition to the Company's Board of Directors, he also serves as a Director of
American Industrial Property REIT, Associated Estates Realty Corporation,
Boykin Lodging Company, Developers Diversified Realty Corporation and Dairy
Mart Convenience Stores, Inc.
The appointment of Mr. Chadwick and Mr. Adams increases the Company's total
number of Directors to nine.
STOCKHOLDER PROPOSALS
Stockholders who intend to submit proposals to be included in the Company's
proxy materials may do so in compliance with Rule 14a-8 promulgated under the
Securities Exchange Act of 1934. As stated in the Company's proxy statement
dated April 7, 1998, the last date any such proposal will be received by the
Company for inclusion in the Company's proxy material relating to the 1999
Annual Meeting is December 1, 1998. For those stockholder proposals which are
not submitted in accordance with Rule 14a-8, the Company's designated proxies
may exercise their discretionary voting authority for any proposal received
after December 1, 1998 without any discussion of the proposal in the Company's
proxy materials.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
Exhibit 27.1 Financial Data Schedule.
FORWARD LOOKING STATEMENTS
This Form 10-Q contains certain "forward looking statements" which represent the
Company's expectations or beliefs, including, but not limited to, statements
concerning industry performance and the Company's operations, performance,
financial condition, plans, growth and strategies. Any statements contained in
this Form 10-Q which are not statements of historical fact may be deemed to be
forward-looking statements. Without limiting the generality of the foregoing,
words such as "may," "will," "expect," "anticipate," intent," "could," estimate"
or continue" or the negative or other variations
14
<PAGE> 15
thereof or comparable terminology are intended to identify forward-looking
statements. These statements by their nature involve substantial risks and
uncertainties, certain of which are beyond the Company's control, and actual
results may differ materially depending on a variety of important factors many
of which are beyond the control of the Company.
15
<PAGE> 16
SIGNATURES
Pursuant to the requirements 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.
CAPTEC NET LEASE REALTY, INC.
November 16, 1998 By: /s/ Patrick L. Beach
--------------------------------
Patrick L. Beach
Chief Executive Officer and President
November 16, 1998 By: /s/ W. Ross Martin
--------------------------------
W. Ross Martin
Chief Financial Officer and
Executive Vice President
16
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